Keeping Trade Facts Straight

by Don Boudreaux on January 31, 2006

in Trade

JR offers the following comment on this blog-post of mine inspired by my perusal of a 1975 Sears catalog:

Were the products in 1975 made in the US? Where are they made today?

Sure, we can borrow the money from the Chinese to maintain a high standard of living. What we’re doing is mortgaging the productivity of our children in order to keep up a high standard of living for ourselves.

Contrary to JR’s suggestion, it’s not true that, if things once made in the U.S. are no longer made in the U.S., Americans are borrowing more from foreigners. The relationships that JR implies in his post aren’t real.

Most fundamentally, let’s make the extreme assumption that everything Sears sold in 1975 was made in America and that everything it sells today is made not-in-America. This fact (if it were a fact) in no way implies, or even suggests, that Americans are borrowing from foreigners. It might well be the case that Americans’ comparative advantage over the past 30 years has shifted from producing things such as hand tools, television sets, paint, and automobile tires into producing commercial aircraft, Hollywood movies, magnetic-resonance-imaging machinery, and other goods and services not sold by department stores. That is, Americans are exchanging MRI machines, Pixar animation, and Boeing jets for electric hand tools, tires, and lawn mowers.

Of course, the United States is running a trade deficit (as it has done since 1976) – meaning that at least part of what foreigners spend their dollars on is not U.S. goods and services but, rather, dollar-denominated assets.

As I’ve written on other occasions, this fact – the existence of a trade deficit – does not mean that Americans are borrowing from foreigners. It means only that foreigners are holding dollar-denominated assets (including, possibly, dollars themselves) rather than cashing these out for U.S.-made goods and services.

Good or bad? We applaud when Americans don’t rush to spend their dollars on goods and services but, instead, invest these dollars.  Why in the world (so to speak) should we feel differently about foreigners doing the same? If it’s good for the economy for Joe in Jackson Hole to save and invest in America, why is it not good for Gerhard in Gummersbach or Milton in Malaysia to do so?

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{ 26 comments }

Jaroslav Borovicka January 31, 2006 at 11:00 pm

The trade deficit might not of course be itself a problem, as isn't the capital inflow, as long as you accept that the ownership shifts from the hands of domestic agents to the foreigners. I don't have a problem with that (I'm not American, and not a trade protectionist), but think about average American guy. Now I'm not thinking about the economic but rather political consequences.

Kevin February 1, 2006 at 12:40 am

Sadly, Jaroslav is certainly right that a lot of average Americans (being not steeped in Ricardo) do seem to have a problem with trade, and with foreigners giving us their hard-earned money in return for pieces of paper (or database entries?). Hence Cafe Hayek's work is never done…

Often find myself reminding people that our unemployment rate is extremely LOW, not high. I recall a decade ago sitting in class and being taught that unemployment below 6% was unsustainably low! Now it's 4.9%.

People want everything to be made-in-USA, who the heck would be making all that stuff? Where would the labor come from? There are not enough Americans; 95% of us are otherwise occupied, and much of that remaining 5% probably aren't terribly competent. And that's after decades of bringing women into the labor force and importing Mexicans to pluck our chickens.

Should we have stuck to manufacturing washing machines, plastic toys, and steam irons instead of inventing the Internet and sequencing the human genome? Can you imagine if our smartest nerds were stuck designing car seats instead of writing operating systems and designing Internet routers? Should our doctors drop their stethoscopes and hit the factory floor? Well, maybe we could put the lawyers to work.

Russell Nelson February 1, 2006 at 2:44 am

Because they're furriners, Don! Everybody knows (even if it's not true) that capitalists make all the profits, and employees never get paid more than they did yesterday, or more than the competitor pays (again, not true), so when furriners own American assets, they make all the profits! And then they take them home and spend them on their own stuff and never buy anything from Americans.

Yeah, it's so wrong it's laughable, but I'm sure that's what people are thinking (and to call it thinking is to lie).

mark adams February 1, 2006 at 5:44 am

In the early days of the industrial revolution, peasants smashed machines because they did not believe their jobs could ever be replaced. It seemed inconceivable then that an economy could function on merely making "things".

Luis Enrique February 1, 2006 at 6:27 am

Don I'd be very interested to read something from you on the other side of the argument, from that which you are accustomed to writing.

You usually write about how perceived problems with running a deficit aren't there, or aren't as big as supposed, but what problems would you identify?

If the US continues to sell dollar assets to fund consumption of imports, at what point might that create problems for the US economy? What are the 'bad' scenarios that you think are feasible, or worth worrying about?

JABBER February 1, 2006 at 9:55 am

Luis, I'm not Don, but in the meantime, let me take a crack at your question. First, when Americans buys consumption goods from overseas (let's use the Chinese, since they're the biggest flavor of the day), our money gets exchanged for Chinese goods. The Chinese workers who make those goods get paid a decent wage (for them if not for us). Now, assuming that the fundamental laws of economics work in China like they do here, the more we buy, the greater demand for Chinese laborers to create that supply. The increasing demand for Chinese labor drives up Chinese wages. In short, Chinese peasants, in time, leave their peasant roots and become, in comparative terms, wealthy. Now what do they do? Well, for one, they consume more, but, more importantly, they also now can SAVE and INVEST. In the latter category, they can now afford to educate their kids. And the virtuous cycle continues from generation to generation. Allowed to flourish, a global free-market economy will gradually equilibrate wealth. But it's NOT a zero sum game. The global economic pie will simply get bigger, with more than enough for anyone who wants to work.

At some point, then, increasingly wealthy and sophisticated Chinese will start buying those high value added American goods and services. So, over time, the "trade deficit" won't persist. In the "short run" (and that could last years), there may well be a net outflow of capital from the US to China, but this DOESN'T mean that we're "going into debt" to the Chinese, no more than it means that my spending thousands of dollars at Home Depot means that I'm "in debt" to Home Depot.

Now, before you call my Pollyannish, I do realize that we have this ugly thing called ignorance and politics to deal with, so the transitions won't be smooth. But allowed to work, these fundamental laws of economics WILL lead to prosperity and a healthy INTERdependence among nations. Consider China and the US. We wouldn't want war to break out against China, because war is a terrible thing, primarily, but also because our access to all those cheap goods would get cut off. China, on the other hand, doesn't want war with us either, primarily because war is a terrible thing, but also because they like the US for a marketplace. INTERdependence is a GOOD thing, because it puts a natural "check and balance" on despotism.

So, no, I suspect that Don won't be willing to take the opposite side of his argument, largely because the opposite side has little merit.

save_the_rustbelt February 1, 2006 at 11:09 am

Kevin:

Our unemployment rate may be low, but that is because the government considers a $9-an-hour job to be equal to be a $20-an-hour job (you rarely hear the Bushies discussing real income distributions).

If you are 54 years old and have spent your life assembling washing machines then that doesn't seem to be such unworthy work, or should I say used to assemble washing machines (many white collar Americans have gotten really contempuous of blue collar Americans, I guess some forget their roots).

So the former assembler can always manipulate DNA or split genomes or something right?

Helen's_kid February 1, 2006 at 11:44 am

Luis

Though I can not fault the logic presented, I can feel the effects of the present business cycle. Foreign investment makes available a huge supply of cash for mortages at a very attractive interest rate. Prime property then becomes affordable. A lower interest rate allows me to finance a larger purchase price than I would otherwise be able to afford. If I am fortunate to already own property in an attractive area, say Southern California. Then I can ask a high price and sell my property, since it is desireabe, and money is available, and affordable. I can then take the proceeds from the sale, move away from the coast, buy an equivalent or larger property for a fraction of what I received from the sale and pocket the rest. I'm set! My neighbors?

My neighbors, on both the coast and inland, are shocked to see the increase in their property tax liability. Incidentally, my property tax liability increases. While the value of their assets may increase, they have to live somewhere and, unlike me, have no desire to sell. So, how are they benefitted?

Also, where the foreign ability to bid up prices was non-existant, we can see the influence it now has on commodities. If I am a rich oil holder, I love the rise in price at the pump. If I am a rich cattle owner, I love $15/Lb. beef in the supermarket.

In sum, if I am rich I espouse foreign trade. If I am poor I seek protection.

JABBER February 1, 2006 at 12:07 pm

The short run disruptions are real. People lose their jobs, fall short on their mortgages, become depressed and abusive to their loved ones. These things do indeed happen. But what is the alternative? If the "Save-the-Rustbelts" and the "Helen's kids" ruled the world, we'd still be living in caves.

Those disruptions are part of the "creative destruction" that goes on CONTINUOUSLY in a free-market economy; it's the price paid for prosperity.

Let me ask "Save the Rustbelt" and "Helen" a question: It's the year 1910. Henry Ford comes out with the Model T. Buggy manufactures jump all over their congressman, throw boatloads of cash at them, to make them stop Ford in his tracks. Here's my question: Would you support such a move?

Joe Grossberg February 1, 2006 at 12:19 pm

I wasn't born yet in 1975, but I am quite happy to be doing a job — web software development — that didn't even exist back then.

I'm sure that my great-grandparents, who worked in textile sweatshops, wouldn't be the least bit disappointed that I'm not following in their footsteps.

And, as far as the remark about "the former assembler" working in biotech, my stepfather started an entirely new career in his late 50's, including attending law school and taking the bar when he was a good 30 years older than his average classmate.

If you put all your eggs in one basket and then mope about the consequences, my sympathy is limited.

Helen's_kid February 1, 2006 at 1:05 pm

Jabber

THE MARKET AIN'T FREE! That's my whole point. The Shanghai Exchange should, theoretically, be burning up. I'm not against foreign trade. I cannot see how a $150 a month rise in property tax can be offset with purcases at Wal Mart, Home Depot, or any other Chinese subsidized American firm. Look at it this way. I want to build an electric motor. Excluding plant, I will require copper, steel and labor. Copper and steel are stable within certain variables, labor has a wide variance between $16.00/hr in the U.S. and $00.75/hr in the P.R.C. Even though labor is much lower abroad, I'm not building a plant there. The risk is too high. Never mind, the Chinese government will supply the plant. Viola! problem solved. I'm subsidized, baby, let the good times roll. My American competitors cannot compete, so, why fight 'em? Hello, China. So long, suckers!

JABBER February 1, 2006 at 1:14 pm

Oh, Helen, your points are so lame, there hardly worth refuting. Anyone else willing to pick up the baton?

Helen, answer my original question: Would you or would you not have supported the Buggy manufacturers against Henry Ford? Based on your arguments (which are consistent, at least), my answer for you is "Yes! Absolutely! We've got to save American jobs!"

Have you read Tom Sowell's "Basic Economics" yet? NO? I could hardly tell…

Noah Yetter February 1, 2006 at 1:19 pm

If you want to whine about property taxes, point the finger at government, not the market.

Also, don't you think that if it's becoming more expensive to live where you do, the proper response might be to move?

I dunno, it just seems obvious to me.

Helen's_kid February 1, 2006 at 1:43 pm

Buggy manufacturers better get out of the way, is what I say. I bought a Tandy TRS-80 with 4K of memory for $280. I bought a 4 function calculator for $75. I was in the fore-front of satellite television. For another thing, China produces an inferior product. That should light your fuse.

Tsk! Tsk! I should and keep moving till I cannot afford to live in the United States. Perhaps I should just sit tight until the Chinese come to collect my taxes.

JABBER February 1, 2006 at 3:14 pm

C'mon, Helen. Quit being so dishonest. Would we or would we not be better off if we the buggy manufacturers had won? Answer the question.

You're smart enough to know that the answer is "No" but you're not honest enough to admit it, because if you did, your worldview would collapse all around you.

By the way, Helen, you're welcome here in rural northern Louisiana. You can buy two acres here, cheap, throw up a double-wide, and live like a King for $30K a year. Oh, and the property taxes are marvelously low here, too.

Steven M. Warshawsky February 1, 2006 at 3:36 pm

"Helen's Kid" and "save the rustbelt" either do not understand the principles of a market economy, or they reject them in favor of some form of a government-guaranteed job and income. This has been tried before — it's called state socialism. And everywhere it has been tried, it has led to stagnation, poverty, and despotism. That's why even totalitarian countries (e.g., China, the former USSR) are moving towards capitalism.

The simple truth is that it is impossible to protect all persons, at all times, from the vicissitudes of human existence, including economic dislocations caused by nature, technology, and politics. But a regime of capitalism, which leads to rising living standards, is surely the best option.

Question: Which country provides a better life, the USA or Cuba? If you answer Cuba (free health care!), you're an idiot.

Helen's_kid February 1, 2006 at 5:21 pm

Time Out!

I am NOT advocating protectionism, I'm advocating pragmatism. A "free" market must also be a "fair" market. By "fair" I don't mean protection of obsolescence. I mean a government, specifically China, should be required to provide an enforceable Uniform Commercial Code and tribunals for relief. India is much better established in this matter, yet, China, continues to receive the bulk and benefit of our trade. Why is that? Well it is because Chinese labor is subsidized and Indian labor is not. U.S. Chinese policy is not only unfair to poor Americans, it is also unfair to all of India AND the rest of the underdeveloped world. It is a good policy for the rich. Now, if you are in possession of a useful commodity, such as oil, such as Exxon/Mobile, you will, whether through design or destiny, end up with quarterly profits of $10 Billion dollars. The largest contributor being the U.S. citizenry. As always, the least able to afford suffer the most. If there is any economic wisdom to be gained here it is this: GO LONG…ON EVERYTHING. As to which country provides a better life, I cannot say. That is totally subjective. However, the U.S. offers a "fairer" opportunity for a better life than either Cuba or China. I'm not getting into the health care debate, but,since you brought it up, let me ask you: what would be the result of having the same number of American doctors per capita as Cuba?

Yes, Jabber, you are right about the buggy makers. The French almost certainly would be in the driver's seat. I have a grandson living in Louisiana. Thank you for the invite, but I've been there and quite frankly cannot stand the sight of those pitiful crabs staring up at me from my dinner plate. Too many mosquitoes, the cops stop you on the freeway, plant drugs on you and confiscate your property. Then divy it up with the judges. Nope. Not for me. I live on an acre in sunny Arizona. I have municipal water, home delivery of the mail and newspaper, curbside garbage and all utilities and a 1986 two bedroom singlewide. Total cost in 2000 was under $20,000. Six years later it is worth $120,000. I like it here, why should I move?

JABBER February 1, 2006 at 5:34 pm

So, Helen, you've made $100,000, sixtupling your money in 20 years, on your property and you're bitching about your property taxes?

You make no sense whatsoever. Your "pragmatism" would lead us back to the stone age. The very economy that you trash has made you comfortably well off.

Mark February 1, 2006 at 9:00 pm

It is true that companies that locate in China receive some direct and indirect subsidies from the government. The same is true for foreign companies that locate in the U.S. (ever hear of "corporate welfare"?). There are also, of course, costs involved in operating in different countries, such as adhering to different sets of regulations, paying different tax rates, dealing with officials that vary in their level of corruption, etc. If you add up all of these subsides and costs, it is not at all clear that China comes out ahead. In some industries, net subsidies may be responsible for patterns of trade but overall, I imagine the impact on the trade deficit is very small.
Indeed, if the biggest complaint you have in life is that the price of the house you own has increased by 10% annualized and your property tax bill has increased, consider yourself lucky. Better yet, contact your local representatives and tell them to lower property taxes. I admit I have never heard a homeowner complaining that the value of her home has increased by too much!

save_the_rustbelt February 1, 2006 at 10:29 pm

"Helen's Kid" and "save the rustbelt" either do not understand the principles of a market economy, or they reject them in favor of some form of a government-guaranteed job and income.

Don't put words in my mouth, I understand free markets quite well.

I also understand that free markets are warped by politics, cronyism, corruption, tax and economic policy, unethical behavior and so there is no pure free market (and especially not in Bush's USA).

Since the federal government has a policy of destroying American manufacturing jobs it seems to me the federal government has some duty to clean up the mess.

But then why is the federal government involved in the "free market" to begin with? Maybe because free market conservatives cannot walk the talk they spout.

Have a nice day.

Morgan February 1, 2006 at 11:54 pm

"Since the federal government has a policy of destroying American manufacturing jobs…"

Considering that you appear to be referring to manufacturing jobs that have gone where labor is cheaper (i.e. to jobs that were not actively protected) as having been "destroyed", you can see why some people might have erroneously concluded that you reject markets in favor of "some form of a government-guaranteed job or income", can't you?

abhi February 2, 2006 at 2:17 am

the federal government has some duty to clean up the mess.

the government's messing up the free market doesn't mean it can clean it up with some more interference.

also why is it the business of the fed. govt. to clean up the mess, when it is in its best interest to mess it up further?

I have a question for these so-called pragmatists, how come one be pro free-market + anti-protectionist and at the same time want some kind of job-retention?

Do you have an elegant solution to 'save' those in manufacturing jobs?

abhi February 2, 2006 at 2:19 am

"… the federal government has some duty to clean up the mess."

the government's messing up the free market doesn't mean it can clean it up with some more interference.

also why is it the business of the fed. govt. to clean up the mess, when it is in its best interest to mess it up further?

I have a question for these so-called pragmatists, how come one be pro free-market + anti-protectionist and at the same time want some kind of job-retention?

Do you have an elegant solution to 'save' those in manufacturing jobs?

Luis Enrique February 2, 2006 at 5:09 am

Thanks for the responses. I am familiar with the arguments why the defecit need not be such a worry and why the free international trade is a good thing. That wasn't my question.

This is one of those "things I believe but I can't prove" but I think most most things have their pros and cons, and most patterns of economic behavior (or however you prefer to phrase is) have costs and risks. Most thinks, like saving rates, household borrowing, asset prices etc. can become problems if taken too far. Think what would happen if the savings rate approached 100%, or house prices tend to infinity. So, my question is at what point does the deficit become a problem? How might it become a problem?

I do hope somebody is capable of putting the other side of the argument.

JABBER February 2, 2006 at 9:55 am

Luis, I agree with you that anything taken to excess can have some very nasty effects. In the case of China's outsized capital accounts, for example, they're saving to excess and not spending. Why? I suspect that it's largely because they don't have anything particularly compelling to spend it on, as their domestic consumer economy is primitive. It also suggests to me that Chinese wage rates could be far higher (I'll let one of these cracker jack economists here correct me if I'm wrong)–why should the government be holding all that cash? Give it back to the people who earned it. That they don't do it, of course, is largely due to the fact that it is a STATE RUN economy by a bunch of Communist octogenarians who don't want to give up control. The irony is delicious: A political philosophy born of "oppressed and exploited proletarians" that is oppressing and exploiting its proletarians! Gotta love it…

So, in this case, so far, the "cons" are being borne by the Chinese, while we reap the benefit of lower interest rates and cheap goods. The distinct warning to us, however, is that, at some point, if Europe and other regions ever get their economic acts together, or if China's domestic economy matures, the US may no longer be the destination of choice for that capital, at which point we may well see a serious reversal of what we see today. So, no, I'm not quite as sanguine as Don seems to be; I think we DO have some things to be concerned about.

edgr February 3, 2006 at 11:20 pm

The problem is not that foreigners are saving US dollars or equivalent assets. The problem is that americans today are trading an option to buy american goods at some time in the future for goods today.

So in effect, americans are today buying their japanese-made plasmas with the goods (whether they be aeroplanes or something else) that their children will have to make.

That is what happens when all those people who hold US dollar-denominated assets decide to spend them.

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