The Net International Investment Position — what the U.S. owes the rest of the world — ain’t lookin’ good…
By Roger Scher
Although this post is a bit wonkish, please don’t stop reading it till the end because there is a really cool chart there…
Ok, full disclosure, this chart at the end is a bit busy — too busy in fact — and challenging to decipher. It will be worth the wait, however, because it is chock full of information about what is driving America’s excessive borrowing abroad, how long this has been a problem, and what can be done about it. That said, please do not skip to the end right away. Read what follows. It’s interesting. Thanks.
The net international investment position, the NIIP, has a cumbersome name, but it is one of my favorite metrics. The French call it, la position extérieure nette, which sounds better.
History has shown that excessive foreign debt can be ruinous to a country, if the country’s capacity to service the debt weakens and its creditors withdraw. So it is important to track what your country owes the rest of the world, net of what the rest of the world owes you.
NIIP includes all assets and liabilities a country has with the rest of the world, not just debt. U.S. residents’ liabilities to non-residents include both debt (loans and bonds) and equity (foreign ownership of U.S. companies — i.e. stocks — and other assets).
The U.S. has a very large negative NIIP (-67% of GDP at year-end 2020, or $14 trillion) due to decades of borrowing. What generates a negative number is running current account deficits year after year like the U.S. does. A current account deficit is essentially a trade deficit — importing more goods and services than you’re exporting — plus a few other items like income on investments and remittances sent home by foreign workers.
The NIIP is also influenced by the rise and fall of stock markets and the price of other assets. If the U.S. stock market rises more than other stock markets, foreigners’ claims on the U.S. increase in net terms, and the NIIP deteriorates. The U.S. economy is doing well when the stock market rises; however, the claims of foreigners on U.S. companies also increase.
This is what happened last year. U.S. stock prices rose a lot, but so did some other stock markets, like Japan’s. Less so, Europe’s. Exchange rates also affect the NIIP. A stronger U.S. dollar will also cause the U.S. NIIP to deteriorate, as non-residents’ US dollar assets rise more than U.S. residents’ foreign currency assets.
Ok, enough wonkishness over the data.
The main point here is that usually a sustained and large negative NIIP, like the U.S. has, which is not a good thing, occurs when a country finances a current account deficit year after year, by depending on the kindness of foreigners.
Heavy U.S. dependence on foreign funds is also reflected in the country’s large net external debt position, a metric that does not include equity investment, and therefore has less volatility due to the stock market. According to Fitch Ratings, the U.S.’s net external debt to GDP ratio is also large, at 47% of GDP in 2019. So, the NIIP and the net external debt ratio agree that the U.S. is borrowing too much.
A current account deficit often develops when a country saves too little. See how the U.S. savings ratio compares to peers in the chart below.
U.S. savers only save 18.6% of GDP each year, an amount that is channeled through the American financial system to investors who use it to purchase plant & equipment and technology. This is called financial intermediation.
However, U.S. investors invest a total of 21% of GDP per year, so the difference must be borrowed from foreigners. This difference is roughly equivalent to the nation’s current account deficit.
So, the U.S. does not live within its means, year after year, which is why the negative NIIP keeps getting larger and larger.
By contrast, Germany, Japan and China have current account surpluses, they export more than they import, year after year. So, that is why the chart at the top of this post shows these countries with large positive NIIPs, especially Germany’s (76% of GDP) and Japan’s (66%).
German savers save 28.5% of GDP each year, and German investors invest only 21.4% of GDP. So, German investment is fully funded by German savings. The U.S. and Germany invest about the same percentage of GDP in future growth each year, but the U.S. borrows money from abroad and German savers fully fund their country’s investment with money to spare.
National savings is comprised of the savings of households, firms and the government. In the U.S., firms and households are net savers, but the government is a net dissaver, reflected in large government deficits. The German government, prior to the pandemic, was running surpluses.
The chart below shows the difference in U.S. government debt and German government debt relative to each country’s GDP, according to IMF’s forecasts. By 2026, the U.S. debt to GDP ratio will be 77% higher than Germany’s, after being lower than Germany’s 15 years ago. Years of tax cutting and bailouts and rescues and higher entitlement spending have launched U.S. government debt to the stars.
This pernicious trend is why, after this round of post-pandemic stimulus, the Ds and Rs in Washington D.C. must compromise on a medium-term deficit and debt reduction strategy. Households and firms can’t carry the burden of increasing U.S. national savings. Borrowing abroad could prove ruinous for the U.S. in the long run.
Spain, the only large economy with a larger negative NIIP than the U.S., at -84% of GDP (see chart at the top), has proven that reversing the NIIP’s deleterious direction is possible. Following the euro area sovereign debt crisis a decade ago, Spain reformed, cutting government budget deficits and running current account surpluses. Not to dismiss its current large negative NIIP, but that reflects legacy issues, and Spain’s NIIP has been getting smaller for years. That said, both Spain and the U.S. will suffer a deterioration in this metric due to the pandemic.
And now, for your chart-viewing pleasure:
Notes: NIIP — Net international investment position — claims on non-residents less non-resident claims on residents. It’s what the US “owes” the rest of the world in net terms. A negative number means the US owes more to non-residents than non-residents owe the US, due largely to financing current account (CAB) deficits, effectively the broad trade deficit, over 4 decades. It was negative $14 trillion at end 2020, or 67% of GDP. CAB = exports and other credits less imports and other debits. CAB and NIIP are from the US BEA, March 2021 releases. GDP is from the IMF WEO, April 2021. US tax cuts, notably in the 1980s, 2000s, and in 2018, by increasing the government deficit, pushed CA deficits higher. Spending hikes in 2020 / 21 due to pandemic relief are pushing the CA deficit higher. We have to import more to satisfy the demand created by tax cuts and spending hikes. Lower oil imports to the US due to the fracking boom moderated CA deficits in the latter period. Persistent foreign borrowing can be ruinous to a country.
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