Is the Trade Gap to Blame for Slowing GDP Growth?

What had been a recurring story line buried in the business pages has now burst onto the front page: “Economic growth slowed by trade gap,” the Washington Post reports this morning in an above-the-fold headline.

The lead sets the stage for a story long on generalizations: “A widening U.S. trade deficit has become a substantial drag on economic growth as the country’s exports struggle to keep pace with the swelling sums that Americans are again spending on imported goods.”

The half truth in the story line is that exports fell by $2 billion in June compared to the month before, and that this has a negative effect on overall GDP growth. In our more globalized world, the rising wealth of our trading partners translates into more production in our own economy, and vice versa.

The fatal flaw of the story line (as I tackled recently here and at greater length here) is that it assumes that rising imports slow economic growth. That assumption, in turn, rests on a simplistic Keynesian view that if a portion of domestic demand is satisfied by spending on imports, that means less demand for domestically produced goods, thus less output and lower employment.

That view neglects the supply-side role of imports. More than half of what we import consists of goods consumed by producers—capital machinery, raw materials, parts and other intermediate inputs. Those imports help us produce more, not less. The Keynesian view also confuses cause and effect: Imports usually grow in response to RISING domestic demand. Consumers more eager to spend “swelling sums” on imports typically buy more domestically produced goods as well.

The bean counters at the Commerce Department “subtract” imports from GDP, not because those imports are a drag on growth, but to avoid double counting. If we want to count the number of widgets and other goods added to the economy in a quarter, we would obviously not count those that have been imported. But this does not mean the economy would have been that much larger if the widgets had not been imported.

The Post story adds to the misunderstanding by claiming: “At a basic level, trade deficits represent a loss of wealth for a country—money flowing abroad for goods and services produced elsewhere, supporting businesses and workers in other countries.”

This betrays a basic misunderstanding of wealth that Adam Smith exposed two centuries ago in The Wealth of Nations. Does wealth consist of money—pieces of green paper or blips on a computer or, in Smith’s day, bars of gold—or does it consist of the actual stuff that people produce to make their lives better, all those goods and services that we consume each year? Smith argued it was the latter. And in that case, a trade deficit at a basic level represents an inflow of wealth from the rest of the world—a cornucopia of cool stuff arriving everyday at our ports and stocking the shelves of our stores.

Of course, even if you think that dollars are the ultimate measure of wealth, obsession with the trade deficit ignores the fact that those dollars spent on imports quickly return to the United States. If they are not used to buy our goods and services, they are buying our assets—real estate, stocks, Treasury bonds, and so on. The “loss of wealth” supposedly represented by the trade deficit is almost exactly offset every year by a “gain of wealth” represented by the net inflow of dollars in the form of capital investment from the rest of the world.

Besides being wrong in its basic economics, making the trade deficit the scapegoat for slow growth poses a double danger for economic policy:

Danger no. 1 is that it tempts politicians to reach for the snake oil of protectionism to create jobs. If only we could stop the flood of imported goods, Americans would make more of those same goods themselves, creating millions of jobs. In reality, higher trade barriers impose a host of offsetting costs on the economy, resulting in lower output.

Danger no. 2 of blaming the trade deficit is that it diverts attention from policies that are far more plausible culprits in dampening growth. Politicians find it much easier to blame imported consumer goods from China for slowwer GDP growth than huge looming tax increases, expensive new health care mandates, a depressed housing sector, and a generally anti-business climate in Washington.

The trade gap should be the least of our worries.

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2 responses to “Is the Trade Gap to Blame for Slowing GDP Growth?

  1. It is completely true, looks like Dobbs might had authored that piece. However, all our the institutional language that frames the trade debate is mercantilistic in essence. Word s like “tariff concessions”, “tariff bargaining”, “unfavorable balance of trade”, an so on. People would still believe that kind of economic nonsense as long as the terms used in media and academia are still based on a mercantilistic-minded language.

  2. How exactly do “huge looming tax increases, ” i.e., tax increases that HAVEN’T occurred yet, – and I assume you are referring to the Bush – wipe out the surplus – tax cuts for the wealthy 1.5% that are not being renewed but have not taken effect (because no other tax increases are being discussed -by anyone), as a culprit in dampening growth? Talk about simple minded jargon; this article is so full of right-wing demagogic generalities re: trade and economic slight of hand it’s stunning! The trade gap IS a loss of wealth, and this idea that the dollar will always return that we can keep financing the budget deficit as well as the trade imbalance with these “returned dollars,” is an illusion, and that the country is now and will be for a generation – be paying for. Talk about bean counters: you and all the money changers on wall street who add NOTHING to the economy (except a huge cost as seen by the collapse and bailouts – that CAUSED your “depressed housing market”) have been bleeding the country dry for years with your “so-called FREE TRADE IS THE ONLY GOOD” mantra, as jobs and the country’s manufacturing base has disappeared.

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