Let me state the negative effects of each possibility:

1) On these loans from foreigners, US Government will be paying interest, a transfer of wealth. Now if the borrowing costs are low as today, this may not be a significant issue but when the debt level increases to a higher point obviously borrowing costs would be high which will increase the wealth transfer.

2) The sale of capital goods is basically itself transfer of production capacity. Imagine a rich person selling its assets to cover its debts and loosing the reveneus generated by them. This is basically loss of wealth again.

3) Foreign investment looks like beneficial for host country and it is indeed so but would we prefer workers in foreignly owned companies or the owner of the company itself? Which one will give us more wealth? Given that foreign investments are done properly, this will cause further wealth transfer.

Obviously no one is going to hold onto paper US cash in long terms as this is not financially sound decision.

Trade and account deficits are not the problem itself. They are the indication of the systemic problems in an economy. As the professor indicated, it is the individuals decisions lead to this situation but this does not mean that government didn’t induce these decisions. By keeping interest rates low and supporting consumption, US goverment is the reason why individuals spend rather than saving.

The outcome of this situation would be the loss of wealth generating capacity of US hence the future US generations would be poorer just like Chinese today. They will have less overall income by either with lower wages (as in China today) or unemployment.

Every year, US is making Chinese economy stronger just as they did for Japanese and German. China is increasing its production capacity and technology. The latter is actually the biggest threat as US cannot employ high tech jobs without competition as today. This is the case for Germany and Japan but they are small nations comparable to China and they were never able to create a critical mass to compete against US in grand scheme. Actually this is the reason why Germany formed EU. Consider Airbus competing against Boeing and causing loss of high paid jobs in US.

Btw, we don’t measure account deficits of California but I think we should. At the end, California will feel the account deficits in one way or another. You can simply see that from the property values in California.

Ignoring account deficits is just as dangerous as ignoring deficit spending in a household. In fact, the latter one is the main reason for the previous which professor pointed out correctly.

Bertan ARI

What economic school did Professor David Henderson go to?

The Balance of Payments (BOP) is one of the key economic indicators of a nation’s economy. The deficit in the Current Account must be counter-balanced by an injection in the Capital Account.

Ignoring the complexity of the components that make up the Current and Capital Accounts, the simplified BOP equation states:

Balance of Payments = Current Account ± Capital Account = 0.

The equation provides a simple guide to ensure that the international monetary system is not adversely affected by one country’s inability to pay its liabilities owed to other countries.

Most countries which are formal members to the IMF or the OECD group use the IMF Balance of Payments Manual as a guide to calculate their figures. The international standard for this framework is the System of National Accounts, which encompasses transactions and other financial flows affecting the level of assets and liabilities from one accounting period to another. The figures for the BOP are derived from the differences between inward and outward transactions of a nation’s economy.

The BOP represents the sum of economic transactions with the home country and the rest of the world. These transactions include exports and imports of goods and services, inward and outward income flows earnt from investments, inward and outward financial flows, such as investment in shares, debt securities and loans, and all other transfers such as foreign aid and migrant capital.

The equation means that in order to maintain a balanced position any short fall incurred by over spending in the Current Account on items like goods and services is counter balanced by an equivalent injection of money via the Capital Account. The equation also applies in reverse. If one country earns more money than it spends it will accumulate reserves of foreign currency in its Capital Account.