Growing out of the trade deficit

The U.S. government’s spin on the widening trade deficit is that it reflects a growth deficit in the rest of the world. This spin does not hold up well. All parts of the world other than Europe are doing quite well this year. Global growth is strong. In any case, the US does not trade all that much with Europe: US firms tend to produce in Europe for the European market, and European firms tend to produce in the US for the US market. The big trade flows are across the Pacific. Strong world growth is producing strong export growth: year over year U.S. export growth is 12.7%.Exports are growing faster than GDP, so exports as share of GDP are rising (good news -- they were falling as a share of GDP from 00-02). The problem: imports are rising even faster -- 14.2% overall (y/y). Even if you take out oil (up 22% y/y), goods imports up 13.4%.

The real problem is that the US already imports (1.5 trillion at the end of 03, 15% of GDP) so much more than it exports (1 trillion at the end of 03, 10% of GDP), that exports have to grow 50% faster than imports just to keep the trade deficit constant. So if imports are growing at 13%, exports need to grow at around 18% to keep the trade deficit from rising. Extrapolating based on monthly trade data suggests the 04 trade deficit (goods and services) will widen by $85 billion, to around $580 billion. A realistic estimate would add in another $10 billion to this estimate to reflect expected high oil prices, putting the overall deficit at around $590 billion for 04.

In the long-term, US exports need to rise as a share of GDP, so the US say exports 16% of GDP and imports 16% of GDP. But if imports keep rising substantially faster than GDP, exports are chasing a moving target.

Incidentally, this is one problem I have with Sebastian Mallaby’s analysis. He likes to emphasis that manufacturing is declining as a share of GDP (because productivity in manufacturing is growing faster than in services), and that it wrong to blame trade for manufacturing’s decline. That is partially right. But at the same time, if the rest of the world started spending the dollars it earns exporting to the US, i.e. the world started buying more US goods and fewer US financial assets (right now the world saves roughly 1/3 of what it earns exporting to the US as reserves), the US would sell $500-$600 billion more of goods and services abroad. Taking the current ratio of goods exports to services exports, that translates into at least $330 billion in additional goods exports -- or an increase in goods production of around 3% of GDP. Trading treasury bills for imported goods on the current scale has to have an impact on the composition of US output and employment, and it must be reducing US manufacturing output below what is otherwise would be even in the context of a long-term shift out of manufacturing. This is not an argument against trade; it is an argument that the US needs to pay for its imports with current exports rather than with promises of future exports (external debt is a claim on future export revenue just as government debt is a claim on future tax revenue), and that the rest of the world needs to be spending more of its current earnings buying US goods and less buying US financial assets.