Question

CA deficits = S – I => lack of domestic savings. Assuming S = Sp + Sg; Sg = T – G => CA = (T-G) + (Sp-I) 11. Using the basic accounting identities for current and capital accounts, one can also think of a current account deficit as a lack of domestic savings. Show this algebraically decomposing US national saving into private saving and public saving. If the U.S. government deficit falls, but the current account deficit does not fall in accordance, what must be happening to private savings? and...What does 'I' stand for; is this investment of some kind or import tariffs

Answer 1

Current account deficit is defined as the negative balance on current account which record the exports and imports of a country for a given period of time i.e. Current account = Exports (X) - Imports(M).

If the current account shows a positive balance, we call it current account surplus. It happens when exports exceed imports. On the other hand, when the balance is negative, i.e when imports exceed exports, it is said to be current account deficit.

We have output/income Y in the economy as:

Y=C+I+G+(X-M) (C = consumption, I=investments, G= Government expenditure)

We can rewrite as:

Y = C+I+G+CA

Y-C-G = I+CA

S = I+CA (because savings S = Y-C-G i.e. income left after consumption by individuals and by government)

S-I = CA

As the domestic savings falls, the balance on current account becomes negative. There is current account deficit. So we can also see a current account deficit as also lack of domestic savings.

We can further decompose domestic savings S as: Private savings+government savings.

• Private savings are savings of private households and private firms.
• Government savings are the excess of revenue of the government over its expenditure. These are also called public savings.

Putting the disaggregated value in CA equation we get,

CA = Sp+Sg - I

CA = Sp + (T-G) - I

If the government deficit falls (means T-G improves), it may be that the private savings start falling so that the overall change in current account deficit is negligible. An example of this is when the government raises income tax. As tax is increased, government revenue increases, so T-G improves but now people are unable to save as much as before. It is because they are left with comparatively less income to spend on the goods and services they were consuming earlier. So if they are to be kept at same consumption level, with lesser disposable income, there has to be a fall in what they were saving earlier.

I stands for investment made by firms in the economy. These investments are financed by total savings in the economy via the financial system.