Unbalanced Thinking

by Don Boudreaux on July 29, 2009

in Balance of Payments, Trade

Here’s a letter that I sent yesterday to NPR reporter Tom Gjelten:

Reporting Monday on trade between the U.S. and China, you interviewed University of Maryland economist Peter Morici.  Mr. Morici is concerned that trade between these two countries is "imbalanced."  His concern is utterly inappropriate.

Trade between the University of Maryland and Mr. Morici is also imbalanced: the University imports more from the Morici household (namely, Mr. Morici’s services as a faculty member) than the Morici household imports from the University.  Yet I doubt seriously that Mr. Morici would claim that the University is getting a raw deal.

I challenge Mr. Morici to search throughout economic theory for any doctrine that suggests that even the most ideally functioning markets will result in any two economic entities – including any two countries – having "balanced" trade with each other.  He’ll search in vain.

Sincerely,
Donald J. Boudreaux

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{ 23 comments }

Daniel Kuehn July 29, 2009 at 9:38 am

I suppose part of the difference is that the Morici household and the University of Maryland trade in the same currency, and therefore don't risk sharp, rapid currency readjustments.

I've always appreciated Cafe Hayek's posts on current account balances, because I agree that people do get inappropriately worked up trade deficits – not realizing the benefits of the trade deficit to our standard living – and the basis of our trade deficit in underlying factor and productivity differences.

But there are rapid correction concerns that I don't think are entirely irrelevant either. When a household or business builds up an unsustainable level of debt it can have disastrous consequences. The correction itself IS the market working – so Morici's concern shouldn't necessarily be that the market isn't working. But it's not wrong to be concerned about the problems associated with sharp corrections, any more than it is wrong for a household to be concerned when they realize they're overleveraged.

Daniel Kuehn July 29, 2009 at 9:41 am

In other words – the market does correct itself, certainly. But that doesn't mean some of those corrections aren't disconcerting or that they are smooth and gradual, such that market participants can appropriately respond to the risks of growing imbalances.

LowcountryJoe July 29, 2009 at 10:03 am

Corrections, then, should be signals. Those signals should serve as learning experiences to avoid future pain.

Not everyone was around to experience the signals and pain during previous corrections but many were around. Let's not blunt the signals nor the pains of corrections by using collective policies that create moral hazzards. Experiencing pains are very much needed events that signal-missing participants need to feel and for allowing a market to operate as it should.

J July 29, 2009 at 10:46 am

But there are rapid correction concerns that I don't think are entirely irrelevant either. When a household or business builds up an unsustainable level of debt it can have disastrous consequences.

One should not then be concerned with the correction. One should be concerned with the causes of the circumstances that led to the rapid correction. Perhaps if the government did not preach a "spend, spend, spend" mentality, and actually provided more incentives for savings, we wouldn't have this discussion.

kebko July 29, 2009 at 11:03 am

Daniel,

If foreign governments want to hold large amounts of dollars and create the potential problem you cite, they can do that regardless of the US policies or consumer behavior that might influence the trade balance.

Mike B July 29, 2009 at 11:14 am

I wonder if "Professor" Morici ever clicked a few web sites and observed that as the unemployment has increased by 5 percentage points that the trade deficit has dropped by 60%. Exactly the opposite of what protectionists like him claim to be the case.

wintercow20 July 29, 2009 at 11:26 am

"But there are rapid correction concerns that I don't think are entirely irrelevant either. When a household or business builds up an unsustainable level of debt it can have disastrous consequences"

I think regular readers of Professor Boudreaux should be reminded that trade deficits are not debt. What rapid corrections are you referencing? If the Chinese government purchases massive amounts of US government bonds, and then the terms of trade change, is that an indictment of my ability to buy sneakers for a low cost?

Daniel Kuehn July 29, 2009 at 12:04 pm

RE: "If foreign governments want to hold large amounts of dollars and create the potential problem you cite, they can do that regardless of the US policies or consumer behavior that might influence the trade balance."

Certainly… but I still find it disconcerting. I find myself marginally leaning towards the "blame the Chinese" camp precisely because of their explicit dollar accumulation policy… but I think for the most part people put too much emphasis on China exclusively. And like I said in the initial post – there's nothing inherent about imbalances or imports that bothers me in the slightest – it's thoughts about sharp corrections that we saw in 95, 97/98 that's more of a concern.

Chris O'Leary July 29, 2009 at 12:32 pm

FWIW, I found this…

the University imports more from the Morici household (namely, Mr. Morici's services as a faculty member) than the Morici household imports from the University. Yet I doubt seriously that Mr. Morici would claim that the University is getting a raw deal.

…to be a very effective way of explaining how trade works and the concept of trade "imbalances".

To a degree, the correct analogy is six degrees of separation. The Morici's even things out with the university, but indirectly.

Crusader July 29, 2009 at 1:18 pm

So what that China owns so much of our treasury bonds and notes? Where else are they going to put their surplus currency? They can only invest so much in infrastructure.

Moggio July 29, 2009 at 12:37 pm
Daniel Kuehn July 29, 2009 at 1:43 pm

Crusader –
To a certain degree it’s probably a chicken and egg relationship. Some of the treasury bond holdings are because of their surplus currency that they need to put somewhere – some of the treasury bond holdings are consciously held to keep the yuan down to keep their trade surplus party going. I’m not sure if we really know what portion of their dollar reserves are attributable to that.

vidyohs July 29, 2009 at 5:07 pm

How did the idea or belief that trade had to be balanced, meaning you buy as much from me as I buy from you, between two nations get started in the first place.

It is obvious to even a dolt like myself that it is not the nations buying, it is individuals or businesses that are doing the buying. Yeah they are using the national currencies, but so what? That should ensure closer and friendlier relations, not hostile ones.

And, in that aspect I would hope those individual transactions would be balanced, in that if I pay $100 for your goods, I get $100 of goods, and you get $100 of my money. That is balance that is natural, and necessary to maintain trade and increase prosperity in both our nations. But, just for the sake of argument, say I pay $100 but feel I was cheated and didn’t receive full value; I can use the legitimate assistance of government (one of the legitimate constitutional functions of government) to try and recoup my perceived losses, but how does the imbalance I have complained of reflect on the national fiscal well being of the two nations? If nothing else I can just never deal with the cheat again and rely on that government to perform another of its legitimate functions to warn other people who would deal with the same cheat.

But, if increased prosperity and wealth is the goal, what sense would it make to systematically and habitually cheat any person one deals with in a market?

brotio July 29, 2009 at 8:06 pm

I think it was Sam Grove that has made the point that those who claim we have a trade deficit with China (or any other nation) have it backwards. If there is a trade deficit, then China has it with us.

When I buy an anvil made in China, the Chinese company that made that anvil only has pieces of paper, the value of which is very much dependent upon the actions and whims of politicians. I, on the other hand, get an anvil that is useful and practical, and is valuable to me for as long as I value owning an anvil.

vikingvista July 29, 2009 at 9:31 pm

Presumably current account deficits have some effect on currency exchange rates. If foreign banks’ dollar holdings increase relative to the ratio of US:non-US investment opportunities, their desire to hold US currency vs other currencies should be expected to decrease.

Wouldn’t that be expected to lower the USD purchasing power abroad? And wouldn’t that result in a tangible effect on our consumption of imported goods? And doesn’t that mean current account deficits aren’t TOTALLY irrelevant when applied to different nations which use different currencies (as opposed to a professor and university who both use the USD)?

Anonymous July 30, 2009 at 5:49 am

First!

Anonymous July 30, 2009 at 5:54 am

Wasn’t there a whole thread here about an hour ago? This web site is changing faster than a politician with plummeting poles.

Anonymous July 30, 2009 at 6:37 am

You may notice some comments from the old site slowly trickle in over the next 24 hours.

Anonymous July 30, 2009 at 7:04 am

Many great improvements to this site. Better than I thought it would be. The increased functionality of the comments section seems to reflect the value R&B place on the discussions.

Daniel Kuehn July 30, 2009 at 9:35 am

I like it! I especially like the “like” and “report” options. Is there any chance you can make it blue, though? It just doesn’t feel like Cafe Hayek with a white background :)

Anonymous July 30, 2009 at 10:19 pm

The bilateral trade deficit with China isn’t so alarming, but the perpetual trade deficit with everyone could be. I understand the Laffer argument, but I also know that statesmen engineer all sorts of forcible propriety that can encourage proprietors to impose rents on me and mine. Selling entitlement to U.S. tax revenue to Chinese monetary authorities fixing exchange rates is only the most obvious example. There must be many others. Maybe the perpetual current account deficit is all about the insatiable appetite for foreign investment in the U.S., or maybe it’s about the willingness of our own statesmen to sell us out.

I do know that the entire world can’t retire on entitlement to U.S. tax revenue, not even the entire Chinese population. I’d like to see a deeper analysis of these deficits than “trade is good”. Sure trade is good, but trade deficits are about a lot more than trade.

The Javelineer July 31, 2009 at 5:51 am

Don, isn’t there a problem though? The Chinese make all kinds of useful stuff for us. I think everything in my kitchen is made in China. The MacBook I’m typing on was assembled in China. Cool.

But what are the Chinese getting in return for all this stuff? The dollar? That’s just a promise to the Chinese that they can come here and get stuff from our economy. (bad usage, ‘our economy’ but you get the idea)

But what stuff can they get? What are we making for the Chinese? Jack.

Eventually the Chinese are going to realize that they can consume their own products. We have nothing to sell them. The dollar is an empty promise. We’re going to be screwed.

Does any of this conflict with your claims in that latter to NPR? Am I wrong?

mesaeconoguy July 31, 2009 at 8:46 am

NPR consistently has the best sound quality.

And offensively worst content.

Seriously. I can listen for about 20 mins max, excusing the economic and/or market errors.

Even anticipation of Russ Roberts’ commentary is not enough to keep me on the dial.

Russ, why must you contribute to National Socialist Radio?

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