5/1/2018 Current Account = Savings – Investment | Economics Help

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Current Account = Savings – Investment

 Tejvan Pettinger  December 3, 2017 (https://www.economicshelp.org/blog/6411/economics/current-account-savings-investment/)  economics
(https://www.economicshelp.org/blog/category/economics/)

Readers Question: I’m currently reading ‘Crisis Economics (https://www.amazon.co.uk/gp/product/0141045930/ref=as_li_ss_tl?

ie=UTF8&camp=1634&creative=19450&creativeASIN=0141045930&linkCode=as2&tag=richardpettin-21)’ (by N.Roubini) at the moment and I don’t get
some stu in the book. When it was talking about the current account balance, the book referred to it as a balance between national savings and
national investment, but I don’t quite understand this.

The Current account (https://www.economicshelp.org/dictionary/c/current-account-bop.html) on the Balance of payments measures the balance
of trade in goods and services.

A de cit implies we import more goods and services than we export.

To be more precise, the current account equals:

Trade in goods (visible balance)

Trade in services (Invisible Balance) e.g. insurance and services
Investment incomes e.g. dividends, interest and migrants remittances from abroad
Net transfers – e.g. International aid

The current account is essentially exports – imports (+net international investment balance)

It is also worth noting that if we have a current account de cit, in a oating exchange rate this must be balanced by a surplus on the
nancial/capital account.

(https://www.economicshelp.org/wp-content/uploads/2017/09/current-account-balance-of-payments.png)

https://www.economicshelp.org/blog/6411/economics/current-account-savings-investment/ 1/5
5/1/2018 Current Account = Savings – Investment | Economics Help

Why do economists say that the current account also equals saving – investment?
Firstly, it is worth remembering that in a closed economy, we assume that saving = investment. (S=I). For a rm to invest, it needs savings to be
able to nance the investment. See: Saving and investment (https://www.economicshelp.org/blog/196/economics/saving-investment/)

Economists have noted that if domestic saving are lower than domestic investment, we will see a current account de cit. Why?

Before we look at a more mathematical approach, it is helpful to think of a country which experienced a rapid fall in savings, but investment
levels stay the same. A fall in savings means people are spending more (higher consumption) therefore, this would tend to suck in imports as we
buy goods and services from abroad.

But, also, if domestic savings fall – how will the domestic investment be nanced? The investment must be nanced by capital in ows from
abroad.

A country like Japan has had a glut of saving over investment. This saving has tended to go abroad looking for more pro table investment.
Therefore, Japan has had a de cit on capital ows, and a corresponding surplus on the current account.

The US, by contrast, has often had a level of investment greater than savings. This has been nanced by capital in ows and a current account
de cit.

Savings Investment and Current Account

GNP (Gross National Product) = Gross Domestic Product (GDP 0r Y) + Net income from abroad (R)
GNP = Y+R

Net income from abroad can be negative if foreigners own more assets in the UK, – income from these assets will be sent abroad leading to
negative net income from abroad.

Equilibrium in National Income –  GDP (Y) involves this formula

GDP (Y) = C+I+G+ (X-M)

(C= consumption, I= Investment, G=government spending) (X-M) = net demand from abroad.)

The Current account (CA)  is also conventionally de ned as (X-M) (value of exports – value of imports) + Net income from abroad. (R)

CA = (X-M) + (R)

Therefore,

CA = GNP – (C+I+G)

The di erence between GNP and (C+G) is the level of savings.

As a result, the current account is also equal to the di erence between savings and investment

CA = S-I.

From an accounting perspective, it doesn’t make any di erence whether we see the current account as

1. Net exports + net investment incomes

2. Savings – investment

Suppose domestic saving is insu cient to nance Domestic investment. How will the domestic investment be nanced?

It will be nanced by investment from abroad. These capital ows are a credit on the capital account and will be matched by a de cit on the
current account.

Conversely, if a country has excess savings, these savings will go abroad to nance investment in other countries. This will give a negative
balance on the capital account, and enable a current account surplus.

Example of relationship between savings, investment and current account in the US

https://www.economicshelp.org/blog/6411/economics/current-account-savings-investment/ 2/5
5/1/2018 Current Account = Savings – Investment | Economics Help

Source: New England Economic Review, 2000

(https://docs.google.com/viewer?
a=v&q=cache:EM74WwQZMYsJ:www.bos.frb.org/economic/neer/neer2000/neer400a.pdf+&hl=en&gl=uk&pid
7BsxpuYNWg4Ok5E3Fm1ocDwAXKlcpCHGs_LEwVV9CoEoi-
NeukM552X2ppDNfnTAZkJGPMx0KWIgfq2mnwty8p5JgV&sig=AHIEtbQ3gceWdPkd41Y61sIspLiTH-
YTxg)

Related

UK Balance of Payments (https://www.economicshelp.org/blog/5776/trade/uk-balance-of-payments/)

This entry was posted in economics (https://www.economicshelp.org/blog/category/economics/) and tagged current account (https://www.economicshelp.org/blog/tag/current-
account/). Bookmark the permalink (https://www.economicshelp.org/blog/6411/economics/current-account-savings-investment/).

← State Intervention and Market Failure Factors a ecting Current Account De cit →

(https://www.economicshelp.org/blog/1026/economics/state-intervention-and-market-failure/) (https://www.economicshelp.org/blog/2674/economics/factors-a ecting-current-account-

de cit/)

4 thoughts on “Current Account = Savings – Investment”

engin (http://www.temelispanyolca.com) says: December 6, 2012 at 4:30 pm
(https://www.economicshelp.org/blog/6411/economics/current-account-
savings-investment/#comment-66444)

Suppose domestic saving is insu cient to nance Domestic investment. How will the domestic investment be nanced?

It will be nanced by investment from abroad. These capital ows are a credit on the capital account and will be matched by a de cit on the
current account.

I don’t understand,
“””””These capital ows are a credit on the capital account and will be matched by a de cit on the current account.”””””

Only I will take credit for my investment. why will be matched by de cit on the current account??????

Reply (https://www.economicshelp.org/blog/6411/economics/current-account-savings-investment/?replytocom=66444#respond)

shal says: June 5, 2013 at 2:36 pm

(https://www.economicshelp.org/blog/6411/economics/current-account-
savings-investment/#comment-106624)

this is exellent explanation

Reply (https://www.economicshelp.org/blog/6411/economics/current-account-savings-investment/?replytocom=106624#respond)

Pingback: Balance of Payments Disequilibrium | Economics Help (https://www.economicshelp.org/blog/185/economics/balance-of-

payments-disequilibrium/)

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5/1/2018 Current Account = Savings – Investment | Economics Help

Marwan Alahmadi says: December 17, 2017 at 8:49 am

(https://www.economicshelp.org/blog/6411/economics/current-account-
savings-investment/#comment-347565)

what is the impact on savings, investment, and consumption if a country is forced to have a balanced current account (X-M)=0?

Reply (https://www.economicshelp.org/blog/6411/economics/current-account-savings-investment/?replytocom=347565#respond)

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