Why can a current account deficit be an economic problem?

A current account deficit means the value of imports of goods/services/investment incomes is greater than the value of exports. There are several reasons why it can be harmful to the economy:

Unsustainability

When a current account deficit is financed through borrowing, it is known to be more unsustainable because it can be harmful in the long run, as countries receive higher-interest payments. Such countries usually possess little or nothing for any type of investment. This, in return, can lead to a number of other problems, such as slow development.

Risk of capital flight

A very high balance of payments deficit can cause a lack of confidence by foreign investors, thus diminishing the value of a country’s currency. This change, in the long-term, can lead to a decline in living standards and a further lack of investors’ confidence (when investors are not confident in the economy, they tend to choose to invest in other countries; thus depriving some of the valuable assets).

An indication of an unbalanced economy

A high focus on domestic consumption can lead to long-term losses that are triggered by a lack of investment. This may lead to an unbalanced economy, torn between short-term and long-term spending.

An indication of an uncompetitive economy

A current account deficit may imply the economy is becoming uncompetitive and the exchange rate relatively overvalued.

Risk of depreciation

When there is a current account deficit, there is always a risk of currency fall. If no sufficient capital flows to finance the deficit are present, the exchange rate will fall. A depreciation in the exchange rate will cause imported inflation for consumers and firms that are dependent on the import of materials.