Large Trade Deficit Spells More Difficulties Ahead for US Economy

AmericanEconomicAlert.org ^ | Thursday, January 12, 2006 | Professor Peter Morici

[Willie Green]

For education and discussion only. Not for commercial use.

The Commerce Department reported the November trade deficit was $64.2 billion. This is a bit lower than the $68.1 billion October deficit; however, the trade deficit will exceed 6 percent of GDP for the fourth quarter of 2005.

The November deficit was lowered by falling oil prices and an easing with of the trade deficit with China. Conservative expectations for holiday retail sales caused the trade deficit with China to ease too.

Since December 2001, the monthly trade deficit has increased $37.6 billion, and petroleum products account for 47 percent of this increase. The growing U.S. appetite for low-cost consumer goods, capital goods, and industrial materials and components, especially from Asia, account for more than half of the growth of the trade deficit.

This situation is likely to become worse in the months ahead. Crude oil prices, after falling in November, have been rising again, and the dollar has strengthened in recent months, making most imports cheaper.

In 2005, business and political conditions in Europe weakened, and prospects for the Japanese economy improved only modestly; consequently, the dollar rose against industrial country currencies. The dollar remains as much as 40 percent overvalued against the Chinese yuan and other Asia currencies.

China has not translated into concrete action its policy, announced last July, to value the yuan against a basket of currencies. It continues to peg against the dollar. Hence, ruminations about a change in Chinese reserve holdings should be viewed with skepticism, and going forward, we should continue to expect the dollar to be overvalued against the Chinese yuan, Japanese yen and other Asian currencies.

Together, higher oil prices and a strong dollar will push the trade deficit to new record highs, with the monthly trade deficit likely exceed $75 billion by mid 2006.

High and rising trade deficits tax economic growth. Specifically, each dollar spent on imports that is not matched by a dollar of exports reduces domestic demand and employment. Worker productivity is at least 50 percent higher in industries that export and compete with imports, and reducing the trade deficit and moving workers into these industries would increase GDP.

Were the trade deficit cut in half, GDP would increase by nearly $300 billion, or about $2000 for every working American. Workers wages would not be lagging inflation, and ordinary working Americans would more easily find jobs paying good wages and offering decent benefits.

Manufacturers are particularly hard hit by this subsidized competition. Through recession and recovery, the manufacturing sector has lost 3 million jobs. Following the pattern of past economic recoveries, the manufacturing sector should have regained about 2 million of these jobs, especially given the very strong productivity growth accomplished in durable goods and throughout manufacturing.

Longer-term, persistent U.S. trade deficits are a substantial drag on growth. U.S. import-competing and export industries spend three-times the national average on industrial R&D, and encourage more investments in skills and education than other sectors of the economy. By shifting employment away from trade-competing industries, the trade deficit reduces U.S. investments in new methods and products, and skilled labor.

Cutting the trade deficit in half would boost U.S. GDP growth by 25 percent a year

[Willie Green]

ping

[trebb]

I guess it might also be nice to mention that we have the strongest, most vibrant, economy in decades. The fact that it could (and that's only theoretical) be much better doesn't make slamming what we have productive.

[Brilliant]

The US has had a large trade deficit on and off for decades. It's largely the result of oil imports. It's more a problem for our trading partners than it is for us. If the dollar declines, then our exports will become cheaper to them, and their imports will become more expensive to us.

[Toddsterpatriot]

High and rising trade deficits tax economic growth. Specifically, each dollar spent on imports that is not matched by a dollar of exports reduces domestic demand and employment.

How does this work exactly? Each billion in imports costs how many US jobs? Each billion in trade deficits costs how many US jobs? Should be easy for a professor to quantify.

[irishjuggler]

It's largely the result of oil imports.

When oil prices are high, petroleum imports are the dominant segment of the trade deficit. In years when oil prices have been low, automobile imports have been the dominant segment.