The U.S. current-account deficit--the combined balances on trade in goods and services, income, and net unilateral current transfers--increased to $224.9 billion (preliminary) in the fourth quarter of 2005 from $185.4 billion (revised) in the third quarter. The increase was mostly accounted for by increases in net unilateral current transfers and in the deficit on goods. In addition, the balance on income shifted to a deficit from a surplus, and the surplus on services decreased.
From CBS MarketWatch:
The U.S. current account deficit widened by 21.3% to a record $224.9 billion in the fourth quarter, the Commerce Department reported Tuesday.
The deficit amounted to 7.0% of the nation's gross domestic product, also a record.
For all of 2005, the current account deficit grew to a record $804.9 billion, totaling a record 6.4% of GDP. It's the ninth annual record in the past ten years.
From Bloomberg:
The burgeoning gap threatens to undermine the dollar and foster higher interest rates should foreign investors tire of buying U.S. stocks and bonds, economists said. Rising interest rates and healthier economies abroad raise the possibility that investment may flow to other countries.
``It's a little, ticking time bomb,'' Michael Gregory, a senior economist at BMO Nesbitt Burns in Toronto, said before the report. ``It may get increasingly hard to get those inflows when opportunities improve elsewhere.''
The U.S. needs to attract about $2.5 billion a day to fund the gap and keep the value of the dollar steady.
Even taking into account a growing economy, the deficit remains daunting. It equaled 7 percent of the nation's gross domestic product in the fourth quarter and 6.5 percent of GDP for all 2005, both all-time highs. The deficit set a record in seven of the last eight years.
So, what does all this mean?
A trade deficit means the US consumes more than it produces. We don't make enough stuff in the US to buy, so we seek goods from other countries to purchase.
The next question is "where do we get the money to buy this stuff?" Well, the US doesn't have any savings. So the extra money comes from debt - the foreign inflows of capital mentioned above. Foreigners send money into the US for a variety of reasons - investments, loans etc... So long as foreigners are willing to lend us money, everything is fine. However, suppose they either stop sending the money overseas or start to demand a higher interest rate to compensate them for increase risk (for example - a record trade deficit?). That's when things will start to get dicey.
For the last 4 years, the US economy has benefited from stronger economic growth than other regions. However, Japan recently announced they grew at an annual rate of 5.5% in the fourth quarter of 2005, indicating their period of economic malaise may well be over. This will make Japan more attractive and perhaps start to divert foreign capital flows away from the US and towards Japan. There are also rumblings in Europe - largely the result of statements from the EU Central bank.
The Bush administration has responded to this problem with pure political spin. Their first move was to declare the trade deficit was a sign of US strength. Because the US was such a wonderful country, foreigners were willing to send money to us. The administration has also taken a "blame the other guy" approach, telling other countries they needed to pick-up their domestic rates of economic growth in order to increase respective domestic demand. Finally, the latest economic report to the President simply ignores the issue of the trade deficit, instead stating the US can continue to receive strong international capital flows so long as the US economy uses these assets productively. In essence, this is economic fantasyland. There is no mention in the report about what would happen as other countries started to grow at competitive growth rates to the US. Nor is there any mention about the possibility of foreign lenders starting to demand higher US interest rates to compensate them for increased investment risk. There is also no mention of what will happen as interest rates in comparable economies start to rise. In short, the Council of Economic Advisors doesn't want to give Bush any bad news. See no evil, hear no evil is the predominant mood.
So, the US economy remains on an economic precipice, exposed to risk from a variety of external factors that could seriously hurt the economy if they turn against US fortunes.