Working Paper: NBER ID: w18380
Authors: C. Bora Durdu; Enrique G. Mendoza; Marco E. Terrones
Abstract: We test the hypothesis that net foreign asset positions are consistent with external solvency and examine the dynamics of external adjustment using data for 50 countries over the 1970-2006 period. Our analysis adapts Bohn's (2007) error-correction reaction function approach--which tests for a negative long-run relationship between net exports (NX) and net foreign assets (NFA) as a sufficiency condition for the intertemporal budget constraint to hold--to a dynamic panel framework. Pooled Mean Group and Mean Group error-correction estimation yield evidence of a statistically significant, negative response of NX to NFA. Moreover, we cannot reject the hypothesis that the response is largely homogeneous across countries. Our sensitivity analysis shows that the countries with relatively weaker fundamentals need to respond more strongly to the changes in NFA to keep their NFAs on a sustainable path.
Keywords: External Solvency; Net Foreign Assets; Net Exports; Dynamic Panel
JEL Codes: E66; F32; F41
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Net Foreign Assets (NFA) (F21) | Net Exports (NX) (F14) |
| Net Exports (NX) (F14) | Net Foreign Assets (NFA) (F21) |
| Net Foreign Assets (NFA) (F21) | Intertemporal Budget Constraint (IBC) (D15) |
| Net Exports (NX) (F14) | Intertemporal Budget Constraint (IBC) (D15) |