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There Is a Trade Multiplier. There Is No Keynesian Multiplier
Raymond Richman, 6/18/2011

Economists are Gung-ho on the so-called Keynesian multiplier. They must believe in fairies, too. The Keynesian multiplier theory was proved to be non-existent in 1937 when GDP fell after FDR’s New Deal government expenditures slowed.  The economy did not recover until war broke out in Europe and our exports took off. And as we observed recently, the modest recovery produced by Pres. Obama’s Recovery Act of 2009, his economic stimulus plan, roughly $800 billions spent in 2009-2011, GDP fell after expenditures slowed in 2011. These two instances are evidence that the Keynesian  expansion ends as soon as the increased government spending ends. What this means is that increasing government spending is not a sensible policy to promote recovery from the recession.

What is the Keynesian multiplier? It is the theory that an increase in government spending will not only increase GDP by the amount of the expenditure tbut that recipients of the increased income will increase their consumption spending, and the recipients of income from that increased consumption expenditure will increase their consumption and so on. If, on the average, income recipients consume 80 percent of their income, the total increase in GDP will be five times the increased government expenditure (1 +.8 +.82 + …+ .8n  = 5). The trouble is that households increase their annual consumption only when they have confidence that their increased income is expected to be permanent.

While there is no Keynesian multiplier, there is a trade multiplier associated with  chronic trade surpluses and deficits. China and the U.S. are good examples. One observes how the Chinese GDP took off beginning in the 1980s as a result of its growing trade surpluses.  And there is a negative multiplier associated with trade deficits as we can observe in the slowing down of growth and the loss of manufacturing jobs during the past four decades in the US as we went from being the world’s leading creditor to becoming the world’s leading debtor in a few short decades as a result of our growing trade deficits.

Why do we continue to do nothing about our trade deficits? Because the vast majority of academic economists are free-traders! Pres. Bush’s and Pres. Obama’s advisors are all free traders.  The reason why economists ignore the trade deficits in advocating policies for economic growth is a long story that begins with the age mercantilism in the centuries  before Adam Smith wrote his Wealth of Nations.Essentially free trade is an ideology, not the product of science. Only balanced trade can be proven to be beneficial to all trading parties; each gives up a bundle of goods it values less for a bundle of goods it values more. It may be a matter of degree but all countries engage in some mercantilist practices. According to an OEEC report, the U.S. duties were significantly lower than any other industrial nation.  The remarkable growth of China during the past four decades, and Japan and  Germany since WWII can be attributed to their mercantilist practices and their success in achieving a so-called favorable balance of trade, mostly at the expense of the U.S. which experienced an unfavorable balance of trade with those countries which slowed America’s growth. The Americans who suffered the most from our trade deficits were those employed in manufacturing, the American workers who experienced slow growth in wages – recently stagnating wages and unemployment. It goes without saying that our reliance on imports for our energy needs contributed. China, Japan, Germany and many others continue to impose barriers to imports and to subsidize exports.

There is no reason to tolerate chronic deficits whatever the cause of the deficits. Most American economists favor depreciation ofl the value of the U.S. dollar as a way of bringing trade into balance. The dollar fell in the last decade against the Euro by 50 percent with little if any effect on Germany’s trade surplus with the U.S. The trade deficits are not only economically disadvantageous to the U.S. but they  threaten the world economy by weakening the value of the world’s reserve currency. Japan since WWII and China since the 1870s clearly pursued mercantilist policies. When we sponsored China for membership in the World Trade Organization, we were aware of its protectionist policies just as we were aware of Japan’s mercantilist policies. In both cases, we have engaged in endless talks to get them to change their practices. Talking has had no results.

The trade deficits may become an issue in the next presidential election. Donald Trump and Sarah Palin have mentioned the need to take action against the trade deficits. Every other candidate has avoided the subject.  A few other economists have  joined us in stressing the need to take action. It is surprising how few in number they are  given the fact that in calculating the GDP, the trade balance is explicitly included – you may recall from your Econ 101 course the following formula: GDP = C + I + G + (X – M) -- it is surprising that economists only talk about Consumption (“It is not enough!”), Investment (“It is not enough!”) and Government (“We need another stimulus plan!" The enormous current government expenditures are "way too much"! according to Republican economists. What about (X-M) fellow economists?!!

The trade deficits were, and continue to be caused by foolish domestic economic policies – another long story – and foolish foreign policies. Including the latest, our involvement in the global anti-carbon emissions policies which acts like a new age of  mercantilist policies that hamper the search for and development of fossil fuels in the US and offshore and in the Arctic and which is currently hampering the development of its enormous reserves of natural gas. 

We proposed a remedy, the country specific scaled tariff which is imposed on countries with which we are experiencing large chronic deficits whatever the cause and whose rates go down as trade becomes more balanced.

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Comment by CAESAR H7500+, 3/29/2013:

I would like to appreciate your hard work you did write this post, Thanks for sharing this valuable post. 

Comment by, 2/8/2014:

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  • [An] extensive argument for balanced trade, and a program to achieve balanced trade is presented in Trading Away Our Future, by Raymond Richman, Howard Richman and Jesse Richman. “A minimum standard for ensuring that trade does benefit all is that trade should be relatively in balance.” [Balanced Trade entry]

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  • [Trading Away Our Future] Examines the costs and benefits of U.S. trade and tax policies. Discusses why trade deficits matter; root of the trade deficit; the “ostrich” and “eagles” attitudes; how to balance trade; taxation of capital gains; the real estate tax; the corporate income tax; solving the low savings problem; how to protect one’s assets; and a program for a strong America....

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  • In Trading Away Our Future   Richman ... advocates the immediate adoption of a set of public policy proposal designed to reduce the trade deficit and increase domestic savings.... the set of public policy proposals is a wake-up call... [February 17, 2009 review by T.H. Cate]