Brad Setser

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Cross border flows, with a bit of macroeconomics

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The first quarter current account statistics are kind to the USA

by Brad Setser
June 16, 2006

The 2005 current account deficit was revised down to $791.5b or so.

The q1 2006 deficit was $208.7b — down from $223.1b in q4.   We knew the trade balance improved a bit.  But the income balance also improved, contrary to my expectations.  And the transfers deficit went down.

To my surprise, net official flows (recorded central bank flows) to the US in 2005 were revised down, to $199.5b.   Adding in the growth in central bank dollar deposits in the BIS data increases the known increase in dollar reserves by $80b or so.  But $280b in dollar reserve growth is very, very small relative to my and most other estimates for the total increase in official assets in 2005 — which, including all Saudi central bank assets, likely topped $650b.  Something still doesn't add up.

Here though the Q1 data makes more sense.  Recorded official inflows to the US were nearly $75b.    FDI flows also reversed.  In 2005, inflows into the US topped outflows by about $100b.   Thank you Homeland Investment Act.   Outflows dried up.   In q1, outflows once again topped inflows by about $30b.   That increased the US borrowing need …  

So what happened to the income and transfers balance.    

I need to dig a bit more, but it seems like US government aid flows fell by $4.3b, improving the transfers balance.  Is this result of the end of the big aid package for Iraq?  Perhaps.   Private transfers were also on the low side for a non-hurricane quarter.

On the income side, payments of interest and dividends increased by about $9.3b — but US interest and dividend receipts increased by $7.1b or so, limiting the damage.  I suspect the fact that most US lending abroad is very short-term is helping the US here, as US lending "reprices" faster than US borrowing.  

But the big gains came from foreign direct investment.   The earnings of US firms abroad increased by $2.6b in the first quarter (v. q4).   But even more importantly, the earnings for foreign firms fell by $3.7b.    The net swing was $6.3b or so — overwhelming the US interest bill.

Dark matter (though not from Disney)?

Continued gains from the export of US intangibles (just not by Disney)?

Or bad data? 

The implied return on foreign direct investment in the US remains very low — too low, in my view, to be plausible.  Toyota must have had a good quarter … to me, that suggest bad data.    The US has a bit more FDI abroad than foreigners have FDI in the US.  But the difference in stocks isn't big enough to explain why the US earned $70.1b on its FDI, and foreigners earned only $31.2b on their investments in the US.

The balance on FDI was about $40b in the United States favor in the first quarter.   The balance on debt was around negative 37.5b.   The negative interest balance makes sense to me.   The US has a lot more debt than it has loans abroad.   A favorable FDI balance makes sense to me as well.  Just not as favorable a balance as in the first quarter data.   The implied return on foreign FDI is just too low.

I am sure others will disagree.

Update:  more from Menzie Chinn and Michael Mandel.   Mandel certainly disagrees with my doubts.  He thinks the US earnings on FDI are likely understated.


  • Posted by kz


    I noticed the US Overseas Purchases was $333.9.

    Granted, $10.7 in 2005 IV was too low, but still, this $333.9 is pretty high.

    Foreign investment in the US was also high, but not because of the US Treasury security (-$1.9) but non-US Treasury security ($183). I remember while Japan leads the world in terms of holding US Treasury among long-term debt securities, but China leads the world in terms of Agency securities, according to
    “Preminary Report on Foreign Hodlings at End-June 2005.” But I’m not sure. I look forward to your further analysis.

  • Posted by Guest

    looks like the income data was substantially revised from 1Q’01, particularly over the last year…



    * U.S. transactions in foreign stocks, bonds, and short-term instruments and related dividend and interest receipts are revised for 2003-2005 to incorporate results of the U.S. Treasury Department’s annual survey of securities claims for December 2004.

    * Foreign transactions in U.S. stocks, U.S. corporate bonds, U.S. Treasury bonds, U.S. agency bonds, and U.S. short-term instruments and related dividend and interest payments are revised for 2003-2005 to incorporate results from the U.S. Treasury Department’s annual survey of securities liabilities for June 2005 and revisions to its benchmark survey of securities liabilities for June 2004.

    * Capital account transactions are revised for 1996-2005 to incorporate new source data on the number of immigrants to the United States each year and on the value of their assets.


    * Beginning with estimates for 2005, the geographic detail of the accounts is presented in an expanded format. Separate estimates are now presented for Asia, for Africa, and for the Middle East; for additional countries in Asia; and for additional countries in Latin America. Some European countries previously published annually are now published quarterly. New country groupings are now presented within Europe, and include first-time estimates for the Euro area. See BEA’s web site at for more details.

  • Posted by kz

    Off the topic a bit but definitely interesting.

    On Bloomberg today:

    PBoC Raised the required reserve ratio for commerical lenders by 0.5 percentage point, it said in a statement on its web site today, bringing the required ratio to 8 percent.

    The result:

    Canada’s dollar fell 1.3 percent, the most since a 1.4 percent drop on July 1, 2005, to 88.85 U.S. cents at 11:32a.m.


    On concern that China’s monetary policy tighteinig may slow demand for commodities.

  • Posted by Guest

    Donald Kohn: The Effects of Globalization on Inflation and Their Implications for Monetary Policy

    [W]e should recognize that these disinflationary effects could dissipate or even be reversed in coming years. They reflect, at least in part, the global imbalances that are the subject of this conference, rather than just the integration of emerging-market economies into the global trading system. For example, the fact that China and some other emerging-market economies have resisted upward pressure on their exchange rates and are running trade surpluses has undoubtedly contributed to their disinflationary effects on the rest of the world. The prices of their exports are lower than they would be if market forces were given greater scope in foreign exchange markets, and they are supplying more goods and services to the rest of the world than they themselves are demanding. These imbalances are not likely to be sustained indefinitely. The elevated rates of national saving in these economies–and, in some, relatively restrained rates of investment–are not likely to persist in the face of ongoing improvements in the functioning of their financial markets, increases in the depth of their product markets, and fuller development of economic safety nets. As individuals in these countries are increasingly drawn to investing at home and consuming more of their wealth and as their real wages catch up to past productivity gains, the upward pressures on their currencies will intensify, their demand will come into better alignment with their capacity to produce, cost advantages will decline, and these economies will exert less, if any, downward pressure on inflation in the United States.

    This observation brings me to my final point, which is about monetary policy. Clearly, the greater integration of the world’s economies does leave the United States more open to influences from abroad. In one sense, a more open economy may be more forgiving as shortfalls or excesses in demand are partly absorbed by other countries through adjustments of our imports and exports. And, to the extent that the United States can draw upon world capacity, the inflationary effect of an increase in aggregate demand might be damped for a time. But we are also subject to inflationary forces from abroad, including those that might accompany a shift to a more sustainable pattern of global spending and production, or those that might emanate from rising cost and price pressures. Moreover, a smaller response of inflation to domestic demand also implies that reducing inflation once it rose could be difficult and costly. And, from another perspective, integrated financial markets can exert powerful feedback, which may be less forgiving of any perceived policy error. For example, if financial market participants thought that the FOMC was not dedicated to maintaining long-run price stability–a notion that I can assure you is not correct–they would be less willing to hold dollar-denominated assets, and the resulting decline in the dollar would tend to add to inflationary pressures. Clearly, policymakers need to factor into their decisions the implications of globalization for the dynamics of the determination of inflation and output.

    In the end, however, policymakers here and abroad cannot lose sight of a fundamental truth: In a world of separate currencies that can fluctuate against each other over time, each country’s central bank determines its inflation rate…

  • Posted by Mike Mandel


    You might take a look at Toyota’s latest earnings report. Their increase in North American operating profits in the first quarter was 24 billion yen, or roughly $200 million (compared to a year earlier). I’m sure that Goldman Sachs alone had a bigger increase in overseas earnings.

  • Posted by Guest

    kz – perhaps, but might CAD also influenced as much or more by markets that are closer to home?

    “With global markets in turmoil issues which had until recently been swept under carpet are now having to be confronted… For too long, we (in the UK) have been happy to ignore rising energy & commodity prices and the knock on effect that these have had on economic stability, preferring to focus instead on rising equity prices and in many cases to join in the speculation in commodities, in doing so perpetuating the cycle. …A recent survey commissioned by LITE Trading and conducted by market researchers Ipsos MORI provides insight into the dramatic effects that household expenditure will be subject to and from this we can extrapolate this data to make predictions about which sectors and companies…” 16 Jun 2006

  • Posted by Guest

    Encased within the massive hype of ‘Massive Change: The Future of Global Design’ are some interesting thoughts about the entertainment, marketing and technology sectors and ways in which the output is traded as packaged voice, text and images. To its credit, Massive Change does include commentary from some well known economists, but the clips are generally far too short for meaningful insight into the subject matter. The project developer is, afterall, a marketing/design firm. But to its credit, it did sell me on the notion that we are only beginning to develop ways to track and analyze this type of trade, despite the fact that it is substantial – and growing rapidly.

  • Posted by Movie Guy

    Going forward, get ready to factor in $9.2 billion FDI from Ford in Mexico by 2012. That’s an average of $1.533 billion per year:

    Ford to invest up to $9.2 bln in Mexico: report
    Wed Jun 14, 2006 12:31pm ET

    DETROIT (Reuters) – Ford Motor Co., which is slashing jobs and closing plants in the United States as it seeks to return its North American operations to profitability, is preparing to invest up to $9.2 billion in Mexico to leverage its low operating costs there, a Michigan newspaper reported on Wednesday.

    The Oakland Press, a Detroit-area newspaper, said the investment was detailed in a confidential, 28-page document turned over to it by a Ford employee.

    The document, part of which had been prepared for a presentation in early April to officials from the Mexican government, said Ford, the No. 2 U.S. automaker, could invest a total of $9.2 billion in Mexico over a six-year period from 2006 to 2012, according to the newspaper.

  • Posted by bsetser

    Mike — I am a bit surprised by the small size of the Toyota number; the profitability of their Japanese production for sale in the US must have gone up far more, given the yen move over that time. They could have booked that in the US (sell in Japan to Toyota USA at a price that creates bigger profits in the US) but seem not to have. Or I may be way off in terms of scale.

    But i take part of your point — tho only the profits from say Goldman sachs london or GS HK really count. NY trading of global markets is a return on investment in the US.

    Tho CSFB new york and DB new york presumably earned some money for their parents too — tho not quite as much as Goldman.

    What tho explains the fall in returns on FDI in the US relative to q4?

  • Posted by Mike Mandel


    Take a look at Citigroup’s latest earnings release. Its international net income went up by more than $800 million in the first quarter, quadrupling that of Toyota.

    Or are you going to poo-poo those numbers too? The best U.S. financial firms are doing really well overseas, and it’s all know-how and smarts–i.e. dark matter.

  • Posted by Movie Guy

    Mike – “Toyota’s latest earnings report. Their increase in North American operating profits in the first quarter was 24 billion yen, or roughly $200 million (compared to a year earlier).”

    Which specific company report document did you pull this info from (including the url)?

    You are, of course, referring to Toyota’s fourth quarter data, right? Toyota used 113 yen as the currency exchange ($) value in their statement.

    There is nothing wrong with Toyota’s net earnings once your or Brad look at the right document and account for Toyota’s North America operations capital investment in FY 2006 of 270.3 billion yen, an increase of 116.6 billion yen over FY 2005. Depreciation rose 12.1 billion yen to 165.1 billion yen. Unit sales and revenue growth were solid.

    Besides, your talking about sales during a weak quarter. Anyone familiar with the auto industry wouldn’t expect Jan-Mar to be setting the world on fire after the industry sales incentives of last Fall.

    I would still like to note which Toyota consolidated statement document you pulled your 24 bn yen number from.

  • Posted by Guest

    Having done quite a bit of work on the development and marketing of intangibles, I tend to focus on capacities to develop the credibility, infrastructure, relationships and packaging necessary to define and apply that know-how in ways that generate real, retainable earnings. Guess that’s all part of the know-how too. But ‘dark matter’ does not work for me because it doesn’t delve into the details enough to convince me that it can serve as a reliable model. Interesting, but still needs work – not to infer it’s all that easy to do.

  • Posted by bsetser

    Michael — well, i guess that helps to make up for Citi losses in Argentina a while back …

    My quarrel isn’t with the earnings US firms report on their foreign investments. It is with the very low returns foreign firms report on their foreign direct investment in the US.

    Do you have an explanation for why– as noted by Daniel Gros — foreign firms don’t seem to be reinvesting in their US operations while US firms are reinvesting in their operations abroad? that seems to account for the majority of the gap in reported returns. actual dividend payments are pretty equal.

  • Posted by Guest

    “Foreigners have boosted their share of Japan’s stock market to a record high for the third straight year, in a trend that further increases their power within the country’s boardrooms… In many cases they have used their large stakes in companies to lobby for a more Anglo-Saxon style of capitalism, helping to change the way Japanese companies do business. These demands include higher dividend payments, share buybacks to drain down cash reserves, a greater emphasis on profit and return on equity rather than market share, and more concern with transparent and high-quality investor relations…”

  • Posted by Guest

    “…The lag in technological innovation has troubled China’s leaders most… China’s traditional culture may be an obstacle. For centuries, schoolchildren here have been taught to conform and belong… Schools still emphasize group activities and discipline over individualism… Children are traditionally trained to learn by rote, memorizing material without questioning the teacher and parroting it back at exam time. The method produces high test scores but little innovation… Research funds remain hard to get and are often politically directed… The party continues to discourage innovation in many fields, particularly politics or information and art that touch on political themes… Even as President Hu was urging party members to “actively promote cultural innovation” in April, censors were ordering more than 20 paintings with political content pulled from an exhibition in Beijing’s Dashanzi art colony. Similarly, in May, Premier Wen urged scientists to “raise the level of self-generated innovative ability” just as his government ordered a blackout on the film “Summer Palace,” a Chinese production… that gained acclaim at this year’s Cannes Film Festival…”

  • Posted by Guest

    Also a bit off topic, but I’m trying to get some sense of the ways U.S. ‘dark matter’ may differ from, and be affected by other nations’, assuming that they must also have their own ‘dark matter’, if I understand the concept. Thinking about another knowledge-based economy that is attracting quite a bit of U.S. capital, including income from offshore jobs created by U.S. firms, as well as remittances from India’s workers abroad, I’m wondering how much of that money may account for the savings rate quoted below – if savings from ‘offshore income?’ may be a form of FDI with the assumption that money will be recirculated through the economy and support the growth of firms that may be attracting U.S. investment – i.e. Tata Motors, ICICI Bank….

    “…But further reforms, and more investment, were needed to raise the growth rate of the world’s biggest democracy from eight per cent to 10 per cent a year.Much of that money could be raised within India, he said.”One has to remember an Indian reality: saving accounts for 28 per cent of gross domestic product, compared with two per cent for foreign direct investment.”…”

  • Posted by Guest

    Just one more question. Not sure if this qualifies as ‘dark matter’ or a U.S. firm investing in operations abroad, but as far as infrastructure develop goes – sure the U.S. is in need of retrofits, but might the returns on foreign infrastructure development be better?

    “Morgan Stanley is following several other investment banks that have turned to infrastructure funds as a way of diversifying their earnings streams… Investors are increasingly demanding access to infrastructure assets, such as toll roads, power stations and gas pipelines, which generate stable and high long-term cash flows. Pension funds are attracted to the high yields which can be used to match long-dated liabilities…”

  • Posted by Lefty

    Mike Mandel: “Or are you going to poo-poo those numbers too? The best U.S. financial firms are doing really well overseas, and it’s all know-how and smarts–i.e. dark matter.”

    This statement didn’t make much sense to me. Of course these jackals (Goldman, Citigroup etc.) can make big money anywhere they can set up shop. But it would seem that the “dark matter” crutch need not be applied here. This is “real” money (green matter). I thought the dark matter theory was intended as an explanation for things that are not so easily explained, such as why deficits aren’t really deficits.

  • Posted by Dave Chiang

    Federal Reserve created Global Credit Bubble

    Rampant monetary inflation from the Federal Reserve fuelled by the growth of credit turned the capital markets into one giant casino as punters worldwide (often loaded with credit) searched for the next opportunity to make a fortune.

    In the 1970’s, this excessive liquidity churned out by the central banks found a home in commodities as the price of raw materials went crazy. During the 1980’s, investors piled into Japanese assets as stocks and real-estate soared. And in the 1990’s, when we were ushering in the new millennium, our world fell in love with the technology, media and telecom sector. Each of these booms was accompanied by rapid credit growth, heavy speculation based on unrealistic expectations and unfortunately they all met their common fate – the eventual bust!

    Since the “tech wreck” in 2000, this excessive capital floating around the system has found a refuge in real-estate. Today, the public’s money is predominantly in property and everyone is convinced that the current boom will last forever. “What me worry? Nah, real-estate always goes up!” seems to be the common argument. Allow me to share a secret – no asset-class goes up in a straight line and property investors may be in for a rude shock if interest-rates continue to rise, which in my view is inevitable.

    – Puru Saxena

  • Posted by Guest

    We’ve spent some time thinking about Goldman’s controlling shareholders and clients. It may be instructive if text could be dedicated to discussing Citigroup’s, Morgan Stanley’s…

  • Posted by Robd

    Could there be a difference in accounting methods between foreign firms investing in the US and US-firms investing abroad?
    It is often possible for companies to book profits where they want them; also not everyone needs to show profit growth as badly as US listed companies.
    I can see private companies and investors making capital gains in the US but not booking them to market as return-on-investment for tax-reasons.

  • Posted by Guest

    Hey brad, do you read

    at all? They have some good stuff there and would love hear your take on their analysis of capital flows.