Current Account Reversals and Long Term Imbalances: Application to the Central and Eastern European Countries
In our study we investigate the evolution of short-term and long-term external positions in the CEECs and make an attempt at predicting their future paths. First, we analyze the long term relationship between net foreign assets and a set of explanatory variables and construct a measure of imbalances which equals the deviation of net foreign assets from their equilibrium level. Later we incorporate this measure in our prediction of current account reversals and compare the forecasts of this model with the baseline model that does not account for this disequilibrium measure. We show that the inclusion of stock disequilibrium measures improves the model’s performance in and out-of-sample. By doing this, we fill the gap in the literature on external sustainability, which despite the recent emphasis on stock adjustment (Calderon et al., 2000, Lane and Milesi-Ferretti, 2001), has not yet assessed the effectiveness of stocks in predicting sudden current account reversals. Finally, we apply this methodology to the CEECs. We find that net foreign assets lie below their long-term equilibrium level in all countries except Slovenia and Baltic States, but we predict current account reversals only for Hungary and Estonia.
Current account deficits, current account reversals, net foreign assets; FDI; capital movements; capital markets
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