Fundamental Analysis

The Current Account Balance

The current account (CA) represents the sum of goods and services balances, income, and unilateral transfers

Studies show that industrialized countries running a current account deficit in excess of 5% of GDP will undergo exchange rate and/or price adjustment; currently the US CA deficit is hovering 6%.

In light of the market?s overall focus on the sizable US current account deficit, the following note defines and explains the balance and its components.

What is the current account?
The current account measures a country?s international transactions, and includes four main components:

Goods: Physical objects whose ownership is transferred across borders.  Goods include both general merchandise (retail goods) and capital goods (i.e., machinery). 

Services: Intangible items that include transportation, tourism, royalties, consulting, and other business services.  Money received for services rendered are recorded as exports, while money paid for services are recorded as imports.

Income:  Recorded as money flowing into or out of a country, including salary, rent, interest, profits and dividend income.

Transfers:  Unilateral transfers for which nothing is received in return, i.e., donations, grants, or reparations.

The sum of goods and services trade, income and transfers yields the current account balance:

Current Account Balance = (Exports ? Imports) + Income + Transfers

For example, in the first quarter of 2005, the US ran a current account deficit of $195.1 billion, driven primarily by increased interest in foreign made goods and imported crude oil against positive foreign investment in U.S. denominated assets.

Why is it important?
Current account data can have significant medium to long-term effects on dollar valuation versus other currencies.  While the US has in recent history run a chronic current account deficit, a rise in the deficit to around 6% of GDP has concerned many market participants and contributed to broad dollar bearish sentiment. 

Empirical evidence suggests that a current account deficit around 5% GDP is a critical level for industrialized countries.  Above the 5% level, adjustments such as currency depreciation, higher inflation and/or a fall in domestic demand will generally take place.

Richard Lee is a Currency Strategist at Forex Capital Markets.  Employing both fundamental models and technical analysis applications, Richard contributes regularly to DailyFX, Yahoo Finance and Comtex.  Prior to joining the research team, Richard was one of the senior instructors for the FX Power Course, teaching thousands of traders the basics of currency trading, technical analysis and how to implement trading strategies.  He has extensive experience in trading the spot currency markets, options and futures.  Richard previously traded FX, equity and equity derivatives for four years as well as work for a private equity consortium before joining FXCM.  He holds a BA in Economics as well

Richard Lee is a Currency Strategist at Forex Capital Markets.  Employing both fundamental models and technical analysis applications, Richard co...

TWI

Senior member
2,527 252
The dollar is well protected from the 5% rule due to its status as the World reserve currency.
 

charliechan

Experienced member
1,008 119
twalker said:
The dollar is well protected from the 5% rule due to its status as the World reserve currency.
yes, but how long will this last for?

i understand that many countries are now looking to the euro as their reserve currency due to economic stability in the us and the ignorance of bush on various issues ringing alarm bells.

i read a few months ago for example that russia was considering pricing its oil in euros rather than dollars for example. dont know how far this went.
 

Rhody Trader

Senior member
2,620 264
charliechan said:
i read a few months ago for example that russia was considering pricing its oil in euros rather than dollars for example. dont know how far this went.
Rumors like that have been going around for years. The fact of the matter is that oil is denominated in Dollars across all markets. By that I mean the financial markets like futures. As a result, no matter what the contracts for oil purchase are denominated in (and I can imagine they vary all over the place), the price will still be based on a Dollar figure.
 

Similar threads