This is a guest post by professor Steve Hanke at the Johns Hopkins University. Hanke is also a Senior Fellow at the Cato Institute.
I strongly agree with Hanke and asked permission to republish this article.
Trump’s Tariffs Are A Reminder He’s Clueless About Trade
BySteve Hanke
President Trump and his trade team remain clueless about the economics of trade. Their recent imposition of tariffs on the imports of Chinese solar panels and South Korean washing machines is but the latest evidence of a wrongheaded and dangerous U.S. trade policy. Wrongheaded because it is based on incorrect economic analysis. Dangerous because it will inevitably result in a trade war in which there are no winners.
Let’s turn to the president’s trade team and its view of trade. The key players are: Wilbur Ross, U.S. Secretary of Commerce; Professor Peter Navarro, Director of the White House National Trade Council; and Washington trade lawyer Robert Lighthizer, U.S. Trade Representative.
To a man, the members of Trump’s trade team, and the president himself, all embrace the notion that the U.S. trade deficit, something the U.S. has registered every year since 1976, is a “bad” thing, something that should be dramatically reduced (or eliminated) if America is to be First. They also believe that the culprits for this “bad” state of affairs are unfair trade deals and unfair trade practices employed by foreign countries. Their elixir to eliminate the trade deficit is a strong dose of tariffs and other anti-trade policies imposed on foreign exports.
Now here is where the simple analytics of the trade deficit can be used to prove the cluelessness of the Trump trade team on “trade,” of all things, and the utter futility of its policy prescriptions having any impact on America’s aggregate trade deficit. In economics, identities play an important role. These identities are obtained by equating two different breakdowns of a single aggregate. Identities are interesting, and usually important, by definition. In national income accounting, the following identity can be derived. Indeed, it is the key to understanding the trade deficit.
(Imports – Exports ) ≡ (Investment – Savings) + (Government Spending – Taxes)
Given this identify, which must hold, the trade deficit is equal to the excess of private sector investment over savings, plus the excess of government spending over tax revenue. So the counterpart of the trade deficit is the sum of the private sector deficit and the government deficit (federal + state and local). The U.S. trade deficit, therefore, is just the mirror image of what is happening in the U.S. domestic economy. If expenditures in the U.S. exceed the incomes produced in the U.S., which they do, the excess expenditures will be met by an excess of imports over exports (read: a trade deficit).
The table below shows that U.S. data support the important trade identity. The cumulative trade deficit the U.S. has racked up since 1975 is about $11.154 trillion, and the total investment minus savings deficit is about $10.435 trillion.
U.S. trade deficits are not caused by so-called unfair trade practices. They are made in the good old U.S.A.
President Trump can bully countries he identifies as unfair traders, he can impose all the restrictions on trading partners that his heart desires, but it won’t change the trade balance. It will only alter the composition of those exporting to the U.S. And by affecting this composition, the president’s interventions will hurt the U.S. consumer.
For someone who is so obsessed by the size of the trade deficit, it is astounding that Trump’s advisers failed to inform him that his fiscal policy of expanding the government deficit will, as night follows day (remember the trade identity), balloon the U.S. trade deficit.
Authored by Steve H. Hanke of the Johns Hopkins University. Follow him on Twitter @Steve_Hanke.
Mish Comments
Once again, the roots of this problem date back to August 15, 1971.
That is when Nixon closed the gold window, ending foreign redemption of dollars for gold.
For further discussion, please see Disputing Trump’s NAFTA “Catastrophe” with Pictures: What’s the True Source of Trade Imbalances?
Mike “Mish” Shedlock
The identity formula (“which must hold”) completely ignores debt and currency creation. Imagine isolated Planet A with one country and therefore no trade. Somehow, investment exceeds savings while at the same time government spending exceeds taxes. How is this possible? The government issues debt for its own use and makes loan guarantees for investments. The central bank of Planet A buys the government debt and its commercial banks make investment loans. Voila.
http://obatperangsangmanjur.net/
Correct – there is absolutely nothing “bad” about a trade deficit. Maybe it’s the negative connotation of the term “deficit” that causes all the belly-aching. Anyway, these tariffs Trump imposed bestow privileges on tiny special interest groups to the detriment of every US consumer and numerous other economic actors.
@Kinuachdrach
Trump isn’t rejecting the nonsense. Instead, he is specifically embracing it. The nonsense being “trade deficit” being some sort of economically relevant metric at all. Hanke at the very least bothers to understand how the silly little term is defined, and then referring to that definition in his arguments and reasonings around it.
Rather than just “feeling” that the word “deficit” somehow sounds baaad, and America has “deficit” so it must be “baaaad” and that must be someone elses fault, so “we” (always shorthand for the Party/Politburo/Government; never “we” as in anything including you AND me) must “do something” (which again is always shorthand for banning some Americans from doing something, and/or taking stuff from them without first asking their consent) the way Trump and Co. goes about it. Well indoctrinated, and not too bright, progressive drones playing to an audience of similar simpletons that they inevitably always are.
Stuki — it seems that you are saying economic theory is nonsense, but President Trump is worse for rejecting that nonsense? Oh well! But to the interesting point — does Joe have a trade deficit with his employer? The answer is clearly — NO. Joe trades his time & skills & effort to his employer. The employer trades some of the cash earned by the business to Joe. It is an exchange of unlike items of equal value to the parties doing the trading. The issue with unbalanced international trade is similar to that well-known economic topic — the Tragedy of the Commons, where some benefit at a cost to the community as a whole. The individual who buys an import may be better off, but the community suffers because of the loss of jobs & productive capacity. The taxpayer-funded bureaucrats who negotiated trade deals for the US had the standard Leftie contempt for the American working man. (When was the last time you saw a Leftie in an American car?). President Trump does not share the sophisticates contempt for their fellow citizens. Understand that, and understand that President Trump is first & foremost a negotiator, and you can see through most of the nonsense coming from academia & the media.
@Kinuachdrach
All of what currently passes for “economics” is, at best, no more than “take a little bit of theory, and blow up its significance beyond all reason.” And that’s the few times anyone bothers deriving their random hankerings from anything resembling sound theory to begin with.
It’s not Hanke’s argument that attempts making mountains out irrelevancies. But rather the notion of a “trade deficit” in the first place. “Trade deficit” means absolutely nothing whatsoever. It doesn’t even have the kind of specious pseudo definition Hanke refers to, absent an overlay of completely arbitrary national boundaries being substituted for the constantly evolving, dynamic boundaries of economic relevance. After all, it’s not as if the “trade balance” between Laredo, TX and Nuevo Laredo, MX is somehow more economically important than the one between either of those two and San Antonio, TX up the road. Ditto for the “trade deficit” between Joe and Joe’s employer. It’s all just a pure, undiluted, simpletonian stack of folly turtles. And those turtles do go all the way down.
And further, if one is to grandstand and pontificate about such silliness’, at least one ought to know, and understand the implications of, their formal definitions. Which Hanke demonstrably does. In stark contrast to team hairdos-and-tweets.
Mish’s point with regard to the gold standard is that with a gold standard in place, you can’t run a trade deficit for a long term or your lose all your gold. And, in normal times, that was true, however, is it inherently true? In normal times you can’t run a trade deficit in the absence of a gold standard, either, or your currency falls when the foreign countries repatriate the profits. Neither situation accounts for the question of what happens if the foreign country with the trade surplus is content to leave their profits in the US. Even with a gold standard, China could leave their profits in the US, buying bonds, stocks, companies, and real estate. If they don’t try to take the profits home, they don’t take all the gold, and the trade deficits can continue.
Lazy Americans get cheap products from China, where the hours are long and the benefits meager, and when those jobs come home, and when fat ass America has to go back to work for those wages they will throw Donald Trump under the bus.
Countries that run an overall trade surplus could let their currencies rise until their trade was balanced. The Asian countries don’t do that. They invest the money from their trade surplus in the US, often by buying US treasuries, in order to keep their currencies low relative to the dollar and to maintain their trade surplus. This is not the US’s doing. Granted, we could balance our budget and not have new treasuries to sell, but with a one-person one-vote democracy fiscal responsibility is not going to happen.
It’s not solely coming off the gold standard, but because Chinese and Petro dollar states do not have freely floating currencies.
I hesitate to disagree with our host — Mish has great insights and pungent comments on many issues. But the trade deficit is not a simple consequence of going off the Gold Standard. Mish’s graph shows the US dropping off the Gold Standard in 1971, and the trade deficit ballooning in the mid-1990s — a quarter of a century later!!! Over that same time period, the Government Regulatory Complex exploded, starting with the Environmental Protection Agency. That made it much more expensive to manufacture in the US, and businesses moved factories overseas. It seems that over-regulation is a much more significant cause of the trade deficit than the departure from the Gold Standard.
Mr. Hanke reminds me of those global warm-mongering alarmists — take a little bit of theory, and blow up its significance beyond all reason. And economy is a complex entity — where in Hanke’s little equation do we find the term for the impact of over-regulation, or the impact of innovation? We can all agree that TRUE free trade would be a good thing. But almost all international trade is managed in some form — often in ways that are hard to control. For example, the social pressure in Japan against buying a foreign-made automobile. And imports do more than benefit consumers through sometimes lower prices, it impacts the broader economy through the resulting export of jobs which in turn leads to very expensive social problems.
Not to give too much credit to Trump but what if Trump wants to put the breaks on the debt economy but can’t do so directly since he’d never get the votes to stop spending. Instead he undermines the trade deficit and blusters about fair trade. Trump makes foreigners the cause even while he is truly the cause through tariffs.
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https://qz.com/921722/the-country-trump-mentioned-with-a-100-tariff-on-harley-davidson-motorcycles-india/
I disagree that this can be oversimplified down to “trade imbalance”. Trump may be using that as a talking point to politically simplify the objective. but I think situations described in this link are a more accurate story. It’s not so much about trade imbalance as it is about fair trade.
Good morning to all, the surprising thing about the comments to mish’s column is that there appears to be a confusion about ‘desire” and “mathematical identity”. It is impossible to consider trade in the great abstract — in fact, its the same (opposite) for Germany — it is the engine of export in Europe, and therefore must hold a lot of debt from its clients. El Tedo in particular! BTW I would suggest that the latest tax cuts will create a massive deficit, far in excess of the 1.5 trillion that Trump’s administration massaged — the impact will be massive trade deficits (also higher interest rate..maybe)
Hi Realist: I think everyone agrees a trade war is the worst outcome. However, I think free-trade purists sometimes oversimplify the views of people who believe we should only have free trade with nations that reciprocate. Other nations, we need to negotiate reasonable terms. I think it’s analogous of a personal relationship. You have to be willing to walk if you’re being treated poorly, even if that would be more painful than staying, otherwise you won’t be respected.
“Once again, the roots of this problem date back to August 15, 1971.” The roots of the problem go back farther than that. Closing the gold window was a reaction to that which came before it. China does not have a gold window, yet they have a trade surplus. The U.S. became producer to the world after WW2. It was a period of time, not something that could be maintained as a permanent status. Empire is also a period of time, otherwise the Roman Empire would still be today.
While it’s true that the equation the professor cites is true, the interesting question is which elements are “constants” and which are variables, and I don’t think that the answer is obvious. The author takes the opinion that the (Savings-investment) term is constant, meaning that larger federal deficits mean larger a larger trade imbalance. Suppose the balance of trade is the constant? Then the equation simply tells you that the more government spends, the more individuals have to save. That makes logical sense: If the government takes your money and spends it, it makes it harder for you to spend it, too.
The authors are correct that the only term that the government can directly control is the Federal deficit. If the government were to actually balance the budget, what would happen is that the trade deficit would equal the term (Savings-investment). Thus, we would only have a trade deficit if people stopped saving, and this is the professor’s point.
Why is everyone with a different perspective or opinion these days have to be either stupid or racist?
We give them debt denominated in our currency and they give us goods. What’s the problem? Why focus on China and Korea? We import a lot of oil. Less than we used to, but we still import more than we export, So why not put a tariff on oil imports? After all, as the oil price goes up, the more economical it is for us to produce our own oil. Of course, that would be political suicide, but really not much different than putting tariffs on solar panels.
Hey truthy, maybe you just think it’s a Monstetous Problem… I don’t see a problem, ,, within our country dome States have “trade deficits” with other states,,, who cares it’s just business,,, can’t believe people want to punish foreign competitors and subsidize inefficient American Mfr such as whirlpool by making Me pay more for a washing machine.
And I am sure that the slave holders in the old south had the same view of abolition.
Truthseeker says “…offer any ideas, solutions as to how to deal with this monsterous problem. …”
More Hyperbole and sensationalism about Trump for click bait.
You are welcome – But I sure never thought the bubble in equities could ever get this big
Just wondering if anybody has sorted out the cost of lumber from just one year ago, it’s up over 50% after Trump put tariffs on Canadian lumber last year. How much might be due to the hurricanes and fires vs demand for new construction/remodeling. Many companies lumbering in Montana, Oregon, California, and Washington want to do selective cutting of heavily forested areas to thin out and promote healthy growth and cut down on destructive fires, but when they get permits to do the cutting, the Social Justice Warriors show up with a lawsuit and a preliminary injunction. These companies have pretty much given up on the practice. It makes one wonder who is really behind these lawsuits.
A succinct and cogent article by Professor Hanke: thanks for posting. In this context, the recent Boeing – Bombardier case where the U.S.’s own International Trade Commission voted unanimously to reject Boeing’s complaint and overturn the sanctions (tariffs) earlier imposed by the Trump administration perhaps provides another example of Trump being played: drowning in the swamp rather than draining it, alas.
We need to have a free market in money. In the absence of government intervention, society has always chosen gold when it was available. There have been several proposals on how to get back to a gold standard, I believe Ron Paul had one. We certainly need to get rid of central banks. What good has the Fed done, expect to bail out the banks? I would start by killing fractional reserve lending, something I have stated many times.
If someone is clueless they are clueless – Trump is seriously clueless – What’s the point in beating around the bush
I believe you conviently forget Smoot Hawley
wow, anyone that considers themselves an “economic analyst” and then uses a phrase like “proves he’s clueless” when speaking about the President of the United States is definitely not an opinion that you want to consider seriously in any form.
Perhaps Trump and his team have looked at history instead of economics and noticed that from 1816 until 1967 the USA was the most trade protected nation on earth and the Boogie Man did not get us. From Abraham Lincoln until 1900 tariffs averaged above 40 percent and none of the glum and doom economist ascribe to tariff protection actually happened. Instead we prospered. Perhaps they also noticed that nearly 100 percent of economists collect a salary from an institution that benefits from free trade and just might be biased in favor of their masters.
Apologies for being critical with my first, I have been reading in awe for years and said nothing. real nice of me-
You are a free trade guy, which I cant argue at all- Maybe its wishful thinking on my part, but correct me if I am wrong, either way, jumping to this conclusion is a logical fallacy, right?
I mean after all, if that was true he would be defenseless to your arguments because he would give himself away. Maybe it’s wishful thinking, but it is literally the only flaw in logic I have seen in your work, this jumping to the conclusion that he believes the things he says or does literally, and theoretically, in a way that we can make assumptions about his intent. I am not just being a Trumpet here, I am just sayin….
tariffs could be nothing more than waving a big stick in the air, positioning- Even to the extent that it was seen as collateral damage
so in that sense
I don’t think he even has to believe in Tariffs working because he uses them, much less as an overall strategy. I believe his focus (misguided or not) is on making the deals, which is where he believes his strength lies
I am just saying-
but hey, with much respect I think you are unintentionally kind of falling for a fallacy here or maybe just a misread on the trump trade thing-
I really think you are clearly a genius. and we have in common that we are both in Finance and Nature Photography at the same time-
My first post Mish I’ll make it a quick one (for me)-