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 Richmans' Trade and Taxes Blog

Economist for the WallStreet Journal Has It Wrong on Trade
Raymond Richman, 3/19/2017

Greg Ip, chief Economics Commentator of the Wall Street Journal, wrote an article (3/16/20!7) entitled,  “Deficits are a Flawed Guide to Unfair Trade”. First the term “unfair trade” is seldom if ever used by economists. They usually speak of countries employing mercantilist practices (i.e., tariff and non-tariff barriers to trade including export subsidies). Second, economic theory maintains that balanced trade is always beneficial to both trading partners, even when one of them imposes barriers. Third, when trade is not balanced, it is surely beneficial for the trading partner with the trade surplus. It gains jobs for its workers, it contributes to economic growth, and it gains reserves in the form of foreign currency and government bonds.  It is probably not beneficial for the party experiencing the trade deficit, depending on what the party with the surplus does with the currency it receives in exchange for the trade surplus. What is important to all trading partners is their balance with the world. The U.S. has been running a trade deficit with the rest of the world for decades which has converted the U.S. since about 1970 from the world’s leading creditor to the world’s leading debtor. 

Mr. Ip states that U.S trade deficits “result from a combination of saving, consumption and investment behavior". To his credit, Mr. Ip does acknowledge that unfair practices, including subsidized exports, benefits the American consumer at the expense of American factory workers. However, fixing unfair practices, he writes, “won’t necessarily correct the overall deficit…Persistent trade deficits reflect structural factors.” That is a statement which on its face is incorrect. There are many causes of chronic trade deficits including artificial barriers, exchange rates that do not equilibrate, inappropriate government policies which is what he probably meant by “structural factors”, etc. He writes, “The U.S. has a trade deficit because it consumes more than it produces. Lacking sufficient savings, the U.S. sells assets…to foreigners to finance consumption and capital spending.” He ignores the fact that U.S. multi-nationals have been saving but invest much of their savings abroad and many export some or most of their product back to the U.S. As for financing capital spending, that’s what moving factories abroad means. The trade deficits are not caused by American consumers who buy very little directly from foreign countries but by foreign and domestic corporations that import autos and consumer goods much of whose value is produced abroad.                                                                                                       

His principal structural imbalance is the inadequacy of domestic saving. Savings can be defined as income minus consumption. Consumers' incomes greatly exceed their savings but much of their income is taxed away. When savings are deficient, the U.S. in Mr. Iip's view, must import consumer goods. The culprit of necessity has to be the government which consumes too much. He does not mention that. Moreover, U.S. companies when they invest or relocate factories abroad are using American savings but investing abroad. From the national point of view, businesses and government are doing the dissavings which is all that Mr. Ip's structural imbalances means. Gross domestic product (GDP) is defined as the sum of C (consumption), I (private investment), G (government C and Investment) and net exports (exports-imports, X-M). They all interact with one another.  Investment abroad made by Americans is not included. Mr. Ip believes that C, G, and I are independent variable while X and M are determined by the others. It is just as true to say that M – X affects the others as much as the latter is affected by them.

Whether or not trade is fair or unfair or Americans are investing too much abroad, a country suffering from a chronic deficit with another, whatever the cause, is authorized under international law to take action against it. Mr. Ip writes that Mexico has a trade surplus with us but a trade deficit with the rest of the world. Then let Mexico export to the countries with which it has a trade deficit or impose tariffs to force them to import from Mexico. That is what Pres. Trump is suggesting we do to Mexico. Under international law, that’s fair. Of course, if trade is balanced with the rest of the world, imposing any tariff would be unjustified.

Mr. Ip (B.A. in Economics?) writes, “Mr. [sic: Pres.!] Trump and Mr. [sic: Prof. of Economics!] Peter Navarro, director of his National Trade Council, argue other countries are cheating at trade” which is an “oversimplification”. He then argues that protectionism is no guarantee of a favorable balance. “Brazil and India are highly protectionist yet run persistent trade deficits.” True, but a tariff makes the trade surplus country pay for the advantage it may be taking as a result of our lack of response.

Mr. IP does not mention that American companies moved factories from the U.S. to foreign countries and exported the goods formerly made here back to the U.S. What U.S. structural factors cause caused that? The result is less savings and investment here, U.S. savings and investment flowing abroad, with disastrous  consequences for American workers and economic growth. There is nothing fair about that.

Waiting for structural change to change means waiting endlessly for trade to be balanced. Regardless of what the cause of the chronic trade deficits may be, the results, economic stagnation, slow growth, and loss of good-paying factory jobs, are intolerable. In our book, Balanced Trade (Lexington, 2014) we proposed a single-country-variable-tariff which we called the Scaled Tariff and which rises and falls as a chronic trade deficit rises and falls. The revenues will more than offset the higher prices consumers will have to pay. But the cost to consumers need not be high. Six countries plus the European Union accounted in 2016 for 97% of the $734 billion deficit. The major countries were China, Germany, Japan, South Korea, and Mexico. Import prices need not rise as much as the scaled tariff rate. If the scaled tariff is applied to them, imports would tend to shift to countries not subject to the scaled tariff. The rise in consumer prices might be substantially less than the scaled tariff rate.

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Comment by Bruce Bishop, 3/22/2017:

Re:  "True, but a tariff makes the trade surplus country pay for the advantage it may be taking as a result of our lack of response."  There is no way that China will "pay" for the advantage it is taking.

The American people -- especially the poor and working class, who shop at BigBoxMart -- will pay the tariff.

Anything that can be manufactured can and will be manufactured in China at one-third to one-tenth the cost that we could produce it for.  

There is no politically viable tariff that will "bring back American jobs."  China's advantage is simply insurmountable.  The only way to balance trade with China would be to impose hard limits as proposed by Warren Buffett back in 2003.

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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]

    Journal of Economic Literature:

  • [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....

    Atlantic Economic Journal:

  • 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]