Current Account and Budget Deficits in an Intertemporal Model of Consumption and Taxation Smoothing. a Solution to the "Feldstein-Horioka Puzzle"?

54 Pages Posted: 24 May 2001 Last revised: 1 Aug 2010

See all articles by Nouriel Roubini

Nouriel Roubini

New York University - Leonard N. Stern School of Business - Department of Economics; National Bureau of Economic Research (NBER)

Date Written: November 1988

Abstract

This paper presents an infinite horizon model of consumption and taxation " smoothing" that implies a simple relation between current accounts, budget deficits, investment rates and transitory output shocks. It is argued that such a model could explain the "Feldstein-Horioka puzzle" of the apparent lack of international capital mobility. Traditional regressions of the savings rate on the investment rate, as performed in the literature, are shown to be incorrect tests of the hypothesis of capital mobility because they do not control for the independent role of budget deficits and temporary output shocks in the current account and savings equations. Empirical tests of the model for a sample of 18 OECD countries present good evidence that international capital markets are widely integrated and that the "Feldstein-Horioka puzzle" might be explained by the important role of fiscal deficits in the determination of the current account and the saving behavior.

Suggested Citation

Roubini, Nouriel, Current Account and Budget Deficits in an Intertemporal Model of Consumption and Taxation Smoothing. a Solution to the "Feldstein-Horioka Puzzle"? (November 1988). NBER Working Paper No. w2773. Available at SSRN: https://ssrn.com/abstract=271180

Nouriel Roubini (Contact Author)

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