Money and Intertemporal Current Accounts among Industrialized Countries

Abstract

“Save for a rainy day”, a well known theory proposed by Campbell (1987), indicates that the current consumption depends on the rational prospect of future economy. Nevertheless, within a highly developed economy, individual's consumption is often affected by various factors, for instance, inflation, the rate of time preference, and interest rates ... etc. Therefore, a rational representative individual should take all possible information available into consideration in making decisions regarding optimal consumption; meanwhile, this will in turn affect current accounts and domestic credits. In this paper, we modify Ghosh’s (1995a) methodology to incorporate one of the most influential macroeconomic variables, money, into the intertemporal model of the current account to explore its importance in predicting the current accounts. Five major industrialized countries, Japan, Canada, Germany, the US and UK (G-5 hereafter), are revisited as in Ghosh (1995a). According to the empirical findings, not only the national cash flow (output minus investment and government expenditure) as stated in the literatures but also money does play crucial roles in determining the current account dynamics. As a whole, for these five major industrialized countries, the current accounts indeed act as a buffer to smooth consumption in facing fluctuations to national cash flow and money stock.