Is the Trade Deficit Really Bad?

I think America’s trade deficit is the biggest single obstacle to creating manufacturing jobs or keeping manufacturing jobs in the country. I also agree with Warren Buffet who says, “The U.S. trade deficit is a bigger threat to the domestic economy than either the federal budget deficit or consumer debt, and could lead to political turmoil.”

I think America’s trade deficit is the biggest single obstacle to creating manufacturing jobs or keeping manufacturing jobs in the country. I also agree with Warren Buffet who says, “The U.S. trade deficit is a bigger threat to the domestic economy than either the federal budget deficit or consumer debt, and could lead to political turmoil.”

But, I am a realist, and it is pretty obvious that many pundits, bloggers, Wall Street bankers, multi-national corporations, and the Obama Administration do not share my concerns. In fact, most stories in the media are focused on the federal deficit and which political party has the most blame. It is as if the trade deficit is an open ended charge account that is simply an accounting summary that will never have to be paid back. Here are some samples of people who don’t think the trade deficit is a big deal:

  1. “Don’t worry about the trade deficit – It’s meaningless” – Ron Baker says, “Trade deficits and surpluses are merely accounting conventions with no explanatory relationship to the underlying reality of an economy. It helps to keep in mind that countries do not trade people do. Stop worrying about their accounting fiction known as the trade deficit. It’s meaningless, and leads to harmful effects in public policy that destroys wealth.”
  2. “Bad trade deficits typically indicate insufficient saving” – Scott Sumner says, “In press discussion of trade balances, it is almost a given that surpluses are good and deficits bad. This is a mistake: not all trade deficits are bad, even those that reflect some deeper problem in the economy.”
  3. “Trade deficits aren’t as bad as you think”- George Alessandria says, “Over the business cycle, we also see that trade deficits are often associated with strong and continued growth and are a sign of good things to come.”
  4. Trade deficit is really a capital surplus – Benjamin Powell says, “As long as our country remains a good place to invest and we have a low savings rate, foreigners are hoping to invest in the U.S. more on net then we invest overseas. That will generate a capital account surplus and the resulting trade deficit. This is a good thing.”
  5. Is the U.S. trade deficit a problem? – Greg Mankiw says, “The trade deficit is not a problem in itself, but is a symptom of a problem. The problem is low national saving.”

Many of these assertions might have some truth, depending on how each person benefits from the economy, but I want to make the specific case that running long term trade deficits is bad for the creation of manufacturing jobs in America, and bad for the middle class.

Let’s begin with some basics

Trade deficits must be financed. A country simply cannot have a trade deficit unless private or government investors are willing to finance it. In the case of America, we have had a trade deficit for 39 years, and it is now more than $8 trillion. This is not simply an accounting convention — it is real debt.

To finance our trade deficit, we borrow money from our trading partners. Our two biggest trading partners are Japan and China, both who send the excess money they earn back to U.S. by buying U.S. Government bonds, and other government assets, so that we buy more of their imports.

Normally, trade deficits are self correcting because as the deficit grows the country’s currency begins to decline in price in the world market. This makes exported goods less expensive and foreign goods more expensive, and trade is supposed to balance itself.

In the case of America, this balance is not happening because many of our trading partners have figured out how to manipulate their currencies to keep the dollar value high so that they can continue to increase our imports China and Japan are the biggest manipulators, but Hong Kong, South Korea, Taiwan, Switzerland, Singapore, and Malaysia are also currency manipulators

Who are the winners?

As in most economic issues that are no completely wrong or right answers. The truth is that there are winners and losers. The business group that is the biggest winner are the multi-national corporations. They have built plants in China and other foreign countries to sell products to the country and back to the U.S. They are able to take advantage of fewer environmental and safety regulations, manipulated exchange rates, foreign subsidies, and cheap labor to sell cheap products back to the U.S. as imports. They do not want the U.S. government or the WTO to interfere with their foreign partners (particularly China) and spend huge amounts of lobbying money on Congress to maintain the status quo. The multi-nationals are profiting from our ongoing trade deficit, even if the country is not.

The other winners in this game are the Wall Street Banks who can make profits all over the world, and foreign investors who use their profits to invest in America. Small and large exporting companies also benefit from the trade deficit game, although 72 percent of all exports are from large companies of more than 250 employees. Exporting is really a big company game and they are setting the rules for everyone else.

Who are the Losers?

There are just as many articles that describe the evils of trade deficits as there are authors who like trade deficits. A February 2014 report from the Economic Policy Institute shows that trade deficits have contributed to the elimination of 5.7 million American jobs over 15 years. Even though President Obama promised to hold China accountable in the last election, he has done nothing about currency manipulation. So the primary losers under our current policy of accepting growing trade deficits are working people, jobs, manufacturing, communities, states, and many industries.

Let me begin by saying that I believe in the free enterprise system, open markets, reducing tariffs and subsidies, and fair trade. But free enterprise and free trade depend on open competition and a level playing field for all trading countries.

The problem is America does not compete in a free trade level playing field environment. Currency manipulation by China, Japan, and other countries distorts trade flows and artificially lowers the cost of imports and raises the cost of our exports.

Currency manipulation is the primary cause of our trade deficit, and is illegal under WTO rules, but neither Democratic nor Republican administrations have been willing to do anything about it.

The positive message in the EPI reports is that realigning our exchange rates could:

  • Reduce our trade deficit by up to $500 billion by 2015
  • Increase our GDP growth by 4.9% per year
  • Grow the number of manufacturing jobs by 16% or 2,300,000 jobs
  • And the increased tax revenues could reduce the federal budget deficit $266 billion by 2016

Robert Scott, the primary author of the report says, “New fiscal stimulus is all but impossible, so ending currency manipulation is the best available tool for stimulating demand for domestic spending and ending the hangover of excess unemployment from the Great Recession.”[1]

The Unknown Factor

Besides the current winners and losers, there is another dangerous factor that sits like a landmine in the garden. The winners and supporters of trade deficits assume that financing trade deficits can go on ad-infinitum. But at some point the lenders may decide that they are holding too many dollars or U.S. Securities, and reduce or stop loaning us money. Or even more likely, we may get into a military or state department dispute with China, and they could punish us by cutting off the loans.

This could cause a rapid devaluation of the dollar and lead to a currency crash. In a short period of time the prices of foreign made goods would double or triple, and interest rates would skyrocket, leading to a stock market crash and perhaps a worldwide recession.

The trade deficit is slowly hollowing out our economy. We have lost approximately 12% of our high value jobs in manufacturing, transportation, and the professions. When these people find new jobs they almost always take a pay cut which has led to the decline of median household income.

Ignoring the growing trade deficit and accepting the status quo would certainly benefit the multi-national corporations, Wall Street, foreign investors, and our trading partners who run surpluses with us. But I am afraid it would be bad for the country, working people, and manufacturing, and create an economy with permanent low GDP growth, high unemployment and underemployment, and few good job opportunities.

You don’t have to be an economist to see that accepting growing trade deficits with no plan to reduce the debt (or even pay for the debt) is a house of cards waiting for some kind of macro economic trigger to cause a collapse. Sometimes I wonder what ever happened to the old conservative philosophy of regularly balancing accounts, paying your bills on time, saving for a rainy day, and deferred gratification.

This whole trade deficit senario reminds me of the Titanic after it hit the iceberg. There is only a slight tilt to the deck and the ship is sinking very slowly. The low price ticket people in the bottom deck are up to their knees in cold ocean water and know something is very wrong. The elite ship owners and first class passengers are in the opulent bar toasting one another with Courvoisier. They get terribly upset when the Captain orders the bar closed, but seem to be unaware that the entire ship is going down.

[1] Stop Currency Manipulation And Create Millions of Jobs, Robert Scott, Economic Policy Institute, Washington D C, Feb. 2014

The views expressed in this op-ed piece are those of the author and do not necessarily represent the views of, and should not be attributed to, Advantage Business Media.

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