Government Debt and the Trade Deficit

People often refer to the idea of a Twin Deficit, especially in the US.

The twin deficit refers to

  1. Government borrowing – government spending greater than tax revenues. Government borrowing creates an annual budget deficit and increases national debt.
  2. Current account deficit (imports greater than exports) on Balance of Payments US current account deficit 5% of GDP

Sometimes it is easy to confuse the two. National debt refers to how much the government needs to borrow from the private sector. Note this borrowing is mainly borrowing from the domestic private sector, although foreigners can buy US bonds and securities.

The current account deficit refers to the level of imports being greater than exports. This deficit does not have anything to do with the government directly, but is due to an economy importing more than it exports of goods and services.

Reasons for Current account deficit include:

  • Overvalued exchange rate
  • Uncompetitive export sector
  • High consumer spending sucking in imports.

The National Debt occurs when Government spending is greater than tax revenues, therefore the government has to borrow from private sector)

A current account deficit needs to be financed by a surplus on the financial account

Reasons for National Debt basically involve the government spending more than they receive in tax.

Are the Two Deficits linked?

Not necessarily. You could argue a national debt creates increased Aggregate Demand, which encourages consumer spending on imports. But, you can have a national debt without creating a current account deficit, e.g. Japan.

Consumer Debt

You could also argue that there is a third deficit. That is when consumer debt is high. This is especially a problem in the UK and US at the moment.

5 thoughts on “Government Debt and the Trade Deficit

  1. It is paradoxical when our government has gotten into debt. Imagine a country’s budget failure. Our country spends more than it has and expects consumers to cut on their debts.

  2. Where do all these countries borrow the trillions of Dollars from ? Aspecially all the dependent Western Nations & the independent countries such as Iran ,Venezuela ,Cuba etc. etc. have very little or no debt at all . What is really going on here ?

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