Sustainability of External Account Deficits

This paper examines the notion of sustainability of current account deficit using the consumption smoothing approach model. Empirical evidences suggest that the current account deficits in Indonesia, Malaysia and the Philippines can be explained by the model. Results also show that prior to the crisis, there was some degree of over-borrowing but it appears that overall, the current account deficits of these countries were sustainable during 1970-1997. The paper notes that for developing countries, it may be optimal to run current account deficits, provided that it is not excessively large. The current account imbalances should also be dealt with at source - excessive domestic absorption, particularly consumption.