In addition to jump-starting America’s export machine, a depreciating dollar revealed another silver lining in a report released by the Commerce Department Friday.
The U.S. international debt status would generally rise by the amount of its trade-related current-account deficit. Given that America’s current-account deficit reached nearly $750 billion last year, the deterioration in its international debt status could have been far more severe than the $216 billion reported Friday.
Two factors, which have been ongoing for several years, significantly softened the increase in America’s international debt last year.
“The dollar depreciated about 10 percent last year,” William R. Cline of the Peter G. Peterson Institute for International Economics explained, “and that had the beneficial effect of raising the value of U.S. investments in foreign corporate stocks by nearly $450 billion.”
For example, if a U.S. company’s investments in a Germany-based subsidiary and in French equities totaled $33 million at the end of 2006 and if the dollar depreciated by 10 percent against the euro during 2007, the dollar value of those investments would then rise by 10 percent to $36.3 million at the end of 2007.
The United States enjoyed a second beneficial effect because foreign equity markets increased more in 2007 than U.S. equity markets did, Mr. Cline said. That generated a U.S. net gain of $200 billion from the relatively larger increase in foreign stock prices for U.S.-owned assets abroad, he said.
Since 1980, when America was the world’s largest creditor nation with $360 billion in net foreign assets, it has evolved into the world’s largest debtor nation. At the end of 2007, America’s net foreign liabilities approached $2.5 trillion. But the deterioration could have been much worse.
“There has been a cumulative current-account deficit of $3.9 trillion since the end of 2001,” Mr. Cline said, but America’s international net liabilities have increased by only $600 billion since then. “We’ve had a $3.3 trillion free lunch,” he said. “And the question is this: Is the free lunch about to end?”
So far this year the dollar has depreciated 3 percent against major currencies, compared to 10 percent last year. If overseas stock prices decline as much as U.S. stock prices, then that beneficial effect could be reversed and America’s international debt status could deteriorate by an amount close to the 2008 projected current-account deficit of $750 billion, Mr. Cline explained.
Brad Setser, a Council on Foreign Relations fellow on geoeconomics who writes the popular “Follow the Money” blog, told The Washington Times he was “worried by the extent the U.S. has come to rely on central banks and sovereign funds to finance its deficit.” Foreign central banks and sovereign funds increased their claims on the United States by more than $500 billion last year.
There has been “a significant reduction of private actors to finance U.S. deficits,” Mr. Setser said. “Because U.S. financial assets have underperformed financial assets abroad, private investors are now less inclined to invest in the U.S. So the United States must rely on foreign central banks to sustain its deficit,” Mr. Setser said. There has been “a significant reduction in the willingness of private actors to finance U.S. deficits after the subprime crisis.”
“The extent to which the central banks and sovereign funds of China, Russia, Saudi Arabia and other Gulf states are now providing financing to help to sustain large [trade-related] current-account deficits is hard to overstate,” Mr. Setser said.
“To avoid a ’hard landing’ after private demand for U.S. assets fell, the United States has had to rely on financing from a relatively small set of countries,” he said.
Noting that the U.S. current-account deficit appears to be heading toward stabilization at 4 percent of gross domestic product (GDP), Mr. Cline said, “We are on a trajectory over the long term that is worrisome, although the trend is not as bad as it was” a few years ago. Nevertheless, Mr. Cline said, the current trend would likely raise America’s international net liabilities to 40 percent of GDP by 2020, a “critical threshold.”
At the end of 2007, America’s net liabilities to the rest of the world totaled nearly $2.5 trillion, nearly 18 percent of GDP.
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