Determinants of Current Account Deficits in Developing Countries

Abstract

The objective of this paper is to provide an exhaustive characterization of the empirical linkage between current account deficits and a broad set of economic variables proposed by the literature. In order to accomplish this task, we complement and extend previous empirical research by (1) using a large and consistent macroeconomic data set on public and private domestic saving, external saving, and other national income variables, (2) focusing on developing economies by drawing on a panel data set consisting of 44 developing countries and annual information for the period 1966-95, (3) adopting a reduced-form approach, instead of holding to a particular structural model, (4) developing a simple econometric model to distinguish between transitory and permanent effects, and (5) employing a class of estimators that controls for the problems of simultaneity and reverse causation. Some of our findings are: (i) current account deficits are moderately persistent, (ii) a rise in domestic output growth generates a larger current account deficit; (iii) transitory increases in either public or private saving have a positive effect on the current account, and, in contrast, their permanent changes have insignificant effects, (iv) temporary shocks that increase the terms of trade or appreciate the real exchange rate are linked with higher current account deficits, but their permanent changes do not have significant effects, and (v) either higher growth rates in industrialized economies or larger international interest rates reduce the current account deficit in developing economies.

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