Question

Imagine that the U.S. economy finds itself in the

following situation: a government budget deficit of \(100 billion, total domestic savings of \)1,500 billion, and total domestic physical capital investment of \(1,600 billion. According to the national saving and investment identity, what will be the current account balance? What will be the current account balance if investment rises by

\)50 billion, while the budget deficit and national savings remain the same?

Short answer

Both are different.

Step-by-step solution

Step 1. 

In the US economy,

Government budget deficit = $100 billion

Total domestic physical capital investment = $1600 billion

Total domestic savings = $1500 billion

So current account balance:

Supply of financial capital = demand of financial capital

savings + current account deficit = government borrowings + physical investment

$1500 billion +current account deficit = $100 billion + $1600 billion

$1500 billion + current account deficit = $1700 billion

Current account deficit = $200 billion

Step 2. 

When investment rises by $50 billion, the total domestic physical capital increased to $1650 billion

Current account balance is:

Supply of financial capital = demand of financial capital

Savings + current account balance = government borrowings + physical investment

$1500 billion + current account balance = $100 billion + $1650 billion

Current account balance = $1750 billion - $1500 billion

Current account balance = $250 billion.