Working Paper: CEPR ID: DP7134
Authors: Giancarlo Corsetti; Panagiotis T.H. Konstantinou
Abstract: The joint dynamics of US net output, consumption, and (valuation-adjusted) foreign assets and liabilities, characterized empirically following Lettau and Ludvigson [2004], is shown to be strikingly consistent with current account theory. While US consumption is virtually insulated from transitory shocks, these contribute considerably to the variation in net output and, even more so, in gross foreign positions, arguably smoothing temporary variations in returns. A single permanent shock ? naturally interpreted as a productivity shock ? raises consumption swiftly while causing net output to adjust only gradually. This leads to persistent, procyclical external deficits but, interestingly, moves gross assets and liabilities in the same direction.
Keywords: Consumption Smoothing; Current Account; International Adjustment Mechanism; Intertemporal Approach to the Current Account; Net Foreign Wealth; Permanent-Transitory Decomposition
JEL Codes: C32; E21; F32; F41
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| transitory shocks (E32) | foreign borrowing (F34) |
| permanent shocks (E32) | consumption (E21) |
| permanent shock (productivity shock) (D29) | consumption (E21) |
| permanent shock (productivity shock) (D29) | net output (D85) |
| net output (D85) | current account (F32) |
| transitory shocks (E32) | gross assets (G32) |
| transitory shocks (E32) | gross liabilities (G32) |
| gross assets (G32) | gross liabilities (G32) |
| transitory shocks (E32) | fluctuations in gross foreign positions (F32) |