Saturday, October 21, 2006

Trade Deficit Angst

Protectionist Pat Buchanan worries about our trade deficit in a recent column, and free trade economist Walter Williams responds in his column:


First, he laments, "Europeans, Japanese, Canadians and Chinese sell us so much more than they buy from us, because they have rigged the rules of world trade." But so what? I buy more from my grocer than he buys from me. It wouldn't make a difference if I lived 2 feet south of the U.S.-Canadian border and my grocer lived 2 feet north of it.

Like many, Buchanan worries about our foreign trade deficit, pointing out that it's reaching an annual rate of $816 billion, and that means "dependency on foreigners." Actually, the foreign dependency is a two-way street. I'll explain it, starting with the alleged trade deficit I run with my grocer.

When I purchase $100 worth of groceries, my goods account (groceries) rises by $100, but my capital account (money) falls by $100. That means there's really a balance in my trade account. By the same token, my grocer's goods account (groceries) falls by $100 but his capital account (money) rises by $100, also a balance in his trade account.

Mr. Buchanan writes, "Imports surged to $188 billion for the month [of July], as our dependency on foreigners for the vital necessities of our national life ever deepens." That means we imported $188 billion worth of goods. Do foreigners keep all those dollars they earned under a mattress? They are not that stupid. They use those dollars to import capital goods such as U.S. stocks, bonds and U.S. Treasury notes.

They might use some of it to build factories in the U.S. such as Honda, Novartis and Samsung. The dollar amount of those purchases is going to equalize the value of what we import. We sport a huge surplus in our capital account with foreigners. As such, they are dependent on us for a safe and profitable place to invest their earnings. That dependency contributes to our economic growth.
Remember: The balance of payments always balances, and equals zero. We hear a lot about the "trade deficit" for merchandise (about $800 billion), without hearing about the offsetting and matching surplus on our capital account (about $800 billion). Trade statistics are based on double-entry bookkeeping, so there HAS to be an overall balance. BP = 0.

Do a Google News search for "current account deficit" and you'll get about 2200 hits. Search for "capital account surplus" and you'll get about 542 hits? Hmmmmmmmm. Even though a capital account surplus of $800 billion is just the flipside of a $800 billion current account deficit, and they are really just two sides of the same coin, we hear about 4X as much/often about the trade deficit, as the capital surplus?

What's to complain about anyway when we have a trade deficit? We get access to the world's cheapest goods and increase our consumption, and more of the world's goods end up here than our goods end up there. In other words, a trade deficit of $800b means we end up in the USA with a net increase of $800b in foreign-produced goods. We end up with more stuff, why do we even call that a "trade deficit" in the first place? Actually, it is because we follow the money, and NOT the goods. We end up with a cash outflow and a goods inflow, and we call it a "trade deficit."

If we tracked and recorded where the actual merchandise and goods actually end up and get consumed, instead of where the money ends up, we would then think of our trade balance as a $800 billion trade surplus, no? I am not sure the general public understands that a "trade deficit" really means that we end up with "more stuff" and is really a "stuff surplus?"

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