It’s the Trade Deficit, Not the Budget Deficit

The U.S. and global stock markets soared on June 10, after China reported a fifty percent rise in exports,  compared with a year ago.  "China's export growth reassured investors that a recovery in the global economy remains on track," said Yutaka Shiraki, senior strategist at Mitsubishi UFJ Morgan Stanley Securities in Tokyo.  The recovery of Chinese exports may be good for investors but it is not good for American workers.  U.S. exports fell for the second time in three months yielding a trade deficit that was the highest in 16 months.  And finally, the U.S. deficit with China widened.  China imported $6.5 billion of goods from the U.S. but exported $25.9 billion in April.

This trade deficit, a cause of the financial crisis, now impedes the U.S. recovery.  You could never tell as politicians and business elites talk only about the budget deficit.  At 3.1 percent of GDP, the trade deficit subtracts from the demand for domestic-made goods and services.  It has certainly weakened President Obama’s stimulus because some of the money intended to boost production here has leaked out to support foreign manufacturing.  The president had promised that the country would not go back to the pre-crisis economy where borrowed money supported American consumption of foreign-made goods.  The global economy would have to be rebalanced:  surplus nations like China and Germany would have to stimulate their domestic markets and buy more from abroad.

The president’s words, if not actions, promised a departure from U.S. postwar policy. After World War II, from 1947-73, income and wealth were mildly redistributed, even as economic growth soared.   At the same time, the nation’s leaders cemented Cold War alliances with foreign access to the U.S. market.  In April 1950 the government concluded that “Foreign economic policies should not be formulated in terms primarily of economic objectives; they must be subordinated to our politico-security objectives.”  That State Department judged in 1960 that “Japan’s resistance to Soviet-Sino pressures will depend in large measure on whether the free world [is] willing [to] make reasonable place for Japan’s trade.”  The U.S. was willing; Europe was not.  Indeed, U.S. policy toward European trade was rooted in identical practices.  George Ball, President Kennedy’s undersecretary of state for economic affairs, operated under the premise that “we Americans could afford to pay some economic price for a strong Europe.”  The question was which Americans would be paying that price.

In 1945, U.S. economic superiority was so vast the one-sided trade policies did not seem to matter, but over time they began to be important.  And when high oil prices and economic competition from Japan and Germany battered the economy in the 1970s, new policies—international and domestic—were needed.  The fire bell in the night came in 1971 when U.S. suffered its first trade deficit since 1893.  Two years later wages began to stagnate, largely because of a drop in productivity, which the labor movement attributed for U.S, investment abroad.

The Democratic party, enjoying a two to one majority in the country, barely responded.  New Democrats, often from suburban, affluent districts, made it a badge of honor that they were not New Dealers.  Coming of age during the affluent 1960s, they believed that post-economic issues—foreign policy, race, gender, the political process, and environment—were the important ones.  They ignored or misread the new industrial competition with Europe and Japan.  President Jimmy Carter represented this anti-industrial or post-industrial army in the Democratic party.  Oligopoly, pollution, and now inflation were the trinity of industrial sin.  Carter believed that “trade can play an important role in the fight against inflation.”  The old foreign policy priorities lived on, too.  The White House still believed that “free access to U.S. markets is a matter of ranking importance for our allies and almost all the developing countries of the world.”  The growing trade deficit, despite the cheaper dollar, was the result.  So, the U.S. looked away as other nations subsidized their industries and dumped exports in the American market.  The OECD found that the U.S. had the lowest ratio of subsidies to GDP of any of the developed nations and the U.S. ratio had declined since the late 1960s.  In 1979, Anthony Solomon, undersecretary of the Treasury, finally perceived the danger.  Solomon said that the “single most important strategic issue for U.S. international economic policy over the next 5-10 years is to what degree we join or fight the global tend toward increased government intervention in trade/investment etc. activities.”

Jimmy Carter was uninterested and Ronald Reagan not only opposed industrial policy but also what he called tax code socialism, the use of taxation to promote economic sectors.  President Reagan’s program of tax reduction, deregulation, and free trade in the context of a globalizing economy quickened the shift of resources from manufacturing—“the tradables”—into finance, housing, and services.  High American interest rates and financing from abroad allowed Americans to maintain consumption despite stagnating wages and huge trade deficits.  The tech boom in the 1990s enhanced productivity, employment, and wages from 1995-1999.  But between 1999 and 2007, job growth slowed and wages stagnated.  New employment took place primarily at the low end, according to a recent report by Professor David Autor.  Cheap money, mainly from China and Japan, which accumulated dollars from their trade surpluses, allowed Americans to maintain consumption despite stagnating wages (and those low rates were incentives for banks to take undue risks to compensate for the low yields).  The trade deficit, peaked at 6.5 percent of GDP in 2006.  It was this global model that brought the world to the edge in the fall of 2008.  And, it was this imbalance that President Obama promised to reform.

Anthony Solomon’s judgment is still relevant.  Most other countries, even in the era of globalization, have clear objectives:  protecting their labor markets which usually meant running a trade surplus or at least not a deficit.  In contrast, the U.S. imagines that markets determine industrial locations.  President Obama still trades its technology and markets for foreign policy objectives.  The government wavers on employment.  The U.S. does have industrial policies by default:  sugar, housing, and Big Pharma get breaks.  And, the biggest beneficiary of these policies has been the financial services industry.  But this strategy brought the economy to the brink.  The U.S. cannot prosper by simply reforming health care and controlling greenhouse gases.  It must begin to make more of the things it uses and sell more abroad.  To do that it will have to end the chronic dollar overvaluations of the last thirty years and begin to talk about new trade and investment strategies that can produce a more stable and just nation.