The ravings of a certain candidate for President — in case you have been living under a rock, I mean the one that has been having a bad hair decade — about the evils of the US trade deficits with China, Mexico, Japan, and assorted other countries reminded me of a column I wrote for the New York Times in another election year, 1984 to be exact. So I went back and looked for it, and it seemed sadly still to be relevant, so I will reproduce it here. Not that I expect it to contribute much to general enlightenment, but, at times like these, one feels that one just has to do something to resist the madness.
The Much Maligned Trade Gap
No economic statistic is reported more dolefully these days than the country’s trade balance.
Ever on the alert for signs of impending economic disaster, the press routinely couples reports of record monthly trade deficits with warnings of experts and Government officials of the dangers of the deficit.
Just what is so dangerous about receiving more goods from foreigners than we give them back is never actually explained, but it is often suggested that that it causes a loss of American jobs.
News reports sometimes even provide estimates of the number of jobs lost owing to every billion dollar increase in the trade deficit. Heaven only knows how these estimates are made, but presumably they are based on the assumption that imports deprive Americans of jobs they could have had producing domestic substitutes for the imports.
It almost seems tedious to do so, but it apparently still needs to be pointed out that buying less from foreigners means that they will buy less from us for the simple reason that they will have fewer dollars with which to purchase our products.
Thus, even if reducing imports increases employment in industries that compete with imports, it must also reduce employment in export industries.
Moreover, the notion that the trade deficit destroys domestic jobs is contradicted by the tendency of the deficit to increase during economic expansions and to decrease during contractions.
The demand for imports rises with income, so imports normally tend to rise faster than exports when a country expands more rapidly than its trading partners. The trade deficit is a symptom or rising employment — not the cause of rising unemployment.
That balance-of-trade figures are misunderstood and misused is not surprising, since their function has never been to inform or to enlighten. Their real purpose is to provide spurious statistical and pseudo-scientific support to groups seeking protectionist legislation. These groups try to cloak their appeals to protection with an invocation of the general interest in a favorable balance of trade.
Anyone who has ever thought about it has probably wondered why a country that gives up more goods in trade than it gets back is said to have a favorable balance of trade.
If you have ever wondered about it and couldn’t think of an answer, don’t worry, because you are in good company. Adam Smith couldn’t either. “Nothing,” Smith once observed, “can be more absurd than this whole doctrine of the balance of trade, upon which . . . almost all the . . . regulations of commerce are founded.”
The absurdity of the doctrine ought now to be manifest owing to the current international debt crisis. The crisis, as we all know, arose because large numbers of developing countries are apparently unable to make the scheduled payment on loans to American banks from which they borrowed.
It is, I believe, just about universally acknowledged that it would be a bad thing if the debtor countries failed to repay their loans.
The debtor countries would suffer because they would be less able to borrow in the future, and thus less able to import the products they need to take care of their populations and to promote development.
Creditor countries would also suffer because default would impose huge losses on the banks and their shareholders. And since such losses might undermine the domestic and international banking systems, they would undoubtedly be made up, at least in part, by the Government and the taxpayers.
Yet it is remarkable how little, even now, the relationship between the ability of the debtor countries to repay their debts and the size of the American trade deficit is understood. For everyone continues to rail against the trade deficit even though reducing it would make the default of the debtor countries all the more likely.
A simple example will help to explain why that is so.
Suppose I borrow money from you and promise to repay you next year. And, for simplicity, suppose that neither of us engages in transactions with third parties. Thus, I produce goods, some of which I consume myself and the rest of which I sell to you, and you produce goods, some of which you consumer and the rest of which you sell to me.
Now the reason that I am borrowing from you is that the value of the goods I want from you this year exceeds the value of what I am willing to sell you this year. But next year I shall have to sell you enough not only to cover what I buy from you, I shall have to sell you enough to earn the money with which to repay you.
Thus, to avoid default, I must run a trade surplus with you next year. And if you want to be repaid, you have to reconcile yourself to the idea of running a trade deficit, because repayment consists in, and is equivalent to, my trade surplus and your trade deficit.
The debtor nations are faced with default because they haven’t enough dollars to repay the banks from whom they have borrowed. Why not? Because their trade surplus with the United States — our trade deficit with them — is too small for them to earn the dollars they need for repayment.
How could they earn more dollars? 1. They could reduce their imports from us. 2. They could increase their exports to us. 3. They could borrow more dollars from us. 4. We could give them the dollars.
The first two options both imply an increase in our trade deficit. That sounds bad only if you ignore the alternatives. The third option might have some attraction if the debtor countries could repay their existing debts. But since they can’t even do that, further lending seems inadvisable.
The fourth option, it goes without saying, is the economic equivalent of default.
Those who insist that the United States trade deficit must be reduced had better think through the implications. They should ask themselves whether they really want to drive the debtor countries to the wall and whether they are prepared to absorb the losses associated with a default by the debtor countries just to stop American consumers from buying as much of the products of debtor countries as they want.
Allowing unrestricted access of those products into our markets would not necessarily prevent default, but maintaining or tightening restrictions can only increase the likelihood and the severity of an eventual default.
And at a more fundamental level, isn’t there something perverse in first lending to someone, and then, after having refused to accept payment, hauling him into court because he won’t pay his debts?
Which brings to mind the following thought: the very same candidate that is promising to convert the US trade deficit into a trade surplus is also the candidate that wants America’s European and Asian allies to increase their payments to the US to cover the costs incurred by the US in defending them? How does this candidate suppose that these allies can simultaneously increase their dollar payments to the US without either exporting more to, or importing less from, the US. Or perhaps the candidate believes that these allies can just print the money with which to purchase the dollars from the US, and then pay us back with the dollars they acquired with the money they printed. But that would mean that their currencies would depreciate against the dollar. But this candidate doesn’t like it when other countries devalue their currencies against the dollar; the candidate calls that currency manipulation. My oh my, what a tangled web we weave . . .