03 April 2019

The trade deficit of the largest economy in the world hits record levels in 2018: which is not necessarily bad for Americans nor absolutely good for the rest of the world

Radu Muşetescu

Image source: Mediafax

The 10 year record trade deficit of the American economy, which was announced few days ago, may have surprised many. Mass media is full of analysis of the apparently dynamic trade measures of the current Trump administration that fights in order to balance such a deficit. Let us not forget that the highest trade deficit of this economy was recorded back in 2006. That was the year which came before the greatest recession after World War II. In consequence, the news is not strictly related to Chinese and Europeans, to Toyota pick-ups or Illinois soybeans or the way the American president Donald Trump puts pressure on the U. S. trade partners. The real challenge is related to the possible recession that is gathering at the horizon.

According to data published on 6th of March 2019 by the US Department of Commerce, the year 2018 witnessed the largest trade deficit of world’s largest economy in the past 10 years: $ 621 billion. Although this level has increased comparing to the one in the previous years, this deficit is still far away from the absolute record of 2006 when it hit $ 761 billion. However, year 2018 witnessed the largest merchandise (that is, tangible goods) deficit in the history of the American nation, which was $ 891 billion. In other words, in 2018, the American borders have been „invaded” by the largest volume of such goods ever recorded. Which is, let us be honest and despite a large stream of comments in international media, not so bad for the common American.

The simplistic approach to look at the trade deficit of a nation is that the larger, the worse. Such a conclusion could be qualified as naïve for a lot of reasons. A large number of issues should be taken into discussion – such as the structure of the deficit, the identity of the exporters and importers as well as the financial-monetary dimension which is associated with the discussion – and it could bring important qualifications.  

For example, the fact that the American economy records the largest merchandise deficit could meanwhile tell us that, under the condition of a not so record aggregate deficit, the services trade of this economy recorded an excellent evolution since 2006. This is not bad, given that across contemporary global economy, besides the tangible products trade, the one with services are more and more important and have a significantly bigger value.

On the other hand, from an international perspective, the most significant part of the American trade deficit, that is, $ 419 billion from the $ 621 billion, is recorded in the trade with the Popular Republic of China (PRC) while $ 169 billion is recorded in the bilateral relation with the European Union (EU). PRC has already become the second largest economy in the world, with an estimated Gross Domestic Product (GDP) in 2019 of $ 14,242 billion and with a spectacular track record in the last 40 years. However, it is still far away from being a real contender for the first position, which was $ 21,506 billion that are annually added by the resident American producers. For several reasons. And among them, the fact that the Chinese exports to the American market are, in a significant way, made by Chinese affiliates of American – and not only American – transnational companies. In other words, Americans export from China to America. The American companies implanted in PRC have a significant no only local production but also sales, around $ 222 billion. If we pass at an aggregate level, the foreign sales of the American affiliates plus the American exports on those markets are larger than the American imports from those markets plus local production – in U. S. A. – of foreign companies. It is public knowledge that not so many foreign companies invest in the American economy in order to export to other markets. Meanwhile, the global exports of, for example, iPhones of the American Apple Corporation, which are manufactured in PRC, hit $ 218 billion. And they were recorded as Chinese exports.

The largest German commercial bank, Deutsche Bank, has assessed that, in the last year, the surplus of the American producers at global level was of $ billion. Which is obviously a not so big figure but it is still a surplus. And globally, it hits the spectacular amount of $ 1,400 billion. In other words, the American companies sell abroad more than the foreign companies sell in America, a figure that obviously ignores where are the goods and services produced (data compiled by Z. Zhang and Y. Xiong, analysts at the Chinese division of Deutsche Bank).     

Not least, the significant trade deficit of USA towards PRC is a consequence of the more complicated situation brought about by the introduction of third countries into analysis. In other words, if a Japanese multination company manufactures in China in order to export to the American market, this is recorded as a Chinese export and contributes to the American trade deficit towards China. We could argue that this is not accurate as the profit of such a transaction goes, in the end, to Japan. And that means that a lot of countries (especially the developed ones) are „externalizing” their trade surplus towards the American economy in the P. R. C. trade surplus towards U. S. A. So the American trade deficit towards China is, in fact, a trade deficit towards a larger part of the global economy.

The number itself, but also the way in which is presented by the international media may seem to suggest a slippage for the largest economy in the world.We could argue that this is a superficial analysis. The American economy continuously climbed in the top of the most competitive economies in the world, according to rankings annually published by the World Economic Forum. It reached the top position in 2018 – 2019. The only country in top 5 from the European Union is Germany (the third position) while the Popular Republic of China is on the 28 position. While we could debate the methodology employed in these rankings, the reality is not very far away.

Now another discussion, also interesting, emerges regarding the moment of the occurrence of such a record deficit, which is two years in the first mandate of president Donald Trump. During these two years, the American administration has initiated so-called „trade wars” with at the least the two top exporters on the American market, which are the EU and the PRC. Let us admit that these so-called wars have not reached the stage of open and total warfare as some tariffs on iron bars, solar panels and washing machines have not generated a shock in the global economy. They are, however, signals that the American president, self-declared a „tariff man” in a Tweet on 4th of December 2018, is ready to put a lot of pressure on the trade partners of USA.

Mocking the objective of the current administration to reduce the American trade deficit is, however, the sign of a minimalist approach. The deficit could have been larger if Donald Trump would not have taken the measures from the last two years. This would suggest, for example, that arguing that the American government failed in this direction is too much and too hastened. But, at the same time, it is clear that the American 10 years’ record deficit could be interpreted as the sign of something different: a recession. And now we got to the sensitive point of the discussion.

The analysis of any merchandise or services flow should be paired with an analysis of a parallel currency flow, that is, a financial flow. Nobody can record a trade deficit unless there are money to pay with. Or the Americans usually pay their imports with American dollars. The record American trade deficit tells us few important things related to the past and future dynamics of the American dollar in the world economy. For example, much more relevant than the trade deficit is the current account deficit (currency inflows and outflows of the American economy). The figures are not already published for the entire 2018 year but those for the third trimester are not looking too well: minus $ 124.8 billion, that is, an annualized 2.4% of the GDP. In other words, larger than 2008, a difficult year during the recession. In other words, amongst the most competitive American export commodities is the American dollar. What is not necessarily bad. But it seems that there is no praise in that.   

The high demand for American dollars from other countries tells us that this currency is highly wanted on the global level. It is difficult to estimate whether this is politically motivated or strictly based on merits. But, in the case of the American dollar, the thirst seems not to be satisfied. In addition to your merits, in a global competition, it matters a lot how weak are your competitors. And, from this perspective, we cannot think at another currency, such as the Euro or the Renminbi Yuan, to seriously challenge the massive demand for the U. S. currency of the world today.

Such a strong advantage of the American currency also has a darker side which has nothing to do with the rest of the world but with the American economy. We are most probably witnessing an overvalued dollar and this has not been processed by the global economy. This is the result of the last 10 years (more precisely, the last 30 years) of monetary expansion. The answer of the American central bank, the Federal Reserve, to the 2007 crisis was to „fight fire with fire”, with a receipt a la Paul Krugman. Such an approach seems to today show its limits, after a 10 years of „quantitative easing” through which the Federal Reserve have injected more than $ 4,000 billion in the local but also global economy.

The still timid attempts of the American central bank to cool off this super easy money policy have hit the same president Donald Trump who immediately criticized the most increases of 0.25% in the rate of interest envisaged by the bank in September 2018. In other words, there is intense political pressure on Fed to keep the „cheap dollars” policy while the rest of the world hasn’t become aware of hoc cheap these dollars are.

The current American president has never enjoyed high level of trust and support from the part of the American public opinion, even after winning the presidency in 2016. However, there is a single aspect of his policies where there is constantly a favorable majority in the public. And this is, you guessed, the way in which he manages the American economy. In consequence, the piece of news about the record trade deficit of the American economy, which seems to thrill the detractors of president Trump, may be also a sign of black clouds at the horizon: those figures have just offered enough ammunition for the American presidency in order to extract major trade concessions from the international partners. Due to the fact that the American president knows, as any political analysts in the Western hemisphere north of Rio Grande that the performance of the national economy is the main criterion to choose the candidate in the elections for the second term of any American president. And this is in the middle of a period when the majority of analysts forecast a recession in 2020, which is less debated in international media.

In conclusion, the big question for the following two years is not really about the year in which the American economy will witness a record trade deficit to surpass the 2006 one. The big question is whether the next recession will come before or after the American presidential elections. As the answer to this question will significantly impact the results of the latter.