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There is a tendency to think balance of payments current-account surpluses are good and deficits bad. Surely a country exporting more than it imports must have a competitive advantage?

But there is no evidence that nations running persistent surpluses outperform those running deficits. Over the last four decades, for example, Australia, which has persistent deficits, has grown more quickly than Germany, which reports regular surpluses, for example.

What matters is not whether surpluses or deficits exist, but why.

International ‘imbalances’ have risen thanks to increased global financial flows: trade barriers have actually come down. Before the 1970s, most countries had relatively ‘closed’ capital accounts and domestic savers funded domestic investment. Abolishing exchange and capital controls allowed those savers to seek better prospects abroad. Global ‘imbalances’ thus began to rise.

Some countries ended up running persistent surpluses. Japan and Germany invested overseas because of ageing populations. China’s surpluses partly reflected a fear that fully opening its capital account could allow a repeat of the instability witnessed during the 1997 Asian crisis: Beijing preferred to channel savings into foreign-exchange reserves.

Others nations ran deficits. They became the norm for the US from the 1980s, as they did in the UK once the North Sea oil bonanza ended. Remarkably, Australia’s last recorded quarterly current-account surplus was in 1975.

But have the surplus nations outperformed deficit countries economically?

Since 1980, Japan and the UK saw the biggest increases in living standards while Germany and New Zealand saw the smallest. Yet Japan and Germany are surplus countries, the UK and New Zealand have deficits.

Analysis of a wide range of developed and emerging economies provides no evidence that surplus nations outperform deficit nations.

Deficits can become problematic, but typically only when there is a sudden deterioration in the current-account position. Rapidly widening deficits were followed by deep recessions in Mexico and Thailand in the mid-1990s, Spain and Greece before the global financial crisis, and the UK in the late-1980s and again ahead of the 2008 crisis. The fall in Japan’s surplus in the late-1980s foreshadowed its ‘lost decades’.

There are exceptions though. There was no adverse impact when the US deficit widened in the early-1980s or from the 1990s.

President Trump claims the deficit means US jobs and wealth are being given to other countries. But his country has the fortunate ability to tap the world’s excess savings – through capital inflows – almost without limit, thanks to the dollar’s reserve currency status.

That’s not to say the US deficit doesn’t matter at all. Rather than blaming it on other countries, however, it’s more useful to consider the long-term consequences for the US of being persistently indebted to the rest of the world.

The dollar’s reserve-currency status could eventually be undermined. Or, as China’s economy expands, it may eventually want to diversify away from liquid US dollar paper into hard US assets.

But how would Washington react if more and more of ‘capitalist America’ became owned by ‘Communist China’?

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