December 16, 2005
One-time insurance payments for Hurricanes Katrina and Rita mask continuing decay in the U.S. current account deficit
The Bureau of Economic Analysis (BEA) announced today that the current account deficit (the broadest measure of the U.S. balance of trade in goods, services, and payments to the rest of the world) unexpectedly decreased to $783.3 billion, at an annual rate, in the third quarter of 2005, a decrease of $7.8 billion over the previous quarter. The U.S. deficit decreased to 6.2% of GDP, but this improvement in the deficit was entirely due to unexpected inflows of insurance payments and donations following Hurricanes Katrina and Rita. Without those payments, the deficit would have increased to more than $820 billion. The deficit is expected to increase in the future due to growing demand for petroleum products and consumer goods, and declining U.S. net investment income.
One of the most striking features of this report was revised data showed that net income from U.S. investments in the second quarter was negative for the first time in at least 45 years. It improved in the third quarter due to unusual variation in payments on foreign direct investment payments. However, rapidly growing payments to foreign holders of government securities will continue to exert downward pressure on net income from all U.S. investments in the future.
Net investment income declined sharply from a surplus of $51 billion at an annual rate in the third quarter of 2003 to a deficit of $0.4 billion in the second quarter of 2005 and then improved to a surplus of $8.1 billion in the third quarter. The long-run decline in net investment income is the result of sustained expansion of U.S. government payments to foreign holders of government securities, which have increased $47 billion since the third quarter of 2003, as shown in the figure below. Private payments (net), such as interest payments on corporate debt, have also increased $12 billion in this period.
Government interest payments rose from $74 billion in the third quarter of 2003 to $120 billion in the last quarter (at an annual rate). These payments are up sharply for two reasons. First, interest rates have been rising for the last two years. Second, foreign holdings of U.S. treasury securities have been growing rapidly.
The current account deficit indicates that the United States is consuming about 6% more than it is producing. It needs to import about $2.2 billion per day in foreign capital to finance this deficit. As a result, the net U.S. international investment deficit reached $2.5 trillion in 2004. Foreign central banks and other private investors held $2.1 trillion in U.S. treasury securities alone at the end of the third quarter. Foreign central banks held the sizeable majority (63%) of that government debt.
The deficit on goods and services increased $37 billion, at an annual rate. Present trends in the current account deficit keep it firmly on track to increase by at least $100 billion (15%) in 2005 over the record $668 billion deficit in 2004. The 13% decline in the real value of the dollar since February 2002, primarily against the Euro, has failed to stem the increase in the current account deficit, which has increased by two percentage points as a share of real GDP since 2002. To make matters worse, the dollar has increased 3% in value in the past year.
As long as the U.S. maintains sizeable current account deficits, net borrowing and payments to foreign investors will continue to grow. The standard of living of future generations will be depressed by the need to pay for today’s heavy borrowing from abroad.
For more information about the current account deficit and the costs of foreign borrowing, see the December 2004 Issue Brief, Debt and the Dollar, by EPI economist L. Josh Bivens.
This Current Account Picture was written by EPI economist Robert Scott, with research assistance from David Ratner.
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