The Trade Deficit Does, Too, Matter

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Never have I seen a political issue so susceptible to sophistry - in the original sense of that term connoting tricky conceptual sleight-of-hand - as trade economics.

[Ian Fletcher| March 29, 2016 |Huffington Post]

Never have I seen a political issue so susceptible to sophistry - in the original sense of that term connoting tricky conceptual sleight-of-hand - as trade economics.

America’s trade deficit, which has fluctuated around the $500 billion per year mark for a decade, is real money, period. It is actual wealth that somebody pays to somebody else, and that somebody then owns and somebody doesn’t. That’s how money works.

But free traders persist in “explaining” how it somehow, mysteriously, isn’t real, doesn’t count, doesn’t affect anything important, etc.

Case in point: Neil Irwin of The New York Times just authored another embarrassingly pseudo-academic piece arguing that the deficit number is just a “scorecard.” Money flowing out of the country from trade deficits is balanced by investment from those countries coming back in, he says. It’s an ignorant Trumpian (and Sandersian?) obsession to even care about it.

Economist Dean Baker does a nice job taking Irwin apart on standard macroeconomic grounds. The Baker piece is an important read. Trade deficits do cause higher unemployment, and investment inflows don’t offset the effect. And the trade deficit helped cause our current stagnation.

Economist Paul Krugman - continuing his journey towards trade reality - agrees with Baker’s critique of Irwin. The investment flowing back into the US from China and other surplus countries basically give us no benefits, and certainly no jobs.

It’s worth reviewing, one more tedious time, the inescapable basic logic underlying trade deficits, which makes clear why they can’t not matter:

1) Nations engage in trade. Americans sell people in other nations goods and buy goods in return. (“Goods” in this context means not just physical objects but also services.)

2) One cannot get goods for free. So when Americans get goods from foreigners, we have to give them something in return.

3) There are only three things we can give in return:

a) Goods we produce today.

b) Goods we produced yesterday.

c) Goods we will produce tomorrow.

This list is exhaustive. If a fourth alternative exists, then we must be trading with Santa Claus, because we are getting goods for nothing.

Here’s what a) - c) above mean concretely:

a) is when we sell foreigners jet airplanes.

b) is when we sell foreigners office buildings in the U.S.

c) is when we go into debt to foreigners.

b) and c) happen when America runs a trade deficit. Because we are not covering the value of our imports with a) the value of our exports, we must make up the difference by either b) selling assets or c) assuming debt.

If either is happening, America is either gradually being sold off to foreigners or gradually sinking into debt to them. Xenophobia is not necessary for this to be a bad thing, only bookkeeping: Americans are poorer simply because we own less and owe more.

As I said, it’s real money.

And the fact that political candidates may be using this fact for (what the reader may or may not consider) political mischief doesn’t make the fact itself go away.

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