Current Account Deficit meaning: Current Account Deficit or CAD is the shortfall between the money flowing in on exports, and the money flowing out on imports. Current Account Deficit (or Surplus) measures the gap between the money received into and sent out of the country on the trade of goods and services and also the transfer of money from domestically-owned factors of production abroad. To understand CAD in detail, it is essential to learn about the Current Account. A nation’s Current Account maintains a record of the country’s transactions with other nations, in terms of trade of goods and services, net earnings on overseas investments and net transfer of payments over a period of time, such as remittances. This account goes into a deficit when money sent outward exceeds that coming inward.
Current Account Deficit is slightly different from Balance of Trade, which measures only the gap in earnings and expenditure on exports and imports of goods and services. Whereas, the current account also factors in the payments from domestic capital deployed overseas. For example, rental income from an Indian owning a house in the UK would be computed in Current Account, but not in Balance of Trade.
How do you calculate Current Account Deficit?
The current account constitutes net income, interest and dividends and transfers such as foreign aid, remittances, donations among others. It is measured as a percentage of GDP.
- Trade gap = Exports – Imports
- Current Account = Trade gap + Net current transfers + Net income abroad
A country with rising CAD shows that it has become uncompetitive, and investors are not willing to invest there. They may withdraw their investments.
Is Current Account Deficit something to worry about?
Current Account Deficit may be a positive or negative indicator for an economy depending upon why it is running a deficit. Foreign capital is seen to have been used to finance investments in many economies. Current Account Deficit may help a debtor nation in the short-term, but it may worry in the long-term as investors begin raising concerns over adequate return on their investments.
How do you deal with a Current Account Deficit?
CAD exists due to a host of factors including existing exchange rate, consumer spending level, capital inflow, inflation level, and prevailing interest rate. For the Current Account Deficit in India, crude oil and gold imports are the primary reasons behind high CAD. The Current Account Deficit could be reduced by boosting exports and curbing non-essential imports such as gold, mobiles, and electronics. Currency hedging and bringing easier rules for manufacturing entities to raise foreign funds could also help. The government and RBI could also look to review debt investment limits for FPIs, among other measures.