Think That Trade Deficits Are Bad? Think Again
In yet another 140-character lesson in economics, President Trump has looked at the trade balance and once again demonstrated a level of understanding of the impact of trade that would earn him an “F” in any good first-year economics class.
In a tweet Wednesday morning the President directly linked economic growth rates to the trade balance, and lamented: “The U.S. recorded its slowest economic growth in five years (2016). GDP up only 1.6%. Trade deficits hurt the economy very badly.” President Trump, as he does about so many economic issues, sees the world as divided into ‘winners’ and ‘losers’, with the winners enjoying a trade surplus and the losers suffering a trade deficit. By that logic, the United States was ‘winning’ in the 1970s era of stagflation, and ‘losing’ in the high-growth 80s and 90s. Maybe in bizarro world.
In terms of trade surpluses, the U.S. achieved its high-water mark in 1975. That was the last year it enjoyed a trade surplus – and a year when GDP growth was negative at -0.2%. The surplus was over $12 billion, but would anyone describe the U.S. economy at the time as something to emulate? It was a period when the nation seemed to be trapped in low economic growth, with high unemployment and inflation rates. Indeed, one of the reasons the U.S. had a trade surplus is because Americans had relatively little money to spend on foreign goods. Was the nation better off for it?
The United States isn’t the only country where trade balances do not reflect economic growth or wealth creation. If trade surpluses were a magic wand to make wealth appear, why hasn’t it done so in Angola, Ghana, Mongolia, Mozambique, or Uzbekistan, all of which enjoyed trade surpluses last year? For that matter, why has Japan’s continuing string of trade surpluses failed to lift its economy out of a 20-year-plus cycle of tepid growth and deflationary malaise? (A trend that Trump singularly failed to forecast in 1989, when he said: “Japan is sucking the blood out of us.” According to the CIA World Factbook, the U.S. achieved growth rates of 1.6, 2.6. and 2.4 percent over the past three years. Slow but steady, but they look positively dazzling compared to Japan’s GDP growth rates of 0.0, 0.5 and 0.5 percent during the same period.)
Just as trade surpluses are not necessarily signs of economic health, trade deficits are not necessarily signs of economic stagnancy. The United States owes its trade deficit primarily to the fact that its dollar is the closest thing the world has to a truly safe currency. By extension, there's strong demand for U.S. assets. As a result, other countries use some of their holdings in U.S. dollars to buy U.S. assets rather than U.S. goods. (The United States receives more foreign direct investment than any other country, and has no problem selling its T-bills in China.) So it is not surprising that Americans buy more goods from other countries than other countries buy from the United States. The result, not surprisingly, is trade deficits. But in order to eliminate them, how many Americans would really want to trade away all the economy enhancing investment? Be careful what you wish for.
That $12 billion trade surplus in 1975 turned into a $153 billion trade deficit by 1987, largely because of an expansionary fiscal policy (tax cuts most notably), a policy that could also be called Trumponomics, combined with tight monetary policy, a course that the Federal Reserve seems to be once again intent on. In other words, the result of President Trump’s policies would likely be even higher trade deficits as the U.S. dollar grows in value.
To get a sense of what really drives U.S. trade deficits (and surpluses) consider that the American trade gap began sinking in the late 1980s as the dollar depreciated and economic growth in other countries led to increased demand for U.S. exports. But the trade deficit swelled again in the late 1990s as the U.S. economy once again grew faster than the economies of America's major trading partners, and Americans consequently were buying foreign goods at a faster pace than people in other countries were buying American goods. High growth stimulates trade deficits; slower growth reduces them.
The dispiriting thing about hearing American politicians complain about trade deficits is the fact that the United States enjoyed its greatest economic growth levels in recent years in the 1980s and 1990, at a time when the country recorded its highest trade deficits. Some of its worst years for economic growth occurred in the 1970s, when the country recorded a couple of years of trade surpluses. Is bringing back ‘the 70s show’ the best way to ‘make America great again?’?