Why Trade Deficits Don’t Always Mean What Trump Says They Do

(Bloomberg) -- It’s fair to say that U.S. President Donald Trump abhors trade deficits. Shrinking them was a cornerstone of his campaign for the U.S. presidency. Once elected, he cited them as the reason for igniting a trade war with China and imposing tariffs on other countries’ exports of steel, aluminum and other products to the U.S. Trump says trade deficits -- the difference between what the U.S. imports and what it exports -- are a sign of a declining manufacturing base and loss of American might. And he blames weak U.S. leaders before him for negotiating bad deals that caused the trade gap to widen. Problem is, trade deficits don’t always mean what Trump says they do.

1. Doesn’t a deficit reflect a weak economy?

Not necessarily. A trade deficit can mean a country’s consumers are prosperous enough to buy a lot of imported goods. China and other countries with a surplus own lots of dollars as a result, and they often reinvest those dollars in the U.S. When the economy is growing, employment is increasing and consumption is booming -- in other words, when all is well -- the U.S. trade deficit generally grows. In such times, the dollar is generally stronger against other currencies, which also pushes the trade deficit up. Seven years after the U.S. signed Nafta, the trade deficit hit a record high, yet unemployment had fallen to 3.8 percent -- the lowest point in three decades. But when the economy is contracting, the trade deficit usually shrinks, as it did during the 2008-2009 recession.

2. What is the U.S. balance of trade these days?

With exports of about $2.3 trillion and imports of about $2.9 trillion, the U.S. had a trade deficit of $568 billion in 2017, a 12.6 percent jump from $505 billion in 2016. The spike is a result of the U.S. economy’s strong growth, which more than offset the Trump administration’s efforts to cut the trade deficit with tariffs and jawboning of other countries. But the $568 billion deficit isn’t, as Trump says, an amount that the U.S. has "lost."

3. Isn’t $568 billion a huge deficit?

Yes, it’s nearly 3 percent of total U.S. output. But the trade deficit has been above $400 billion since 2002, so many economists (except for a few Trump advisers) have learned to accept them. The last time the U.S ran a trade surplus was 1975. The deficit ballooned after China’s entry into the World Trade Organization in 2001 greatly expanded U.S. imports from there. The U.S. is by no means in deficit everywhere; it has a trade surplus with many countries, including Saudi Arabia, Hong Kong and the Netherlands.

4. Doesn’t Trump put the trade deficit at $800 billion?

That’s a number he often uses. It takes only manufactured goods into account, rather than goods and services (which is how it’s most accurately calculated). The U.S. in 2017 had a $243 billion surplus in services and an $811 billion deficit in goods, netting a $568 billion deficit.

5. Will the trade deficit shrink with the U.S.’s new tariffs?

It hasn’t so far, and Federal Reserve Bank of New York economists say not to expect it to. They argue that tariffs will make other countries’ exports more costly, which will likely reduce the quantity and value of imports into the U.S. But, they add, U.S. exports will also fall, not only because of other countries’ retaliatory tariffs, but also because the costs for U.S. firms producing goods for export will rise and make U.S. exports less competitive on the world market. The end result is likely to be lower imports and lower exports, with little or no improvement in the trade deficit.

6. Are trade deficits as simple as exports minus imports?

Short answer? Yes. Long answer? Still yes, but there’s more to the story -- and this is where it gets complicated. Most of the world calculates trade deficits by subtracting total imports from total exports. Within total exports, however, there are two subcategories: domestic exports and re-exports. Domestic exports are things made or improved in the U.S. and then exported. Re-exports are goods, such as autos, that come into the U.S. and are sent back out, unchanged. They both count as total exports.

7. How might Trump change the calculation?

Early in Trump’s presidency, some media reported that he wanted to calculate the trade balance without re-exports, a category that also includes inventories and used goods, which are key components of the global supply chain. Trump’s chief trade negotiator, Robert Lighthizer, later said the current way re-exports are tallied in trade data led to "wrong numbers" for much of the world and that "hopefully it’s something that we’re going to sort out" in negotiations to rewrite the North American Free Trade Agreement. By not counting re-exports, Trump hopes to make the trade deficit look much bigger, handing him more leverage in trade talks and more justification for tariffs. The problem is that excluding re-exports would overstate the deficit unless they are excluded from imports, too.

8. Does anybody else want to change the formula?

Yes, but not the way Trump does. Most economists think the traditional exports-minus-imports worldview is outdated. An iPhone has parts manufactured and designed in dozens of countries, but because China finishes the product, it gets an outsized portion of the credit. A better method would evenly distribute credit along the supply chain, so that each country’s trade balance depends on the value of its contributions. This method would cut the U.S.’s trade deficit with China by about 50 percent, according to a recent estimate using 2014 data.

9. Who benefits from trade?

A famous study in 1999 documented that trade in general helped lead to a burst of economic growth in developing countries. That helped emerging economies become consumers of exported U.S. goods, which created American jobs. Also, when imports exceed exports, jobs lost to cheaper labor overseas over time were often balanced with better-paying jobs domestically. Other studies have shown that foreign competition helps make American producers more efficient.

10. And what about the losers?

Until about 2000, most workers displaced by trade managed to find new jobs. But that didn’t happen after China was allowed into the WTO. China at the time kept the value of its currency low relative to the dollar, heavily subsidized its exports and had a vast supply of low-wage workers. While some of those factors have since dissipated, they made it hard for U.S. manufacturers to compete. Many closed plants and moved jobs abroad. Another landmark study showed that workers in the Midwest who were most exposed to Chinese competition were unable to recover; some of those regions, which voted heavily for Trump in the 2016 election, are still feeling the effects of lost jobs and wage cuts.

The Reference Shelf

• A timeline by Bloomberg News of Trump’s tariffs and other trade moves.
• Bloomberg QuickTakes explain what a trade war is, what happened in the last great trade war, how national security is being invoked and the sticking points in Nafta talks.
• A Bloomberg Opinion op-ed argues that the U.S. trade deficit with China is lower than Trump thinks.
• Bloomberg Opinion columnist Noah Smith writes that Trump’s top trade adviser made a rookie mistake on trade deficits.
• This letter was signed by 370 economists protesting Trump’s trade, labor market, regulatory and other economic policies.
• Two left-leaning economists take a less-benign view of trade deficits.
• A Bloomberg graphic explains the numbers behind the trade gap (in goods only) between the U.S. and various countries.
• Two international organizations, the OECD and World Trade Organization, are working on a new value-added measure of trade.

--With assistance from Dave Merrill.

To contact the reporter on this story: Austin Weinstein in Washington at aweinstein18@bloomberg.net

To contact the editors responsible for this story: Sarah McGregor at smcgregor5@bloomberg.net, Paula Dwyer

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