America’s External Deficit and the Domestic Savings Shortfall (wonkish)

Are America’s external deficits and its domestic savings gap really two sides of the same coin, one equal to the other?

The simple answer is, yes – provided that all of the variables used to measure the external deficit and the domestic savings gap are defined in a very precise manner. 

The remainder of this note, which is available here, provides the details. 

The full note also points out that, even if the variables are defined and measured correctly, the standard presentation (S – I = X – M) can lead to bad policy recommendations because the equation implies a one-way causal link between the domestic savings gap and the external deficit. In fact, the causality can run in both directions -- external financing can increase the domestic savings gap.

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