Transcript DISSERTATION PAPER

DISSERTATION PAPER
Current Account and its
Determinants
in Central and Eastern Europe
Student: Monica Tanu
Professor: Moisa Altar
Objective
 to provide an empirical investigation of the mediumterm determinants of current account for a sample of
Central and East European countries;
 are used cross-section and panel regression
techniques;
 my approach iews current account as the outcome of
variations in structural and macroeconomic
determinants that influence the saving-investment
balance;
 the data set covers a heterogeneous group of Central
and East European countries over a relative medium
time span (1990 - 1999).
Review of the literature
 intertemporal approach to current account - private
saving and investment decisions result from forwardlooking calculation based on expectations;
 the current account balance behaves as a buffer
against transitory shocks in productivity and demand;
 shocks may be:
• country-specific or global (origin)
• transitory or permanent (persistence)
 I take into account how the nature of economic
changes impact on the current account • overtime changes within a country
• the evolution of the world economy
• structural differences across countries
Savings, Investment and the Current Account
GNP t = Y t + r t B t
Y t = C t + G t + I t + NX
t
CA t = NX t + r t B t = GNP t – ( C t + G t +I t)
CA t = S t - I t
CA t = ( B
t+1
+K
t+1
–Bt–Kt)–I
t
=B
t+1
–B
t
Savings, Investment and the Current Account
 viewing the current account as net exports or as the
difference between savings and investment is equivalent
from an accounting perspective;
 movements in interest rate, exchange rates, prices and
income will ensure that the decision to export and
import and to save and to invest, made at
microeconomic level will match in the aggregate;
 defining the current account as the difference between
savings and investment is more appropriate when trying
to explain enduring patterns in international capital flow.
Current account sustainability
 the current account balance is an important and
intriguing measure of macroeconomic performance
for economies in transition;
 it is often difficult to distinguish between current
account deficits that are the consequence of growth
inducing capital inflows and current account deficits
that result in debt accumulation that cannot be
sustained;
 most of transition economies experienced large
current account deficits due to decline in output and
financing by official international assistance and
borrowing.
Criteria for assessing sustainability
 a non-increasing foreign debt to GDP ratio;
 the country’s willingness to pay and the creditors
willingness to lend;
 no external sector crises occurs (in a situation where
current macroeconomic conditions continue and are
no changes in macroeconomic policy)
exchange rate crises
foreign debt crises
 “close attention should be paid to any current
account deficit in excess of 5% of GDP, particularly if
it is financed in a way that could lead to rapid
reversals” (Lawrence Summers)
Sources of current account deficit
 a fall in savings or an increase in investment
 running a current account deficit involves borrowing
from abroad which is less dangerous if it is financing
new investment rather than consumption
 large current account deficits may be more sustainable if
economic growth is higher
 a current account imbalance can be due to a fall in
private savings
public savings (higher budget deficits)
CA in economic policymaking
 the essence of the policymaker’s problem is to
determine a sustainable set of economic policies:
reasonable economic growth performance
price stability
a sustainable fiscal position
low unemployment
a sustainable current account position
CA in economic policymaking
Econometric methodology
 I use an panel of 140 annual observations from 5
Central and East European countries
 main sources are World Bank - World Development
Indicators 2001 - and IMF- International Financial
Statistics
 I work with time series and cross-country data
 I identify and differentiate within-country and crosscountry effects
 the model considers inertial properties in the current
account deficit by allowing for an independent effect
from its lagged value
Econometric methodology
1.
Cross-country effects
 country-specific factors are not controlled for
 y i t = β 1 y i t-1 + β 2 X i t + ε i t
2.
Within-country effects
 this model allow me to de-emphasize the crosssectional variance in favor of its time-series
counterpart
 akin to the fixed-effects estimator
 y i t = β 1 y i t-1 + β 2 X i t + η i + ε i t
Econometric methodology
Methods of estimation:
 Seemingly Unrelated Regression:
residuals are cross-section heteroskedastic
residuals are contemporaneously correlated
 Cross section weights
residuals are cross-section heteroskedastic
 Pooled least squares
Exogenous variables
Persistence
CA lagged 1 period
Internal Condition
Domestic Output Growth Rate (annual %)
Savings (as % of GDP)
Investment (as % of GDP)
Financial Deepening (M2/GDP)
External Condition
Openess (as % of GDP)
Net Foreign Assets (as % of GDP)
Real Effective Exchange Rate (in logs)
Exogenous variables
Evolution of the World Economy
Industrialized Output Growth Rate (annual %)
World Real Interest Rate
Additional Financial Variables
Youth dependency ratio
Old dependency ratio
Foreign Direct Investment (as % of GDP)
Relative GDP per capita
External debt (as % of GDP)
Cross-country effects
Persistence
 the coefficient is positive and significant (0.27)
 moderate persistence of transitory shocks
Domestic output growth rate
 the coefficient is negative and significant (-0.12)
 GDP implications on savings and investment
Cross-country effects
Savings and Investment
 both have significant coefficient across all considered
estimators ( 0.74 and -0.57)
Financial Deepening
 a potentially important determinant of savings
 proxied by the ratio of M2 to GDP
 a positive effect on the current account, but it is not
significant (0.007)
Cross-country effects
Openness
 the degree of openness - make a country attractive to foreign
capital
 more open economies generate foreign exchange earnings
through exports - a better ability to service external debt
 negative relationship with the current account (-0.008)
Net Foreign Assets
 countries that have run current account deficits - countries with
better access to capital markets - are favored by international
investors for a variety of reasons
 negative relationship (-0.03)
Cross-country effects
Real Effective Exchange Rate
 significant positive relationship (-0.015)
 I study the delayed effects of REER on the current
account
 the net effect (adding the coefficients on
contemporaneous and lagged REER) is similar to the
coefficient of the REER in the core specification
Cross-country effects
Output Growth Rate of Industrialized Country
 positive and significant coefficient (1.17)
 an increase in growth rate ->a rise in the demand for
the exports and increase capital flow between
industrialized countries
International Real Interest Rate
 positive coefficient (0.15)
 net debtor countries widen their demand for intl capital
in response to interest rate reductions.
Cross-country effects
Age dependency ratio
 positive coefficient (0.16 - Youth, 0.22 - Old)
 national savings is not the channel through which
dependency ratio affect current account positions.
Foreign Direct Investment
 negative and significant coefficient (-0.06)
 higher rates of capital accumulation and growth
 facilitate the transfer of managerial and technological
knowhow
Cross-country effects
Relative GDP per capita
 negative and significant coefficient (-0.03)
 doesn’t sustained the stage of development hypothesis
External debt
 positive coefficient (0.01)
 countries with larger external debt tend to have smaller
current account deficits because of rhe external
financing constraints.