Here’s a letter to a new correspondent:
Mr. Carson Duhe
You’re the second person in as many days to e-mail me to say that the U.S. trade deficit “can’t go on forever.”
Yet it can.
The main reason why people believe that the U.S. trade deficit cannot go on forever, or indefinitely, is the erroneous notion that every increase in the trade deficit is an increase in Americans’ indebtedness to foreigners. If this notion were true, then proclaiming that the U.S. trade deficit can’t go on forever would have merit. But despite its name, a trade deficit is not synonymous with increased debt. While some of the U.S. trade deficit can, and does, become debt, much of it never does – and none of it must.
We Americans ‘run’ a so-called “trade deficit” whenever, in some period – say, the month of March 2018 – the amount that foreigners invest in America (including investments in dollar holdings) is greater than the amount that Americans invest abroad. Because the amount of capital in the world and in the U.S. is not fixed, there is no limit to the amounts that foreigners or Americans can invest in the U.S. As long as the the U.S. remains, among all nations of the world, a relatively attractive place to invest – as long as assets denominated in dollars remain relatively attractive investments – the U.S. will likely run trade deficits.
To suggest that there is a “limit” on the amount or duration of American trade deficits – or to say that the U.S. eventually must run a string of trade surpluses with the rest of the world in order to “repay” the past U.S. trade deficits – makes no more sense than to suggest that there’s a limit on the amount of investment that can be made over time on the island of Manhattan, or to say that Manhattan eventually must run trade surpluses with the rest of the world in order to “repay” the past Manhattan trade deficits.
Donald J. Boudreaux
Professor of Economics
Martha and Nelson Getchell Chair for the Study of Free Market Capitalism at the Mercatus Center
George Mason University
Fairfax, VA 22030