If a nation records an external balance (net exports equal zero) and the government runs a balanced fiscal position then we know that private domestic sector spending will be equal to its overall income and household saving will be zero.
Answer: False
The answer is False.
This is a question about sectoral balances.
To refresh your memory the balances are derived as follows. The basic income-expenditure model in macroeconomics can be viewed in (at least) two ways: (a) from the perspective of the sources of spending; and (b) from the perspective of the uses of the income produced. Bringing these two perspectives (of the same thing) together generates the sectoral balances.
From the sources perspective we write:
GDP = C + I + G + (X - M)
which says that total national income (GDP) is the sum of total final consumption spending (C), total private investment (I), total government spending (G) and net exports (X - M).
Expression (1) tells us that total income in the economy per period will be exactly equal to total spending from all sources of expenditure.
We also have to acknowledge that financial balances of the sectors are impacted by net government taxes (T) which includes all taxes and transfer and interest payments (the latter are not counted independently in the expenditure Expression (1)).
Further, as noted above the trade account is only one aspect of the financial flows between the domestic economy and the external sector. we have to include net external income flows (FNI).
Adding in the net external income flows (FNI) to Expression (2) for GDP we get the familiar gross national product or gross national income measure (GNP):
(2) GNP = C + I + G + (X - M) + FNI
To render this approach into the sectoral balances form, we subtract total taxes and transfers (T) from both sides of Expression (3) to get:
(3) GNP - T = C + I + G + (X - M) + FNI - T
Now we can collect the terms by arranging them according to the three sectoral balances:
(4) (GNP - C - T) - I = (G - T) + (X - M + FNI)
The the terms in Expression (4) are relatively easy to understand now.
The term (GNP - C - T) represents total income less the amount consumed less the amount paid to government in taxes (taking into account transfers coming the other way). In other words, it represents private domestic saving.
The left-hand side of Equation (4), (GNP - C - T) - I, thus is the overall saving of the private domestic sector, which is distinct from total household saving denoted by the term (GNP - C - T).
In other words, the left-hand side of Equation (4) is the private domestic financial balance and if it is positive then the sector is spending less than its total income and if it is negative the sector is spending more than it total income.
The term (G - T) is the government financial balance and is in deficit if government spending (G) is greater than government tax revenue minus transfers (T), and in surplus if the balance is negative.
Finally, the other right-hand side term (X - M + FNI) is the external financial balance, commonly known as the current account balance (CAD). It is in surplus if positive and deficit if negative.
In English we could say that:
The private financial balance equals the sum of the government financial balance plus the current account balance.
We can re-write Expression (6) in this way to get the sectoral balances equation:
(5) (S - I) = (G - T) + CAD
which is interpreted as meaning that government sector deficits (G - T > 0) and current account surpluses (CAD > 0) generate national income and net financial assets for the private domestic sector.
Conversely, government surpluses (G - T < 0) and current account deficits (CAD < 0) reduce national income and undermine the capacity of the private domestic sector to add financial assets.
Expression (5) can also be written as:
(6) [(S - I) - CAD] = (G - T)
where the term on the left-hand side [(S - I) - CAD] is the non-government sector financial balance and is of equal and opposite sign to the government financial balance.
This is the familiar MMT statement that a government sector deficit (surplus) is equal dollar-for-dollar to the non-government sector surplus (deficit).
The sectoral balances equation says that total private savings (S) minus private investment (I) has to equal the public deficit (spending, G minus taxes, T) plus net exports (exports (X) minus imports (M)) plus net income transfers.
All these relationships (equations) hold as a matter of accounting and not matters of opinion.
Thus, when an external deficit (X - M < 0) and public surplus (G - T < 0) coincide, there must be a private deficit. While private spending can persist for a time under these conditions using the net savings of the external sector, the private sector becomes increasingly indebted in the process.
Consider the following graph which shows three situations where the external sector is in balance.
Period 1, the fiscal position is in surplus (T - G = 1) and the private domestic balance is in deficit (S - I = -1). With the external balance equal to 0, the general rule that the government surplus (deficit) equals the non-government deficit (surplus) applies to the government and the private domestic sector.
In Period 3, the fiscal position is in deficit (T - G = -1) and this provides some demand stimulus in the absence of any impact from the external sector, which allows the private domestic sector to save (S - I = 1).
Period 2, is the case in point and the sectoral balances show that if the external sector is in balance and the government is able to achieve a fiscal balance, then the private domestic sector must also be in balance.
The movements in income associated with the spending and revenue patterns will ensure these balances arise.
The problem is that if the private domestic sector desires to save overall then this outcome will be unstable.
So under the conditions of the question, the private domestic sector cannot save overall, even if the household sector was saving part of its disposable income. The government would be undermining any desire to save by not providing the fiscal stimulus necessary to increase national output and income so that private households/firms could save.
The question statement would have been deemed true if I had left out the last phrase "and household saving will be zero". If the external sector and the government sector are in exact balance then the private domestic sector also have to be in exact spending-income balance.
But within that spending-income balance, the household sector may be saving a portion of their disposable income at a level equal to the level of investment spending in the firm sector, giving an overall balance between income and spending for the private domestic sector as a whole.
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