US & World Economies Economic Terms Current Account Deficit, Its Components and Causes What Happens When a Country Can't Pay for Its Imports? By Kimberly Amadeo Kimberly Amadeo Kimberly Amadeo is an expert on U.S. and world economies and investing, with over 20 years of experience in economic analysis and business strategy. She is the President of the economic website World Money Watch. As a writer for The Balance, Kimberly provides insight on the state of the present-day economy, as well as past events that have had a lasting impact. learn about our editorial policies Updated on December 31, 2021 Reviewed by Erika Rasure Reviewed by Erika Rasure Erika Rasure, is the Founder of Crypto Goddess, the first learning community curated for women to learn how to invest their money—and themselves—in crypto, blockchain, and the future of finance and digital assets. She is a financial therapist and is globally-recognized as a leading personal finance and cryptocurrency subject matter expert and educator. learn about our financial review board In This Article View All In This Article Components Causes Consequences How To Correct a Deficit Current Account Deficit and BOP Photo: Joe Raedle/Getty Images A current account deficit is a trade measurement that says a country imported more goods, services, and capital than it exported. It encompasses the trade deficit plus capital like net income and transfer payments. A nation creates a current account deficit when it relies on foreigners for the capital to invest and spend. Depending on why the country is running the deficit, it could be a positive sign of growth. It could also be a negative sign that the country is a credit risk. Note The current account is part of the balance of payments. It records all international trade and financial transactions. The other two parts are the capital account and the financial account. The capital account measures foreign ownership of financial transactions, like copyrights, that produce future income. The financial account measures international sales of assets. Components According to the Bureau of Economic Analysis, there are four components of the current account. The largest is trade in goods and services. The other three are much smaller. Net income is earned by residents by overseas investments or work. Second are direct remittances from workers to their home country, foreign aid, and foreign direct investments. The third is increases or decreases in assets like banks deposits, securities, and real estate. The largest component of a current account deficit is the trade deficit. That's when the country imports more goods and services than it exports. The current U.S. trade deficit reveals that the United States imports a lot more than it exports. Many think that America is becoming less competitive in the global market. The second largest component is a deficit in net income. That occurs when foreigners earn more from the country than residents earn on foreign work and investments. The other two components, direct remittances, and investment income aren't large enough to materially affect the current account deficit. Causes Countries with current account deficits are big spenders that foreign investors consider creditworthy. These countries' businesses can't borrow from their own residents. They simply haven't saved enough in local banks. Businesses in a country like this can't expand unless they borrow from foreigners. That's where the credit-worthiness comes into the picture. If a country has a lot of spendthrifts, it won't find any other country to lend to it. That's what happened during the Greek debt crisis. Note The United States can sustain a current account deficit because it's very credit-worthy. Foreigners support America's deficit because they believe it will pay back the loans. Why would another country lend to such a spender, even if it is credit-worthy? The lender country also exports a lot of goods and even some services to the borrower. The lender country benefits. It can manufacture more goods, thus giving more jobs to its people. That explains the relationship between China and America. China is among the largest foreign holder of U.S. debt. It's happy to do so because it's also the largest exporter to the United States. Japan, however, has become the largest holder of U.S. sovereign debt, standing at around $1.3 trillion as of September, 2020. Consequences In the short-run, a current account deficit is helpful to the borrowing nation. Foreigners are willing to pump capital into it. That drives economic growth beyond what the country could manage on its own. In the long run, a current account deficit saps economic vitality. Domestic businesses don't develop because the market is dominated by foreign competition. Many domestic companies outsource jobs because it's cheaper for them. Foreign investors may start to question whether the country's economic growth will provide enough return on their investment. Demand weakens for the country's assets, including the country's government bonds. As foreign investors withdraw funds, bond yields rise. The national currency loses value relative to other currencies. That lowers the value of the assets in the foreign investors' strengthening currency. It further depresses investor demand for the country's assets. This can lead to a tipping point where investors will dump the assets at any price. The only saving grace is that the country's holdings of foreign assets are denominated in foreign currency. As the value of its currency declines, the value of the foreign assets rise. That further reduces the current account deficit. In addition, a lower currency value increases exports as they become more competitively priced. The demand for imports falls once prices rise as inflation sets in. These trends stabilize any current account deficit. Regardless of whether the current account deficit unwound via a disastrous currency crash or a slow, controlled decline, the consequences would be the same. That's a lower standard of living for the country's residents. How To Correct a Current Account Deficit A country with a current account deficit should invest the foreign capital it receives wisely. It should build roads and ports, and educate its workforce, to boost international trade. The country's leaders should create a current account surplus as soon as possible. They should improve domestic productivity and the competitiveness of its local businesses. It should also seek to reduce imports of basic necessities, such as oil and food, by boosting that ability at home. The Current Account Deficit and the Balance of Payments Balance of Payments Current AccountU.S. Current Account DeficitTrade BalanceImports and ExportsU.S. Imports and Exports SummaryU.S. ImportsU.S. Imports by Year for Top 5 CountriesU.S. ExportsTrade DeficitThe U.S. Trade DeficitU.S. Trade Deficit by CountryCapital AccountFinancial Account Was this page helpful? Thanks for your feedback! Tell us why! Other Submit Sources The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy. Statista. "Major Foreign Holders of U.S. Treasury Securities as of June 2020."