I was distracted by other policy topics last week but not enough not to notice Peter Navarro’s article in the Wall Street Journal, headlined “China’s Faux Comparative Advantage.” Considering Navarro’s position in the White House, it is unfortunate that it demonstrates some serious misunderstandings about economics and trade. I will focus on a few here.
Navarro writes that “Contrary to the textbook model, whereby currency adjustments help rebalance trade, the U.S. trade deficit with China has been persistent.” I would love to get a source for that claim, as I can assure you that you will not find any respectable economic textbook that makes such an assertion. First, trade is global in nature, not bilateral, and there is absolutely no reason for any two countries to annually exchange the same dollar amount of goods with each other. Second, in our global economy, exports to another country are made of inputs from many other countries. That reality means while the recorded value of the export is the price paid in by the buyer in the importing country, that price is a reflection of many countries’ policies and comparative advantages. It also means that there is no way on earth that currency adjustment in one country can lead to a miraculous s0-called bilateral trade balance.
Nor should we want any such “balance.” Navarro’s entire argument rests on the mistaken notion that the persistence of our trade deficit with China is a problem. I have explained his mistake in some detail last week in an article for the New York Times but I will boil it down in a few paragraphs here.
As economists know, the trade balance reflects the choices made by people from around the world about how they spend, save, and invest their money. Just as you run a trade deficit with your grocery store, we run a trade deficit with China. That in and of itself is no problem.
More importantly, Navarro obviously fails to understand that whatever dollars we Americans send to China always come back to be invested to the United States in the likes of new factories and other physical capital, or of purchases of U.S. Treasuries (which finance the U.S. debt) and other financial assets.
Contrary to Navarro’s claim that we should be outraged by Chinese investments in the U.S. because they allegedly are the sign of Chinese chicanery, Americans are twice beneficiaries of our exchange with the Chinese: first, when the Chinese sell to us goods that we want at attractive prices, and second, when Chinese investments grow the U.S. economy by keeping long-term interest rates low. These benefits remain even when the Beijing subsidizes its companies and manipulates its currency.
Another article in the Wall Street Journal exhibits another form of the many misunderstandings about trade. This time it is Greg Ip who writes:
But in the long run wider trade deficits will make Americans poorer. That’s not because foreigners are stealing American jobs, as Mr. Trump often contends. Rather, it’s because Americans will increasingly borrow from foreigners to sustain their standard of living. Paying them back will wipe out a sizable chunk of the tax cut’s benefit.
Ip is confusing correlation with causation. To the extent that it is enlarged by Uncle Sam’s borrowing, the U.S. trade deficit is a symptom of government officials spending too much money and relying heavily on borrowed funds. If Americans get poorer in the long term, it will be because of this fiscal diarrhea and not because of the trade deficit. In fact, as long as Americans and their government officials believe that they should continue spending like they have in the last several decades while at the same time distributing tax cuts left and right (especially tax cuts, such as tax credits and deductions, that don’t grow the economy), then we should be grateful that foreigners are willing to lend us money at such low rates.
Finally, for those who care about reducing the trade deficit, I advise cutting spending and not passing tax laws that don’t promote economic growth. But reducing the trade deficit, as the president is trying to do, with massive tariffs (even only against China), will backfire in several ways. First, it will punish American consumers with higher consumer-goods prices. Second, if the tariffs are high enough to reduce imports significantly, one result will be less foreign purchases of U.S. debt and, thus, higher long-term interest rates on U.S. debt. Not good.