October 27, 2016    10 minute read

Why Trump’s Ignorance About Trade Deficits Is Detrimental To The US

Back To School    October 27, 2016    10 minute read

Why Trump’s Ignorance About Trade Deficits Is Detrimental To The US

Donald Trump wants to become “the greatest jobs president that God ever created.” Can he achieve this self-promoted accolade?

Trump’s Promises

Trump is many things, including an excellent self-promoter, but one thing that he clearly is not is an economist. His method of winning votes involves pandering to the US worker who thinks he is out of a job because of America’s persistent trade deficit with countries like China (a trade deficit happens when a country imports more goods and services from a trading partner than it exports to it).

He says he will become the Greatest Jobs President by implementing protectionist policies such as introducing import quotas and slapping tariffs on Chinese goods that are coming into the US. Sounds good in theory, right? All those Chinese workers making things cheaply and dumping them onto US shores must be causing unemployment, because those things used to be produced in the US instead, and should be again. How dare they!

However, Trump is misguided in thinking that he can create more jobs for Americans by introducing tariffs on Chinese imports. One sincerely hopes that he will not implement half the things he says he will, and that, if he is elected, he will instead listen to the wisdom of his advisors, who understand economics and the fallacy of trade deficits better than he does.

Not A New Issue

This is hardly a new problem. The United States has seen this particular drama before, not least when Japan had a massive trade surplus with the US in the post-World War 2 era (a trade surplus is simply the other side of the trade equation — when there is a trade imbalance between two countries, one has a surplus, and the other incurs a deficit). The accusations back then were of the Japanese “dumping” their cars and televisions on the American market by selling them at prices much lower than those at which the US could afford to produce them — and that was assuming they could replicate the Japanese products’ reliability and innovation, to say nothing of competing on price.

A simple fact of life is that some countries are better at doing or making things than others, and if that is the case, then one should let it be. Why should the US make cars or even T-shirts when another country’s workers can do it better and cheaper than they can? This is not a trick question, by the way, because the answer is both intuitive and correct: economics is the study of scarcity. Time and valuable resources such as labour and capital are always limited, and the solution that is always sought is how to make the best use of available resources. Doing things any other way than the optimal method is both irrational and wasteful.

The Obvious Solution

Think about this: if two people are together on a desert island, they have the ability to trade with each other. One is good at making canoes, while the other is good at making clothes to keep warm at night. This being the case, what each person should not do is attempt to make both canoes and clothes individually. The optimal solution is for each person to do what he or she is best at and then trade products with each other. Time and energy are thus saved. And so it is with world trade: if one country is better at making cars or computers than another, then that country should continue to make cars and computers and trade with other countries that can supply alternative goods and services in return — goods and services that happen to be the speciality of that particular country.

“Aha,” one might be saying — “but we are losing jobs in the X industry because of cheap imports from foreign competitors. Wouldn’t it better to have more employment by making X ourselves, even if it does end up being more expensive?”

Well, actually, no, it would not. For starters, more expensive goods and services would mean an increase in the cost of living for the consumer. Jobs are not the real issue here in a sense, because if that were the case, one could give everybody in the country employment by taking away their tools so that everything had to be done manually. Think about how much less productive one would be if all of a sudden their washing machine were removed from their home and one was suddenly forced to scrub their clothes with a washboard, like the one that their great-nan used to use all day a few generations ago? Would you not miss the time you could be spending doing more productive things? Is the combine harvester stealing jobs from manual labourers sweating in the cornfields? Well, yes, it is, in the sense that there are fewer labourers working in cornfields because a single combine harvester can do the job of dozens of people. But that is the whole point of a combine harvester — it is simply more productive to use machinery and save the blood, sweat, and tears of manual labour.

The Smart Way Of Using Resources

This is the whole point of capitalism and free trade. It has given the whole world what it needed — a rising standard of living for a steadily increasing number of people — and that extraordinary progress has been due to the accumulation of knowledge and innovation that liberated the worker from the drudgery of manual work. Capitalism has never reduced employment overall, it has merely liberated workers so they can spend more their time doing more productive things.

So to all those people who lobby government to save industry X, the answer should be clear: you are being put out of a job because someone can do it better, cheaper, and more efficiently than you can, and your job displacement simply means that you should be allocating your time and energy to doing alternative things. Your skill and resources are required in other industries where there is demand. Who benefits from tariffs and import quotas? Special-interest groups that plead with and lobby government to save workers and industry — and, of course, the government itself, which gathers tax revenues raised by imposing tariffs at ports of entry. Consumers certainly do not benefit from tariffs and quotas. Indeed, not only must they bear the additional cost, but they also have to make do with more expensive (and possibly inferior) products.

Why Trade Deficits Are Not Bad

Another important point about trade deficits is this: they are not, in fact, bad. They are not bad because trade deficits have to be financed somehow. Trade between two countries can only take place when goods or services are produced and exchanged. That is what trade is. Going back to the desert island example: I make canoes, and you make clothes, we swap goods, and we benefit mutually.

In today’s world, one uses money to facilitate that exchange. Money has no value outside of the fact that it can be exchanged for things — in that sense, it is just an IOU. If you were the person on the island who made clothes, would you be happy if I were to give you several IOUs instead of delivering the canoe that you so desperately needed? You might do if you trusted me and had faith in my ability eventually to make good on that IOU and deliver the canoe, which you can now use to go fishing. And here is the real crux of the issue: money and IOUs are traded in faith — faith in the ability of the issuer to redeem the full value of what was agreed upon at the point of exchange. Because if I were to die suddenly or renege on my promise to deliver the canoe, your net position would be that you laboured to make clothes for nothing, because all you had for your trouble was a piece of paper that had my signature and a promise to honour my obligation at some point in the future.

What Money Actually Means

Hence, Trump needs to ask himself this basic question: can it be bad for the American public to benefit from cheap goods made and produced in China, especially if all the Chinese are receiving in exchange are bits of paper with a picture of an old man with a grey beard on them? Who is in the more uncomfortable position? Furthermore, Trump needs to consider this: China receives dollars in exchange for the goods it has sold. China then needs to decide what to do with those dollars — whether to keep them in the US or to repatriate the money by exchanging them for yuan. It is far better that they are kept in dollars, because that will mean capital is available for investment in the United States. How can that be bad?

The net effect of Donald Trump’s protectionist trade policy will be higher living costs and reduced productivity for the American consumer in the name of saving jobs. Trade flow will lessen when one knows intellectually that the world’s future lies in making the most of people’s talents and abilities by exchanging their skills and products with each other. One needs to recognise the fact that no country can make everything that it needs. We need to acknowledge the fact that some countries are simply better at producing things than others, and that one should let them continue to do so until either it becomes economically unviable or technology and innovation supersede it.

Concluding Thoughts

Hopefully, Trump’s rhetoric is nothing more than an attempt to win votes from an ignorant public and that if elected he would never implement these policies because of the retaliatory backlash that would result. This would staunch the flow of world trade, and reduce efficiency and productivity precisely at a time when it most needed.

It would certainly be a smack in the face for a nation that used to pride itself in free trade. But then, the US is rapidly becoming a country that its Founding Fathers never imagined. The image of the United States as a model of free trade and capitalism has slowly become an illusion, and it should recognise that the direction in which it is heading is ultimately one of protectionism, a retrograde step that ultimately leads to depression and, at worst, war. Trade is the lifeblood of the world’s economy. Trade, which should be free and unfettered by government interference, and which it is in everyone’s interest to promote, without exception — even those whose jobs are seemingly being threatened by it.

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