Eric Herr: The rest of the world is financing our deficit spending habits

To The Daily Sun,

President Trump is tackling the U.S. balance of trade “problem” with his typically strong and appealing rhetoric and strong action in a series of bilateral negotiations, promising select trading partners a carrot but threatening the stick. He’s right; over just the last four decades, the accumulated U.S. good and services trade deficit was $13 trillion. And yes, lower wage rates and currency, subsidy, and tax policies emphasizing employment fuel foreign trade advantages for many of our trading partners.

Certain U.S .industries also enjoy real export advantages, notably agriculture and defense and aircraft. But let’s set that aside.

If that were the entire story, even with those differences in policies and wage rates, over such an extended period of time, one would have expected currency rates to adjust to produce something approximating balanced goods and services trade in aggregate. The value of the dollar compared to other currencies falling pushing the prices of U.S. goods and services down for foreign purchasers and pushing the prices of foreign goods and services up for U.S. purchases. That would have moved the U.S. toward balanced trade. But it didn’t happen. Why not?

The answer lies in the second part of the story: the balance of payments and national saving vs. national investment. Among our trading partners, the U.S. has a remarkably low savings rate; we consume and invest beyond our income. Who makes up the difference? The answer: the rest of the world. The simple fact is that the rest of the world provides the resources to help finance our spending habits. In the process, their surplus in goods and services trade finances their purchase of U.S. financial assets, often our debt, bidding up the value of the dollar, putting even more pressure on the U.S. balance of trade.

There is a balance in the economic relations between countries. The net sum of transactions for financial assets between countries, the capital account, and the net trade in goods and services between countries are always approximately in balance. That is they offset each other. So, Instead of buying U.S. goods and services to produce a balance of trade, the rest of the world is buying our financial assets and financing our spending habits, producing a balance of payments between the US and the rest of the world.

Unless U.S. policy reduces U.S. need for foreign funding of our investment-savings imbalance, our balance of trade will not improve. The rhetoric that blames our balance trade deficits on the wages and policies of our trading partners may feel good, but it ignores a potent factor in our international economic relations.

That factor is on full display in the deficit-busting effects of Trump’s Tax Cut and Jobs Act, which is putting even more pressure on the U.S. balance of trade, despite tariffs and new bilateral trade deals. In economic policy, the whole story matters.

Eric Herr

Hill