The Trade Deficit Isn’t Big Enough

An old article of mine that puts some aspects of trade in perspective.
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If the anti- trade crowd’s fears are correct then the problem with the trade deficit is that it isn’t big enough.

Consider what the anti-trade crowd might portray as a worst case scenario. In dollars, US prices of everything are above foreign prices for the same things. In foreign currency, foreign prices of everything are below US prices for the same things. Moreover there is no comparative advantage in anything (The comparative advantage constraint is for the Techies. You can ignore it.).

We start with normal trade and suddenly introduce this worst case scenario. Both US and foreign consumers stop buying US goods and increase their buying of foreign goods. Both actions increase the US trade deficit, tremendously. Foreigners now have a huge trade surplus, and. foreign employment goes through the roof. Ostensibly, this is good for foreigners.

Since everyone has stopped buying US goods, US employment heads toward zero. However, US purchases of foreign goods don’t immediately go to zero, because US households have cash reserves that will last awhile.

The anti-trade crowd would characterize this as a disaster for us. They are wrong. While our cash reserves last, foreigners are sending us food, cars, computers, and other things that are useful. They are getting nothing useful in return, only pieces of paper called dollars. They must be keeping their dollars, because the scenario can exist only if they do. The reality is that foreigners have become our slaves.

The anti-trade crowd might counter that this bliss will end soon, because we will run out of money. That presumes our government fails to act appropriately. As long as the foreigners don’t wise up, and they keep hoarding their dollars, then, for all practical purposes, their dollars have been destroyed. Then, it doesn’t matter if our government replaces them, by printing more, and giving them to us. In this manner, we can continue to buy foreign goods, forever.

Evidently, the anti-trade crowd’s worst nightmare really is the closest we in the US could ever come to heaven on earth. If the anti-traders’ fears were real, then we all could retire on as high a standard of living as we wanted. Unfortunately, the anti-traders are wrong.

The problem is that foreigners are not stupid enough to fall for this. They will buy US goods with their dollars. After all, getting something for your work is better than getting nothing. If foreigners start buying US goods, we’ll have to produce them. That, unfortunately, means work for us. Our utopia will collapse.

The end result is that foreigners will buy about the same value of US goods as we buy of foreign goods. But if that’s true, how can there be a trade deficit? Easy, just don’t count some of the foreign buying of US goods. For example, suppose foreigners buy Rockefeller Center with their dollars. Rockefeller Center is not counted as an export, because the foreigners do not ship it home.

The real problem with the trade deficit is its definition and how we misinterpret it. The only important thing is whether foreigners have bought something produced here, not what the something is, and not whether they ship it home. Indeed, it’s better if they buy Rockefeller Center, and leave it here, rather than TV sets that they ship home. If Rockefeller Center stays here, we can extort the foreigners if they don’t treat us right. If push comes to shove, we can expropriate Rockefeller Center back. The same goes for just about all the other things not counted as exports that foreigners buy with their dollars, such as stocks and bonds.

The international trade story has much more to it than the trade deficit. But keep in mind that if the anti-traders are so wrong on this aspect of international trade, they’re probably pretty wrong on the rest of it.