Truth in trade: how current is the U.S. current account?

• Author: Freeman, Harry L.

It seems like every month when the government issues new data we worry that the current account deficit expands yet again and doesn't seem likely to head back into balance any time soon. Analysts predict that the deficit, which reached $393.4 billion in 2001--and so far in 2002 it looks even worse--have a serious negative impact on the value of the dollar, which ultimately will raise interest rates and slow the U.S. and world economic recoveries.

One of the foremost American experts on balance of payments, Dr. Catherine Mann, put it this way: "The U.S. merchandise trade deficit will hit an annual rate of $350 billion by the end of [1999]. [Note: It hit $427 billion in 2001, according to the Bureau of Economic Analysis.] The current account deficit will reach an historic high of almost 4 percent of GDP. When these deficits hit similar levels in the middle 1980s, the dollar fell by 50 percent and protectionist trade pressures surged." (1) Everyone seems to agree we have something to be worried about.

The view from Europe is no more optimistic. According to Dean Spinanger, Senior Research Fellow at the Kiel Institute for World Economics in Germany, "The large U.S. current account deficit has become a worry for some Europeans. While not an issue as long as the United States was a magnet for capital from around the world, the slowdown in economic activity and in particular the aftermath of the company boardroom scandals seems to be diverting capital elsewhere. Europeans are anxiously viewing the size of the current account gap with some concern."

But before we close the borders to imports, we need to be sure that the data are in fact telling us that something is terribly wrong. Traditionally, the hysteria over the current account deficit (the difference between goods and services exports and imports plus net income from portfolio investment, less certain other direct payments) is derived from worries about the imbalance in our trade in goods and services. But increasingly U.S. companies sell through affiliates rather than traditionally-measured cross-border exports. Sales by affiliates abroad are rarely published.

The operations of foreign affiliates of U.S. firms (at least 10 percent U.S. ownership) produce huge results. Sales through some 23,000 majority- and minority-owned U.S. affiliates of foreign corporations in 1999 (the most recent year for which we have reliable statistics) totaled $2.6 trillion, a very big number by any measure, more...