Trumpian Trade Trouble: A Clash with Economic Reality

As I’ve shared before, I am excited by some of Mr. Trump’s economic agenda, and his executive orders even this week on regulation are a great first step toward unleashing the American economy.  When I consider our budget issues going forward, the best way to enable any other necessary change is for faster economic growth.  Yet what he gives with one hand, Mr. Trump threatens with the other in his views on trade.

Mr. Trump prefers businessmen to economists, which might be o.k. if his businessmen had a good grasp of basic economics, but he has chosen people that generally go with his nationalistic agenda–which is really just a revival of the mercantilist doctrine that Adam Smith crushed in his An Inquiry into the Nature and Causes of the Wealth of Nations.  Since Smith, economics has demonstrated both theoretically and empirically that voluntary trade always benefits both parties.  This is true of economists on both the left and the right; consider Former Vice Chair of the Fed, Professor Alan Blinder, who is on the left side of the economic and political spectrum:

In running our personal affairs, virtually all of us exploit the advantages of free trade and comparative advantage without thinking twice. For example, many of us have our shirts laundered at professional cleaners rather than wash and iron them ourselves. Anyone who advised us to “protect” ourselves from the “unfair competition” of low-paid laundry workers by doing our own wash would be thought looney.

Yet Mr. Trump continues with the economic fallacy that an increase in exports is the way to increase the wealth of nations.  So this week one of the major controversies is his administration’s possible proposal to count goods that come in for re-export as imports only while not counting them as exports.  The sole purpose of this is to make the trade deficit appear worse, in order to justify his view that we are “losing” on trade deals.   This is really economic quackery, for multiple reasons.  First, I could sort of understand not wanting to count the net exports as contributing to the economy since the goods were not originally produced here.  But to count them as imports without counting them also as exports is totally bogus.  Yet there is a more fundamental point about re-exports, which shows the basic economic ignorance of the administration.  Why do the goods come into the U.S. in the first place?  Other countries are not going to ship goods through the United States to get to another country unless it provides some net benefit.  That very fact is demonstrative that the U.S. adds value to the goods re-exported, which is therefore properly accounted as our contribution via the Net Export category of our GDP calculations.  Trumpian logic would be no different than saying we shouldn’t consider Walmart’s sales as part of our economy, since they only re-export goods that someone else produced.  If Walmart adds value to the process (and indeed they do), then so does the resident U.S. “re-exporter.”

Yet we also can’t ignore his ignorance about the trade deficit itself, assuming a trade deficit with an individual country is bad.  So what if we have a merchandise trade deficit with an individual country? Why would it matter if we had a $500B deficit with China, if we had a surplus of $500B with Europe?  I run a huge trade deficit with Walmart and Costco locally; I keep buying goods from them and they never buy anything from me.  I must really be a “loser” in my trade with Costco.  But I run a continual trade surplus with my students; they keep buying my economic training but I’m never willing to buy any of their output!  But of course even that is meaningless; even if we had no surplus with any other nation, but had an overall trade deficit, that does not necessarily indicate any problem, since by necessity our trade deficit must be offset by a capital account surplus.  If countries like China do not take the dollars we give them and turn around and buy our goods, they will use those dollars to invest in our country.  Attracting foreign capital is generally a very good thing, and countries that allow the free flow of capital do significantly better than those that do not.  As just one example close to home, the Chinese-owned Fuyao Glass Company now employs about 2000 people in Dayton in the old GM Moraine plant.  These are manufacturing jobs that Mr. Trump claims to love. So what’s the problem?

And here is the kicker:  Since the balance of payments must balance, and the capital account (labeled as Foreign Investment Surplus below) will be offset by the current account (roughly the trade deficit), Mr. Trumps policies are therefore mutually exclusive.  He wants to make America great again with a stronger economy, and to the extent he succeeds that’s going to attract foreign capital (as America will be comparatively a better place to invest).  But that capital inflow will lead inevitably to an increase in the trade deficit.* This isn’t ideology, this is simple accounting.

balanceofpayments

I propose an alternative path for Mr. Trump:  Let the millions of Americans decide who they want to trade with, rather than centrally directing that choice from Washington DC to benefit favored cronyists in the U.S.

*Ignoring the possible offsets the central bank could make to sterilize any currency flow through a change in official reserves–something that can’t do much over the long term anyway.

 

14 thoughts on “Trumpian Trade Trouble: A Clash with Economic Reality”

  1. One small note, and yes you already established this isn’t that important, Trump believes we have a trade deficit with every country. I’m not quite sure how he believes that, but I question many of his beliefs.

    Are you saying that a trade deficit is a good thing? Or you think it doesn’t matter? I had always viewed a trade deficit as a bad thing, but granted I’m not as knowledgeable about global economics.

    If I’m following your logic here. There is only so much USA cash, so if we have a trade deficit and more of it is going out then coming in, then either that money is getting invested back into our country or our supplies of cash are diminishing or we are over printing money.

    Interesting.

  2. Good article that points out many of the flaws in Trump’s economics. I feel as though many people chose to vote for Trump as an anti-establishment candidate who’s different than typical “politicians,” but unfairly associated economists with this group of “politicians.” While one could argue that political corruption has gotten out of hand in recent years, the field of economics has generally led to great discoveries over time, and it is important for leaders to look at these findings when implementing policy.

  3. Very interesting article because I was not very informed about Trump’s economic plan. It’s interesting to read about this since we have been learning about some of this in class. Is there a reason that Trump prefers businessmen over economists? Is it just because he knows they will support his plan?

  4. I remember you mentioning this in class the other day. Do you think Trump will ever change his policies? He’s trying it one way, but after a year or so do you think he’ll reverse his policies?

    1. Only if he’s forced to. He’s in the “honeymoon” phase, which the D’s didn’t even give him, and I suspect the R’s will soon have it over.

    1. Crony capitalism always ends badly in the sense that some are enriched at the expense of others. Crony capitalism is zero sum, unlike free market economics.

      EDIT Update: To clarify when I said zero sum, I was referring to the zero sum fallacy whereby when one side wins, it is at the expense of the other side. Many fallaciously think this is what happens in free markets. However, that result does happen in crony capitalism. The very benefit to the cronyist comes at someone else’s expense. This is not to imply a mathematical zero value to the social welfare function.

  5. Very informative article! It explained a lot of nuances that I didn’t really understand when it came to Trumps economic policies. All in all what is the greatest harm these policies will inflict?

  6. Just have to say that I loved this class day. I never understood how it was okay the US had a huge trade deficit and was still able to function as it does.

  7. I like the amount of articles written about Trump because I am feeling more educated about all of his policies than I have with presidents in the past. I do agree with the fact that it would be o.k. that he choses business men over economists if they were more educated on basic economics. I agree that Trumps ignorance about the trade deficit itself is a problem.

  8. Trump’s trade policies continue to be an enigma to me, especially considering that he got his bachelors in economics from Wharton. You would think that this would have some more positive bearing on his trade policies, but I guess not. What gives me some peace of mind on the matter is that I doubt Congress is going to sit back and let free trade be run out of town by the new sheriff. Now, I know Trump has talked about renegotiating several trade deals, and, if he makes them simpler and expands the freedom, that would be terrific. This may be wishful thinking, but we’ll see.

  9. Also, correct me if I’m wrong, but it seems like we would want to run a trade deficit, if it means more capital, yes?

    1. We want the best mix in our balance of payments–whether that is higher current account and lower capital account or the reverse doesn’t matter to me–the market can and will decide in a way that will maximize consumer welfare. It’s of course true that some producers will not like the result, but the gains to other producers and all consumers dwarf that pain that some producers will feel.

  10. I’m a little nervous that we have to just sit back and see which one of his mutually exclusive agendas holds more weight to see if we come out ahead. What makes me really nervous is that the one, the investment into our country, is based on the idea that our country is better than the alternatives, and that doesn’t seem to be the case.

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