OPINIONPeople Daily

Effects of balance of trade on economies vary

Michael Armstrong

The current account balance is primarily the difference between a country’s total exports and imports of goods and services, usually measured as a share of GDP. Surpluses tend to be reported as “good” or “healthy”, while deficits are often regarded as “bad”.

The importance of an economy’s balance of payments can never be overstated as it reveals various aspects of a country’s international economic position and presents the international financial position of the country.

In the case of a developing country like Kenya, the balance of payments shows how much its economic development depends on financial assistance from developed countries.

The Kenyan economy is currently on a rebound. According to a World Bank report, real GDP growth is estimated to rise gradually to six per cent by 2020, thanks to improved rains, better business sentiment and easing of political uncertainty.

This development curve lays a solid basis within which the government could accelerate poverty reduction. However, the downside risks arise from reduced private sector credit triggered by the capping of interest rates which could curtail private investment.

This, coupled with an uptick in oil prices and tightening global financial markets could also exert undue pressures to Kenya’s current account balance, which is currently in deficit.

In the recent economic crises in Turkey and Argentina, there was much talk about how current account deficits played a big part in their problems. Nothing unusual in that, of course: many economic crises are associated with such deficits. It’s one reason why the business press focuses on the current account as a key measures of a country’s macroeconomic performance.

While the deficits in Turkey and Argentina certainly did cause problems, this way of looking at current accounts is fundamentally flawed. Exports not only refer to the buying and selling of products by a country, but also to the amount of capital flowing in and out to finance government and business spending.

When a country has a current account surplus, it is exporting capital to the rest of the world. Consequently, it is a net lender. Countries with deficits like Kenya are the opposite: it imports capital from the rest of the world and it is a net borrower.

Being a net borrower or net lender is not usually bad in itself – it depends on what is happening to the money. The Australian dollar, for example, has no special status and the country has been running sizeable deficits since the 1980s.

Australia finances this by selling assets to foreigners, such as wealthy Chinese families buying apartments in Sydney. Australia has enough space to build more real estate to keep financing its imports.

In some situations, running excessive imbalances over a prolonged period of time might be problematic. Yet surpluses can be troublesome, too. The world’s biggest surplus countries in recent years have been China, Germany and Japan.

China started running a massive surplus in excess of eight per cent in the early 2000s after becoming more integrated with the world economy and exporting goods heavily on the back of low manufacturing costs. China came under international pressure for helping to cause global imbalances. While China’s trading position is almost being balanced, it still has a substantial surplus with the US.

Current account deficits are more dangerous if the inflow of capital does not represent productive long-term investments, but rather short-term “hot money”. Capital flows can rapidly reverse as foreign lenders abruptly start withdrawing their money.

This can make the country’s currency plummet, culminating in a financial crisis if banks, businesses and even consumers have been borrowing in foreign currency and the repayments are suddenly beyond their reach.

This is what happened in Argentina and Turkey this year. Turkey’s persistent deficits were a sign of the country’s reliance on foreign borrowing to fuel its domestic consumption boom under the current regime, which came unstuck as the West called time on quantitative easing and started raising interest rates.

At any rate, it’s important to be more accurate about current account imbalances. Large and continuous deficits or surpluses can either be totally nonthreatening or the result of some underlying economic problem. — The writer is Institute of Chartered Accountants in England and Wales Regional Director for Middle East, Africa and South Asia

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