CAD ESSAY

Analyse the causes and effects of Australia’s on-going current account deficit.

The balance of payments is the record of all of a country’s international financial transactions in a given year and consists of the current account and the capital and financial account. The current account consists of non-reversible, external transactions and includes Balance on Goods on Services as well as Primary and Secondary Income components. Australia’s persistently high current account deficit (CAD) is contributed to by structural and cyclical factors and a sustained CAD may have both positive and negative impacts on an the Australian economy

Australia’s current account has persistently been in large deficits since the mid-1980s and
This will affect Australia’s ability to borrow more funds as lenders will be reluctant to lend to Australia or to invest in Australia.

High CADs can cause investors to lose confidence in the Australian economy. If markets suspect the level of debt may become unsustainable for the debtor country, they may reduce the country’s international credit rating, which reflects the confidence that world financial markets have in that country. A downgrade in Australia’s credit rating would make it more difficult to borrow funds internationally as overseas investors lose confidence in Australia. In recent years, a high CAD has caused several countries to experience economic crises due to a sudden loss of international investor confidence, such as Greece and Portugal following the GFC.

High CADs can also lead to a constraint on future economic growth. In the long term, higher levels of economic growth means an increase in imports, and a natural appreciation in the CAD. Economies with a CAD problem are therefore forced to limit growth to the level at which the CAD is sustainable. This limitation is known as the “Balance of Payments constraint”, and is highlighted in the 2014 Federal Budget, where the Coalition Government implemented a contractionary fiscal stance in order to decrease the CAD.

Though a high CAD has many negative consequences on the economy, there are still positive interpretations of a high CAD.

A high CAD means that Australia