Summary: Norman S. Fieleke, “The United States in debt,” New England Economic Review September-October 1990, pp 34-54
The rise of the U.S. deficit on current international transactions in the mid-1980’s was most likely caused by real income and demand increasing faster in the U.S. than in the rest of the world, and the dollar’s appreciation in foreign-exchange markets, both causing more U.S. purchases of foreign goods and less foreign purchases of U.S. goods. Despite the rapid increase in the deficit the U.S. is not threatened by an imminent debt crisis.
In 1983 U.S. assets abroad were $89 billion more than foreign assets in the U.S. In 1985 it had become a net deficit of $117 billion, by 1989 a deficit of $664 billion.
A loss of price competitiveness contributed to the substantial increase in the trade deficit between 1980 and 1985, but what was the cause of the loss in price competitiveness?
Supply-side was probably not the cause. From 1980 to 1985 eleven foreign industrial countries had an average increase in output per worker of 25% while the U.S. had an increase of 21.5%. A lag of 3.5% is not significant enough to account for the deficit. Furthermore the lag was 11% from 1970 to 1975 when the U.S. did not have a trade deficit.
Quality of goods, such as foreign cars being more desirable may have had a small effect, but could not account for the major shift.
Some blame management degeneration in the world arena. A look at U.S. multinational corporations shows that they maintained their share of the value of world manufactures exports, so blaming management is not fair.
Unfair trade practices were not likely a cause either because
The deterioration of the US trade balance was distributed widely across commodity categories as well as across geographic areas.
It is unlikely that all our trading partners imposed unfair trading practices on all goods at the same time.
Probable
Causes
Appreciation of the
dollar in foreign exchange markets
Several factors caused an increased demand for dollars relative to supply. The government running a budget deficit when the U.S. monetary policy was relatively restrictive decreased government savings while private savings did not increase to fill the gap. This led people to borrow from foreign countries increasing the demand for dollars from abroad. A budget deficit also puts upward pressure on interest rates causing foreign investors to acquire dollars pushing the value up further.
The increasing value of the dollar made foreign goods more appealing and US goods less appealing.
Demand increased faster
than supply
The demand in the U.S. was increasing faster than the domestic supply causing more goods to be imported. With less money available to borrow at home people borrowed from abroad allowing demand to continue increasing.
Reduced demand for imports by less developed countries that began to experience difficulty repaying debts also had an effect
Is the large deficit
causing an imminent debt crisis?
The answer is no. The US gross external debt is a much smaller percentage of the GNP than in many other countries. Also most the debt is in US dollars, so there are no foreign exchange problems. The foreign debt will be no harder to repay than domestic debt.
On the other hand this growth in the debt relative to gross output cannot go on forever because foreign investors will not continue to loan if they feel the US cannot repay its debts.
Summary by James Woodward