Trade Compliance

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Do Trade Deficits Matter?

Posted April 05, 2017

Under the Trump administration, global trade policy and a focus on bilateral trade deficits has moved front and center in the public debate about the U.S. economy. Peter Navarro, a key White House advisor and director of the president’s newly formed National Trade Council has repeatedly warned that the U.S. trade deficit, especially the lopsided imbalance in trade with China, is a threat to national security that could ultimately cause the loss of American freedom and prosperity. As such, the administration has vowed that the dramatic reduction of U.S. deficits with key trading partners is a top economic priority.

“Bilateral trade deficits do indeed matter, and it is a critical economic goal and in the interest of national security to reduce these deficits in a way that expands overall trade,” Navarro told a National Association of Business Economists conference last month. Outlining an unapologetically hawkish trade policy, the former UC Irvine business professor accused economists and the mainstream media of ignoring the risk posed by trade deficits and embracing an “antiquated view of the world.”

The response to Navarro’s “rather odd, even strange, ideas” from most economists across the ideological spectrum has ranged from one of bafflement to outright contempt and derision, as summarized by American Enterprise scholar Mark J. Perry, as well as described by various economists and business writers here, here, here, and here. In fairness, it should be noted that Navarro’s views have been enthusiastically embraced by the protectionist grassroots group, Coalition for a Prosperous America.  

Last week, on the same day that President Trump issued an Executive Order directing the Commerce Department to examine the causes of trade deficits with China and other major trading partners, the Washington International Trade Association hosted an event that looked at the significance of trade deficits to the overall U.S. economy.

The panel of experts debating whether bilateral trade deficits are a measure of an effective trade policy and if they should they drive a renegotiation of existing trade agreements featured Caroline Freund, senior fellow at the Peterson Institute for International Economics; Peter Morici, former chief economist at the U.S. International Trade Commission and now Professor of International Business at the University of Maryland; Robert Shapiro, chairman of the international economic advisory firm Sonecon; and Peter Allgeier, president of Nauset Global and a former official with the Office of the U.S. Trade Representative.

Morici contended that whether Commerce’s forthcoming trade deficit analysis has a significant impact “will come down to discussions with China” and other bilateral trade deals in which Trump “thinks he has a lot of leverage.”

During the panel, analysts agreed that trade balances are not linked to trade policy but rather more heavily influenced by fiscal policy, and that bilateral trade deficits prove to be predominantly political.

Caroline Freund said that the U.S. trade deficit has “much more to do with spending and output” than trade policy. “Trade deficit is much more about fiscal policy or other policies that have to do with savings and investment,” she said while underlining that trade deficit and trade policy aren’t as heavily related as the administration makes them out to be.

She argued that the U.S. is consuming more than it is producing, but that this should not draw concern from the administration. Freund added that the U.S. should be more concerned with sustaining its trade balances and be prepared for a scenario if countries ever decide “to stop lending to us.” She said the national deficit issue would not be solved by increasing tariffs unless the administration finds a way to impact domestic savings and investment.

A complete playlist of the videos from the event can be viewed here. For a more in-depth look at the current debate over the significance of trade deficits, Michael Pettis, a Beijing-based economic theorist and financial strategist who teaches business at the Guanghua School of Management at Peking University has written a comprehensive essay on the subject for the Carnegie Endowment.

Update: NPR’s “All Things Considered” program yesterday featured a segment titled “Economists Say Trump Seems To Misunderstand Significance Of Trade Deficit” in which economist and CNBC host Larry Kudlow, who often acted in an advisory capacity to Trump during the campaign, is quoted expressing his frustration at the president’s focus on trade deficits. “I don’t understand it. Trade deficit is a terrible gauge of the economy. Or let me put it in reverse. If we’re in a position of having a large trade deficit that means we’re growing, and we’re growing faster than the rest of the world.” Click here to read the transcript and/or listen to the program.