What causes trade deficits by countries
Overall trade barriers are estimated costs of total trade obtained within a gravity model of bilateral trade patterns. These results do not mean that tariffs and other trade barriers have no effects. Suppose the United States were to impose prohibitive tariffs or an absolute ban on steel imports. These imports would drop to zero. The ban would protect US steelmakers from foreign competition.
But a small appreciation of the dollar just over 1 percent would be sufficient to increase imports in other categories and reduce exports in all categories by the same amount on net. There would be a reduction in total trade exports plus imports , and thus we would lose roughly a proportionate amount of the very large net benefits of trade. Why would the dollar appreciate? The answer is that a steel tariff, in isolation, does not change household saving behavior or overall business investment though it may shift across sectors as production rises in the steel industry and falls in other industries.
A trade deficit is an excess of investment over saving, whereas a trade surplus is an excess of saving over investment. The most important government policies influencing trade imbalances are fiscal balances and currency intervention.
A higher fiscal balance increases national saving directly. Currency intervention consists of government borrowing at home to invest abroad with no net change in public saving or investment. The domestic borrowing raises interest rates, increasing private saving and reducing private investment at home, with opposite effects in the rest of the world.
Figures 3 and 4 show that these policies do have important effects on trade balances. Note that an increase in the trade balance caused by either of these policies operates roughly equally through higher exports and lower imports with little effect on total trade and thus little effect on the net benefits of trade. In a forthcoming book, Currency Conflict and Trade Policy: At the same time, about 35 percent of the US trade deficit was explained by foreign currency intervention and another 25 percent by the US fiscal deficit.
Going forward, the most productive policies for keeping the US trade deficit on a sustainable path are to prevent another outbreak of currency manipulation among US trading partners and to gradually reduce the US fiscal deficit. The data underlying this analysis are available here [zip]. The implicit put option is that any future downward pressure on the dollar would spark currency intervention by foreign central banks that would allow investors to unload their dollars without taking a large loss.
The studies generally focused on the current account balance, which is the broadest measure of trade. A 1 percent appreciation would have a proportionally smaller effect. If the tariff were viewed by investors as a harbinger of a damaging trade war or generally bad economic policies, it might reduce inward investment in the United States, causing the dollar to fall and the trade deficit to narrow.
Trade in both directions carries abundant advantages. I realize that everyone can't be net exporters. Am I missing something? Yes, Greg, you are. There's no multiplier effect. For every dollar of exports over imports, remember there's a dollar of excess savings over investment. Hence for every excess dollar of exports, which is bringing in a dollar of revenue, there's a dollar going out into foreign assets such as sovereign bonds, stocks, or direct investment. You are both right and wrong to some extent.
The partial equilibrium answer is that net exports can boost output and even have a multiplier effect. However, in the long run output should remain at potential and saving should increase or investment decrease to make room for higher net exports.
I actually disagree with the general conclusion that only monetary tools affect trade. If the last 20 years have proven anything it is that balances are imminently changeable by policy actions, as long as we define policy actions very broadly and understand that some key assumptions can be significantly affected by such implicit policies. Typically they are not your typical trade barriers and are hard to account for in the models. Let me list just a few I have run into:. It is the same illogic that drives a human being to suicidal decisions for the sake of larger polity.
Perhaps no aspect of American trade is talked about more and understood less than the trade deficit. It has been cited as conclusive proof of unfair trade barriers abroad or a lack of competitiveness among U. It has been blamed for destroying jobs and dragging down economic growth.
I welcome the opportunity to present a more charitable view of this much abused trade number. We have become a net importer of capital because Americans do not save enough to finance all the available investment opportunities in our economy. This inflow of capital from abroad allows us to pay for imports over and above what we export.
In other words, the trade deficit is simply a mirror reflection of the larger macroeconomic reality that investment in the United States exceeds domestic savings. If we want to change the U. Two of them relate to causes, two to consequences.
The first myth is that the overall U. Foreign barriers are certainly a problem, just as our own barriers to imports remain a problem. But trade restrictions do not determine the overall U.
For example, the United States runs a large trade surplus with Brazil, a country with relatively high trade barriers, while we run deficits with Mexico and Canada, two countries virtually open to U.
The second myth is that trade deficits are caused by a lack of U. This myth has been refuted by the stellar performance of the American economy, which today is the envy of the world. Since , the U. During that same time, U. The American people sell more goods and services in the global marketplace than people of any other country.
A third myth is that trade deficits destroy jobs. Again, the performance of the U. While the trade deficit has expanded, so have American payrolls. Indeed, there is a strong correlation between rising trade deficits and falling rates of unemployment. The reason is simple: