Dec. 16 (Bloomberg) -- The U.S. current-account deficit unexpectedly narrowed from July through September, as insurance payments and donations from abroad poured in following Hurricane Katrina, a government report showed.

The deficit, the broadest measure of trade because it includes transfer payments and income from investments, shrank to $195.8 billion last quarter from a revised $197.8 billion the previous three months, the Commerce Department said today in Washington. It was the second straight narrowing after a record $198.7 billion in the first three months of the year.

The deficit is still likely to widen because demand for imported goods is rising as the economy grows, economists said. The trade deficit unexpectedly increased to a record $68.9 billion in October, as imports of crude oil, autos and televisions rose, a government report earlier this week showed.

``The insurance payments are going to go away,'' said Jay Bryson, global economist at Wachovia Corp. in Charlotte, North Carolina. ``The outlook remains very bleak.''

Economists forecast a third-quarter deficit of $205 billion, according to the median of 48 estimates in a Bloomberg News survey, from an initially reported $195.7 billion shortfall in the previous quarter. Estimates ranged from deficits of $185 billion to $219.4 billion.

Because the insurance payments represent one-time events, it doesn't suggest the deficit will continue narrowing, said Joseph Abate, a senior economist at Lehman Brothers Inc. in New York.

6.2 Percent

``On net, the current account figure will continue to reflect the fundamental problem of the growing trade deficit,'' Abate said. Economists at Lehman projected a $190 million gap for the third quarter.

The gap equals 6.2 percent of gross domestic product, compared with a record 6.5 percent reached in the first three months of the year. The deficit set a record in six of the last seven years. The U.S. would need to attract about $2.1 billion a day to fund the gap and keep the value of the dollar steady.

Americans imported $182.8 billion more goods and services than they exported in the third quarter compared with a $173.6 billion trade gap the prior three months.

The U.S. paid foreigners less income on their holdings of American assets than it received from U.S. investment abroad. That's helped to restrain the deficit.

Foreign Earnings

Foreign earnings on U.S. assets, including wages and other compensation, rose to $118.2 billion in the third quarter from $112.7 billion in the previous three months. Income on overseas assets held by U.S. investors rose to $118.7 billion from $111.1 billion. That left a $512 million surplus on income payments, compared with a $1.5 billion deficit in the second quarter.

Net U.S. government payments to foreigners and other private transfers abroad registered a $13.5 billion deficit, smaller than the $22.6 billion deficit in the prior quarter. The decrease reflects payments from foreign insurance companies for hurricane damage along the Gulf Coast, and public and private donations.

The third-quarter shortfall was the smallest since the third quarter of 2001, when insurance payments also surged following the Sept. 11 terrorist attacks.

The mere fact that the deficit has held at more than 6 percent of GDP is ``one of the major puzzles'' in the international economy, outgoing Federal Reserve Chairman Alan Greenspan told Congress last month.

Greenspan

The U.S. has been able to support a record current-account deficit in part because individuals, companies and governments are more willing to invest their money outside of their home markets, Greenspan said Nov. 14 in a speech to the Banco de Mexico.

``The rise of our deficit and our ability to finance it appears to coincide with a pronounced new phase of globalization that has emerged in the past decade,'' Greenspan said. A jump in U.S. productivity, which raises returns on U.S. assets, is supporting this trend, as is a ``decline in what economists call home bias, the parochial tendency to invest domestic savings in one's home country.''

Still, the Fed chairman said the flow of capital across borders and the reduction of the ``home bias'' has some ``practical'' limit, and the funding of the current-account deficit will become more difficult. Rising deficits ``cannot persist indefinitely,'' and at some point investors will ``balk'' at further financing U.S. imports, especially if returns on assets outside the U.S. begin to outperform those in the U.S.

Investing in the U.S.

So far, that hasn't been a problem. International investors increased their net holdings of U.S. assets by a record $106.8 billion in October as strong growth and rising interest rates lured funds to the world's largest economy, a Treasury report yesterday showed. The increase was more than enough to cover an unexpected widening in trade deficit to a record $68.9 billion for the month, according to figures issued this week.

``This is a huge financing nut, but so far, it's not a problem,'' said Ken Mayland, president of ClearView Economics in Pepper Pike, Ohio. With strong economic growth and a likely smooth transition to Ben Bernanke as Fed chairman next year, ``I don't see any opportunity for major policy gaffes that will cause a catastrophic loss of confidence in the U.S.,'' Mayland said. ``This is a dream scenario, but there is only a small difference between a dream and a nightmare.''

To contact the reporter on this story: Carlos Torres in Washington ctorres2@bloomberg.net.

Last Updated: December 16, 2005 08:48 EST