Over the last 12 months, the 16-member area recorded a current account deficit of €106.5 billion, 1.2% of the estimated gross domestic product.
The ECB also said net portfolio flows reversed in August, as reviving equity and credit markets attracted a net €57.3 billion. In July, the area had net portfolio outflows of €11.7 billion, revised from an initial estimate of €23.0 billion.
Euro-zone equity markets received net inflows of €40.7 billion, while credit markets saw inflows of €12.7 billion. The overwhelming part of the latter, €11.5 billion went into money-market instruments, while only €1.3 billion went into bonds. The financial account data aren't adjusted for seasonal effects
COMMENTARY 3
Title: Euro Zone Posts Current Account Deficit
Source: Wall Street Journal
Page number: N/A
Date of publication: 22nd October 2009
Date of commentary written on: 1st November 2009
Section of the syllabus: International Trade (4.4, 4.5)
Word count: 746
Current account is a measure of the flows of funds from trade in goods and services, plus other income flows. The European current account balance has swung into a deficit after a recorded surplus in July with decreasing international demand for European goods. The appreciation of Euro (€) due to high investments and rise import has further worsened the current account.
Balance of trade is the difference between the value of visible exports and the value of visible imports. Therefore a deficit trade balance means that the value of total imports exceeds the value of total exports. In the case of Euro-Zone “Exports fell 2.7% to €105.5 billion while imports edged up 0.5% to €99.5 billion” leading to a deficit of €6 billion. Since exports are falling at a higher pace than imports, and imports are increasing at a higher pace, Euro-zone’s balance of trade is seeing further deterioration.
The European Single currency Euro (€) is the official currency for 16 states thus, Euro zone has suffered a total current account deficit of €106.5 billion over 12months. As being members of EU the 16 countries are not able to depreciate or devaluate their currency to ease the current account, also they have to adopt the interest rate set by ECB. Germany, which accounts for over half of total euro-zone exports, is at loss being a member of euro-zone because even after having high exports it accounts a current deficit.
AD= C+ I+G+(X-M), with the decrease in exports and increase in imports Aggregate demand decreases. Aggregate Demand shifts from AD to AD1.
The strong Euro (appreciation) has also led to current account deficit. Appreciation is the rise in the value of a domestic currency in terms of a foreign currency.
"Euro-zone exporters have learned to live with a strong euro over the last years ... although of course it will start to hurt a bit". In the short run imports might increase however in long run it would encourage the domestic producers to be efficient and that will result in economic productivity.
If a countries current account is in deficit thus, capital account (buying and selling of assets between countries) will have to be surplus in order to balance out the Balance of Payment. Balance of Payments is an account of countries transactions with the rest of the world.
The Euro zone’s current account is in deficit therefore the capital account showed a surplus. “The ECB also said net portfolio flows reversed in August, as reviving equity and credit markets attracted a net €57.3 billion.” The strong Euro (Fig 2) encouraged investment into the country; foreign investors were attracted to equity and credit markets. This €57.3 billion inflow into the capital helped funding the current account deficit. Rise in investment is considered a gain in the economy as it increases employment; however, European nations have to be careful as it may be a threat to economic sovereignty.
As of now recovery is possible as the current account deficit is only 1.2% of the total GDP however the government should take corrective measures. To overcome the current account deficit the European government could adopt two policies.
Expenditure switching policies: are policies to switch the expenditure of domestic consumers away from imports towards domestically produces goods.
Examples-
Depreciation of currency: Export would become less expensive and imports would become expensive. There would be improvement in current account as export revenue rises and import expenditure decreases. However, current account will come out of deficit only if it meets the Marshall-Lerner condition of elasticity: PED export + PED import > 1. “The euro rose above $1.50 but fell back slightly recently trading at $1.4950.” The Euro has shown a slight depreciation in its currency which is good news for the economy.
Protectionist Measures: Imposing protection on Imports could increase domestic production. However this is not a long term solution. If EU imposes protectionism its relations with other countries might be affected.
Expenditure-Reducing Policies: are policies implemented by the government that attempt to reduce overall expenditure in the economy, so shifting AD to the left.
Deflationary Fiscal Policy: This policy would increase the direct tax on people. There is likely to be a fall in domestic employment due to this policy.
Deflationary Monetary Policy: Currently the ECB is following this policy, increasing interest rates thus increasing capital inflow. However, the Euro Zone’s current account deficit is not set off by this because “the financial account data aren't adjusted for seasonal effects”.
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