Trade deficit shrinks, so what?

The trade stats for 2019 show that the trade deficit shrank by $11b, a 1.7 percent drop.  This is an economically significant number.  But what does it mean?  Trade deficits reflect the difference between exports and imports.  They shrink if exports grow, holding imports constant, or if imports decline, holding exports constant.

Nothing is ever held constant in the real world, however.  In 2019 the volume of both exports and imports became smaller, reflecting the trade barriers created by the US and some of its trading partners.  But imports declined more than exports, so the deficit shrank as well.

Are we better off with a smaller deficit?  Exporters would say no.  Nor would the companies with global supply chains that have had to play guessing games with tariff timing and exemptions.

Protectionism has sprouted up in a number of countries as part of a portfolio of nationalist, inward-looking policies.  Politicians promised that trade wars would lead to domestic job growth.  So far, there is no evidence in the US of a recovery in manufacturing in response to a smaller volume of imports.

About that trade deficit report

Not sure anyone would want to be the White House messenger who had to tell the boss that the US set a trade deficit record in 2018.  The general public probably found this news surprising, given the multiple-front tariff wars going on.

Economists did not find the record deficit to be surprising at all.  The US economy has been growing more rapidly, meaning everyone has greater spending capacity.  Some of that spending is going to be for imports.

At the same time, Europe and China are slowing down, putting a damper on exports.  Put the two together and, voila, fewer exports + more imports = larger trade deficit.

Different ways of looking at trade deficits

Tim Taylor's Conversable Economist blog has some updated information about trade balances for the world's largest economies.  Germany ($296b), Japan ($196b) and China ($165b) run the largest surpluses in the world in absolute dollar amounts.  The US ($466B), UK ($107b) and Canada ($49b) run the largest deficits, again in absolute dollar amounts.

It is useful to compare these surpluses and deficits to the size of the relevant economy.  Germany's surplus represents 8.0 percent of German GDP, whereas China's accounts for a mere 1.4 percent of Chinese GDP.  Yet China has been cast as the rogue nation in the eyes of the President and much of the media.

As for the US, its trade deficit represents 2.4 percent of US GDP.   This is quite a bit smaller than the UK (4.1 percent).  Turkey perhaps has the biggest trade deficit challenge of any country at 5.6 percent of GDP.

Regrettably media discussions of trade deficits never consider the size of the deficit in relationship to the size of the country.  Turkey's deficit of $47.4 billion subjects its citizens to destabilization risk far beyond what any US citizen has to worry about.

All you need to know about trade ... in 70 words

Courtesy of former Secretary of State George Schultz and Harvard professor Marty Feldstein in today's WP:

If a country consumes more than it produces, it must import more than it exports. That’s not a rip-off; that’s arithmetic. 

If we manage to negotiate a reduction in the Chinese trade surplus with the United States, we will have an increased trade deficit with some other country. 

Federal deficit spending, a massive and continuing act of dissaving, is the culprit. Control that spending and you will control trade deficits.

What trade deficits really mean

Harvard's Greg Mankiw explains in this NYT Upshot column what happens when a country runs a trade deficit.  When imports are greater than exports, this results in lower GDP.   But is this something we should really be concerned about?

Mankiw points out that the trade deficit is accompanied by a foreign investment surplus.  When businesses overseas sell more to us than we sell to them, they have to do something with the funds they accumulate.  In practice that means they either end up buying US assets or make physical investments in the US, e.g., Siemens opening facilities here.  And guess what?  The investment foreign companies make in the US is considerably larger than the investments US firms make overseas.  In other words, there are many more cases like Siemens than like Carrier.  

Viewed differently, US consumers are able to have a higher standard of living by being able to import goods from overseas.  Investors overseas are able to invest in a relatively "vibrant and safe" economy.  So why would you want to mess with this?

What Chinese trade surplus?

Although the US is still running a trade deficit with China, today's NYT reports that overall China's trade with the entire world is very close to being balanced.  In other words, even though China exports more to the US than it imports from the US, China imports more from the rest of the world than it exports to the rest of the world.  This is a big change from 2007, when China's trade surplus represented 10% of Chinese GDP. 

What has happened to shrink China's trade surplus? The NYT article cites rising wages in China and increased transportation costs, both of which make Chinese exports less competitive.  Also, the Chinese renminbi seems to be rising in value.  The global recession did not exactly help China on the export front as well. 

Trade and jobs

Interesting bipartisan WSJ op-ed last week focusing on how trade boosting measures would lead to more jobs here in the US.  The authors note that growth in overseas economies such as Brazil, China, and India is much higher than domestic growth, so any steps that would allow American companies to tap into that growth would pay economic dividends domestically.  The authors make three key points: (1) the US should more aggressively recruit firms from outside the US to invest here and open facilities, (2) the US should focus its trade deals on countries that are in the best position to generate job creation (of the deals that are awaiting Congressional approval, Korea makes sense, Colombia and Panama not so much, what about a deal with Brazil?), and (3) the US needs to rethink how it prepares workers for global competition (instead of paying unemployment benefits to workers who have lost their jobs to overseas competition, why not try to retrain them for newly emerging opportunities?). 

iPhone study raises questions about trade deficit with China

Economists at the Asian Development Bank Institute took an in-depth look at how the iPhone is handled in our trade statistics.  The manufacturing cost of an iPhone is $178.96.  Final assembly of iPhones takes place in China so every iPhone we import drags down the trade deficit by that amount.  However, it turns out that only the final assembly takes place in China whereas other components are made elsewhere.  The Chinese contribution to the iPhone amounts to a mere $6.50.  The point?  Be very careful when you start to make claims about the trade deficit with China based on official trade statistics which use the $178.96 not the $6.50. 

Even if iPhones contribute to the trade deficit, they make up for it in other ways.  The iPhone is sold at a considerable markup in the US and other countries, and don't forget about all the music and app sales, data and voice plans, and the emerging trend of retail purchases by phone.   

Services and global trade

Michael Cox, an econ prof at SMU's b-school, has a stimulating NYT op-ed today on the role of services in global trade. All too many discussions of our trade deficit focus on goods (including the President's call to "export more of our goods" in his State of the Union speech), where we do indeed run quite a deficit. However, the US runs a substantial trade surplus on traded services, especially travel, education, media, consulting, and finance. Cox argues that these are the sectors where the US is likely to have the greatest success in opening up new export opportunities.