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Getting Straight on the So-called “Trade Deficit”

Here’s a letter to a high-school student in Arkansas who has been reading Cafe Hayek now for about a year.  I judge him to be an especially bright and promising young man!

Mr. Carlos Acosta

Dear Carlos:

Thanks for your e-mail and your kind words about my blog.  They make my day!

You write that your teacher told you that “America won’t solve [its] trade deficit crisis until we stop our producers from relocating their factories overseas.”  You are wise to suspect that, in this claim, your teacher is incorrect.

Feel free to have your teacher e-mail me directly.  But also, and with the great respect that you owe to your teacher, you can tell him or her that in my correspondence with you I point out that whenever American companies invest abroad – including when they open factories overseas – they thereby put downward pressure on the U.S. trade deficit.  One way to describe the U.S. trade (or, more precisely, current-account) deficit is to say that it is the excess of the amount that foreigners invest during some period in America over the amount that Americans during that same period invest abroad.  Therefore, all other things equal, the more Americans invest outside of America, the lower is the U.S. trade deficit.  Your teacher is thus mistaken to argue that reducing Americans’ investments abroad is key to lowering the U.S. trade deficit.

Thanks again for writing, Carlos.  Please don’t hesitate to write again.  And good luck completing your junior year!

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

P.S.  Also feel free to share this e-mail with your teacher.