President Trump believes in bilateral trade negotiations, with tariffs, if necessary, to cure alleged imbalances. House speak Paul Ryan is on board with a Border Adjustment Tax (BAT) proposal.
Wall Street Journal writer Greg Ip says Deficits Are a Flawed Guide to Unfair Trade.
At least one of the positions is wrong.
President Donald Trump seems to be spoiling for a fight with some of America’s biggest trade partners. The problem is how he judges victory. “I’m trying to find a country where we actually have a surplus of trade as opposed to a deficit,” Mr. Trump groused last month.
The U.S. has a trade deficit because it consumes more than it produces. Lacking sufficient savings, the U.S. sells assets such as stocks, bonds or other IOUs to foreigners to finance consumption and capital spending. A trade deficit always equals an inflow of foreign capital.
This deficit arithmetic isn’t controversial; the dispute is over what causes it. Mr. Trump and Peter Navarro, director of his National Trade Council, blame unfair trade, arguing that other countries are cheating in the global trade arena. His critics say it’s the appeal of the U.S. as a destination for investment.
Both arguments are an oversimplification. Trade deficits and capital inflows result from a combination of U.S. and foreign saving, consumption, and investment behavior, much of it benign but some of it not.
Mr. Trump’s argument implies there should be some correlation between protectionist barriers and the trade balance. There isn’t. Brazil and India are highly protectionist yet run persistent trade deficits because they save less than they invest. Conversely, Germany, and Switzerland have low tariffs yet run persistent trade surpluses because of their high saving relative to investment.
In the past, Chinese currency intervention and tight controls on capital inflows kept the yuan artificially cheap and its trade surpluses inflated. Brad Setser of the Council on Foreign Relations says Taiwan and South Korea have held down their currencies via currency intervention and by encouraging domestic investors to buy foreign assets and discouraging foreign investors from buying domestic assets.
These actions are legitimate cause for complaint. Yet finding an effective deterrent has eluded previous presidents and it’s not clear what Mr. Trump can do differently. Punishing China for manipulating its currency makes less sense now that China is trying to prop it up, rather than push it down as in the past.
Mr. Trump might use deficits to pick the wrong fights. Mexico runs a trade surplus with the U.S. Mr. Trump seems determined to fix it by renegotiating the terms of the North American Free Trade Agreement and slapping tariffs on companies that outsource production to Mexico.
But Mexico runs a trade deficit with the world as a whole. The U.S. would be attacking a country that on net is reducing the world’s excess of saving, not contributing to it. If the economic and diplomatic damage weren’t enough, that’s one more reason for the president to be careful about how he picks his battles.
Bilateral Nonsense
Ip is correct about many things, especially Mexico. It’s more than a bit ridiculous to propose Mexico rebalance with the US when such a tactic would increase Mexico’s overall imbalance.
Were Mexico to react the same was as Trump proposes, Mexico would raise tariffs with the rest of the world. But have tariffs helped India or Brazil? Any country?
A global trade war would undoubtedly start if deficit countries all took to tariffs as the cure.
Undervalued Yuan?
Talk of an undervalued yuan is nonsense. China is acting to strengthen its currency.
Trump ought to be happy about that. He isn’t. And if China removed capital controls and floated the Yuan, the yuan would likely crash.
Japanese Savings
IP notes “Japan’s high-saving workers fueled its trade surplus; as those workers have retired and spent their savings, the surplus has disappeared.”
That’s not quite accurate. The Japanese government squandered every bit of Japanese savings and much more, building bridges to nowhere in a foolish endeavor to defeat deflation.
Consumers vs Jobholders
IP notes “When another country subsidizes its exports and restricts imports, it benefits American consumers at the expense of domestic factory workers.”
In other words, the US benefits and the other country loses. Does it make sense for everyone in the US pay dramatically more for cars, clothes, food, electronics, etc to save a few thousand jobs?
Of course, not. Standards of living rise when more goods are available at cheaper and cheaper prices. Thus, the entire notion of “fair trade” to force up prices is ridiculous.
Don’t Blame NAFTA
Trump and Navarro moan about NAFTA causing a loss of US manufacturing jobs. If anything, NAFTA stabilized or increased US manufacturing jobs for six or seven years thanks to an increase in bilateral trade.
The demise of US manufacturing jobs started in June of 1979, long before anyone could blame either Mexico or China.
US Balance of Trade in Goods with Mexico
Goods Trade with Mexico
It’s impossible to make a realistic case that NAFTA hurt the US.
Effective deterrent
Ip says “Finding an effective deterrent has eluded previous presidents and it’s not clear what Mr. Trump can do differently.”
Actually, it’s quite simple. The trade imbalance mess and a whole array of associated problems started when Nixon closed the gold window.
Explaining Balance of Trade
The seeds of trade imbalances were sewn in 1971 when Nixon closed the gold window. The trade deficit rose, then skyrocketed.
Total Credit Market Debt Owed
Following Nixon closing the gold window on August 15, 1971, credit soared out of sight to the benefit of the banks, CEOs, the already wealthy, and the politically connected.
Confusing Savings With Monetary Printing
One final place IP goes wrong pertains to savings imbalances. It’s a huge mistake to confuse monetary printing with savings. Let’s start with a proper definition of savings:
Savings = production – consumption.
The entire notion of a “savings glut” based in dollar terms is nonsensical.
Every country on the planet is spending far more than it takes in. Central banks print monetize the debt to make up the difference. That cash, printed out of thin air, gets deposited and is widely referred to as “savings”.
The system is so distorted, it’s impossible to measure the pool of real savings. But we can say the system sure has been good for the 1% and especially the 0.1% who have amassed most of the world’s monetary wealth.
Related Articles
- Trump Accuses Germany of “Currency Exploitation”: Merkel vs. Trump, Is Either Side Telling the Truth?
- Navarro Nonsense and the Folly of Trump’s Proposed Tariffs
- Hugo Salinas Price and Michael Pettis on the Trade Imbalance Dilemma; Gold’s Honest Discipline Revisited
My challenge to the Secular Stagnation Theory of Summers has gone unanswered.
Mike “Mish” Shedlock
Here:
https://www.bloomberg.com/view/articles/2017-03-16/the-man-who-made-us-see-that-trade-isn-t-always-free
Is another view.
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“IP notes “When another country subsidizes its exports and restricts imports, it benefits American consumers at the expense of domestic factory workers.”
In other words, the US benefits and the other country loses. Does it make sense for everyone in the US pay dramatically more for cars, clothes, food, electronics, etc to save a few thousand jobs?”
I don’t disagree, but I do have what I consider an important caveat. The real wealth of a nation is in its ability to produce things of value. And by “things of value”, I mean things that are difficult to produce.
Those are things that require highly technical intellectual property, robust manufacturing skills and highly-skilled workers. By being able to produce these things, you get higher profits and can compensate your workforce better.
“Standards of living rise when more goods are available at cheaper and cheaper prices.”
This is only true if goods are available at cheaper prices relative to wages. If wages are declining with prices, there is no net benefit, at least in the aggregate.
In summary, if you are a nation which can use free trade to get cheaper prices, while simultaneously always seeking to produce higher value goods, then you can generally be assured of a higher standard of living. Abrogating the second part of that equation, as the USA has, leaves you where the USA is today.
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“highly technical intellectual property, robust manufacturing skills and highly-skilled workers”
Piracy, an ancient skill set, helped make the USA into a great industrial power, a fact that should not be swept under the carpet and completely forgotten. The USA started out with little of the above when it grew into an industrial powerhouse. The USA purloined its intellectual property and manufacturing prowess, for example essentially stealing (no compensation) everything from textile factory plans for New England to Charles Dickens novels from the UK. One might even argue that USA piracy of UK property had some benefits for the UK, as it meant the USA could more reliably payback UK capital invested in the USA (e.g. to build railroads and mines). Incidentally, much of the railroad labor was initially imported from China and then later deported. That is the other face of USA superiority or exceptionalism. Eventually the old pirates grown rich become the respectable establishment, and new pirates prey on the old pirates. Perhaps USA will one day again be preying upon China for technology.
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When kids learn how to read, they aren’t stealing literacy from their teacher. Just pointing that out.
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Yet the US is nowadays champion of intellectual property.
Family used to buy and distribute pirate video to the middle-east in the 80’s, no laws there against that there then so all above board. Would be a race between competing outlets to get a first copy of new films, then a race to get a good copy ( as in not filmed in a cinema with people walking around the screen….) . After that copyright laws came in across the region along with Dessert Storm and Shield, end of small local businesses and in with commercial media giants… brought in a harsh foreign influence alongside, as opposed to the kind of friendly scene that was there before.
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Totalitarian elites always depend on excuses to have the government harass others on their behalf. The currently fashionable one is ridiculously over expansive “interpretations” of what the government has a “right” to harass A over on account of some real or imaginary B’s so called “private property.”
It’s convenient for the junta and it’s fellow travelers, since it can piggyback on old Cold War propaganda and indoctrination slogans. “You don’t ‘Believe’ in private property. You’re a commie, blah blah…” and so forth.
All it really is, though, is the same old government overreach and theft by the entrenched aristocracy that used to be excused by blue blood and the like. Instead of “you’re not allowed to do this, and have to fork over that because the King said so,” it’s “You’re not allowed to do this and have to fork over that, because otherwise some bankster-who-can-afford-lot’s-of-lawyers’s poppeti vaijue may be “lowered.” Same old tyranny, just new window dressing to keep the captive drones from getting uppity.
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Indeed, the real reason for the deficit is in our natural propensity to emphasize our current standard of living, rather than our future standard of living. Compare the Indians who sold Manhattan Island for blankets, beads and trinkets. Those improved their standard of living in the short term, but how much did they benefit them in the long run? A generation later they were discarded and disposed, and those that bought the land had the better of the bargain.
Similarly, today we are selling our land to foreigners, and in turn buying blankets, cell phones, and trinkets. The latter benefit our standard of living in the short term, but in ten years they will all be in landfills, and we will be paying rent to rent the real estate that we sold to get them.
Tariffs won’t change this. The only thing that will change it is to encourage investment, and to discourage consumption. One way to accomplish that would be to eliminate the income tax and replace it with a sales tax that applies only to consumed goods rather than durable goods.
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Regarding the Yuan, although not completely correct, it is simpler to view Chinese trade as being solely in Dollars. That is to say the value of the Yuan is not that relevant while it is pegged. So you end up with a picture of China simply trading out goods and saving dollars it earns into US investments/debt. You end up with this odd situation where you buy something from China for a dollar and borrow that dollar back, continuously, and that dollar is always yours anyway as you created it and can destroy it, while in pure money terms China gains some interests plus a claim on dollars to be able to transact with globally with efficiency while keeping its domestic Yuan accounts and economy apart and ‘managed’.
So let’s be clear if the US :
Does not like the flow of capital to or through China
Does not agree with completely losing manufacturing under its control
Thinks that certain manufacturing has place in the US, whether for jobs/economic cohesion or any other reason
Is at a point where it cannot justify the above cycle of debt, where for example there is not the US demand available and a restructuring of capital flows needed to return capital to the US consumer
And so on, I could add others, the point being it is not as straightforward as would be made out.
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““When another country subsidizes its exports and restricts imports, it benefits American consumers at the expense of domestic factory workers.”
In other words, the US benefits and the other country loses. Does it make sense for everyone in the US pay dramatically more for cars, clothes, food, electronics, etc to save a few thousand jobs?”
No one wins or loses – those spent dollars transfer capital and its acquisitive power to another. You recognise the effect in Eurozone, US China has the same dynamic. That US owns its own currency is really beside the point as the structural effect on productivity still plays out.
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One small problem with your analysis… When jobs move overseas, it doesn’t matter how cheap the imported goods are, if you don’t have a job so you can pay for them.
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The welfare state makes up for that. With everything becoming an entitlement. No job might be the rational alternative, the best choice in a welfare state where prices and taxes go up faster than wages.
Not much of a nation, if it cannot survive the migration of a few jobs overseas by creating new industries with more automation and higher wages. All the regulatory, taxation and permit barriers are at fault, stopping this normal progression. At $35,000 for an automobile made in the USA and arguably overpriced relative to wages, alternatives should naturally develop (e.g. Uber, leases/used car glut). Might not be so bad if people learned to create their own clothes like Gandhi’s India did to help break the need for British textile imports. USA needs to be more creative than brute force of tariffs and taxes. This is really a national sales tax on imports, an Orwellian version of a productivity-sapping VAT.
All an import tax does is shift subsidies and transfer payments around, which helps build political blocs. My fear is that when the Dems inevitably comeback to power, the import taxes will be doubled as the most painless way to fund Obamacare 2.0 and a super-sized EPA, HEW and other welfare state entities. Permanently higher prices via import taxes are not a good idea, especially since new factories will be super-automated because employers will be fearing living wage mandates, Obamacare 2.0, etc. USA needs to scrap the tax and regulatory barriers to innovation. A strange contradiction that anti-tax and anti-regulation Trump administration sees import taxes and a new regulatory bureaucracy to collect and administer these taxes as the solution to the problem created by taxes and regulation. Hence, cannot work. Will be Trump’s Obamacare fiasco, to delight of Dems who will rebuild big government in the post-Trump era using import tax revenues on top of restoring personal and business taxes to higher levels. Trump is ensuring himself a loser legacy by indirectly laying the groundwork for a Totalitarian Marxist State under Democrat/Socialist rule if he implements this folly under a job creation pretense. I would have expected this tax proposal from Hillary and Bernie, not Trump.
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Thanks for another great article – one that should be sent to students!
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Greg Ip’s first chart supposedly demonstrates a weak link between tariffs and trade. The only problem is most countries on the chart have GDP smaller than California and Singapore is just a small city state. WSJ used to have higher standard than this… Sad!
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