This study confirms the presence of mechanisms that stabilized the net foreign asset positions of the three largest industrial countries in the post-World War II period. Persistent and large current account imbalances in the past decade have led to quite dramatic changes in the net international positions of the United States, Japan, and Germany. However, various feedback effects from foreign asset stocks may act as stabilizing mechanisms to prevent a continued increase of these net foreign asset or liability positions and to ensure an eventual return to long-run equilibrium.
Cointegration tests are used to investigate empirically the long-run equilibrium relationship for net foreign assets of the United States, Japan, and Germany using postwar data. These tests suggest the existence of a long-run relationship between the net foreign asset-GNP ratio, the public debt-GNP ratio, and dependency ratios relative to other major industrial countries. Lower public debt divided by GNP and a higher proportion of elderly people in the population are associated with higher net foreign assets divided by GNP.
Developments in the 1980s in the United States differed from those in Japan and Germany in one important respect: the conditional long-run net foreign asset equilibrium of the United States moved sharply downward, reflecting a rapid accumulation of public debt. In contrast, the Japanese and German authorities implemented policies to consolidate the public finances; the net foreign assets of these countries increased strongly.
To identify the channels through which stabilizing feedback occurs, error correction models for components of domestic absorption are also estimated. These results suggest, however, that stabilizing feedback operates through different linkages in different countries. It operates primarily through private investment in the United States and Germany and through government spending in Japan. There is also weaker evidence of consumption feedback in the United States and Japan.