Why is the trade deficit so deeply, so profoundly, so consistently misunderstood?
Read this report in today’s Washington Post. Pay special attention to the following remark:
some economists said the bigger worry is the long-term risk to the economy posed by ever-growing trade and budget deficits. The deficits reflect that Americans consume more than they produce and borrow the difference from abroad.
Ignore the fact that, contrary to the reporter’s implication, the deficit in Uncle Sam’s budget is not exclusively funded by foreigners. The more-significant error is the common one of supposing that the trade deficit (the current-account deficit, to be precise) is necessarily debt. It is not.
A foreigner who sells things to Americans can, like any American who has dollars, choose to use his dollar earnings in any number of different ways, only some of which create debt. For example, if a foreigner buys bonds issued by General Electric, he lends his dollars to an American company; debt is created.
But to the extent that foreigners who hold dollars actually hold dollars – or invest in U.S. real estate – or purchase equity shares in U.S. corporations – no debt is created. None. Nada. Nil. Zero. Zippo. Zilch.
Why do so many people so thoroughly and invariably miss this obvious fact?