Economics

Does Addressing Bilateral Trade Imbalances Work?

Jun 27, 2017 Martin Feldstein

Even if China opened its markets fully to US goods and services, the total US trade deficit would not change. But focusing on imbalances with individual countries can nonetheless lead to desirable policy changes, as the Trump administration's approach to China has shown.

CAMBRIDGE – Politicians and economists view trade imbalances very differently. Consider the United States’ trade deficit. Economists emphasize that the total US trade deficit with the rest of the world is the result of policies and actions at home. Simply put, if the US invests more than the country as a whole saves, it must import the difference from the rest of the world, creating the existing trade deficit.

But politicians (and the general public) tend to focus on bilateral trade deficits with individual countries, like the $300 billion imbalance between the US and China. They blame the bilateral deficit on Chinese policies that block imports of US products and subsidize Chinese exports to the US.

Economists explain that those policies affect the composition of the US trade imbalance, but not its size. If China changed its trade policies in ways that reduced the bilateral deficit, the US trade deficit with some other country would increase, or its surplus with some other country would shrink. The overall US trade deficit with the world, however, would not change.

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Martin Feldstein

Writing for PS since 2008
130 Commentaries

Martin Feldstein was Professor of Economics at Harvard University and President Emeritus of the National Bureau of Economic Research. He chaired President Ronald Reagan’s Council of Economic Advisers from 1982 to 1984. In 2006, he was appointed to President Bush's Foreign Intelligence Advisory Board, and, in 2009, was appointed to President Obama's Economic Recovery Advisory Board. He was also on the board of directors of the Council on Foreign Relations, the Trilateral Commission, and the Group of 30, a non-profit, international body that seeks greater understanding of global economic issues.

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Barry Rosenfeld Jul 4, 2017

If one-half of a country's overall trade deficit arises due to a trade imbalance with one specific country, rest assured that the trade surplus country is not playing by the rules. In the case of China, currency manipulation and restrictions on imports from the US and subsidized exports to the US have been documented.

The argument that the US would simply have a larger trade deficit with other countries if it restricted trade with China is tantamount to saying that if one doesn't die of one thing one is bound to die from another. Other countries might not be able to promote export-led growth based on trade surpluses with the US, as was tolerated in the case of Japan and South Korea due to Cold War factors. China was seen as a happy consumer of US goods and services by Wall Street, in Corporate Boardrooms and by Clinton and his "advisors." The Chinese, however, knew how to game the system and the US businesses didn't care how or where their profits originated.

As to the the accounting identities Feldstein mentions, if ex ante savings and investment are not equal, they will be brought into equilibrium through changes in income, not through changes in trade balances. If intended savings are less than intended investment, income will rise creating more saving.

The persistence of excessive imports over exports can also be explained by domestic consumption exceeding domestic production. Why does this persist? If the real world resembled Feldstein's world, excess domestic demand for consumer goods would lead to profitable investment opportunities. But he claims that investment exceeds saving; how can this be?

Perhaps the issue might be rephrased such that household incomes have stagnated, but easy money policies have encouraged consumption financed through indebtedness. Normally, the trade surplus country would extend credit to the deficit country to enable its goods to be sold, but Chinese capital account transactions have been for the purchase of US government debt, bot private sector debt.

Consequently, in the Feldstein world, excess consumption will have to be eliminated, but he doesn't want to say it, either with fiscal contraction or monetary tightening. Creating a recession, however, will also reduce saving. What to do? Tell us the real agenda.
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John Brian Shannon Jun 28, 2017

Hi Martin,

While all of what you say might be true, and I suspect that it is, it must be seen in the context of what's best for the overall financial health of 326,474,013 Americans, and by extension, the rest of the world. (worldometers.info)

The 'end result' is all that matters, everything else in economics are simply explanations of the status quo.

The statement I use here is; Results are everything, ideology is nothing.

President Trump's plan to say things to terrify the Finance Ministers of America's trading partners, and then within a short time revert to an utterly reasonable negotiating position is nothing short of brilliant.

But that's only half of the story. Now that the President has set it up so well for policymakers -- now they must come through for him and for the country.

Economic policymakers were (and are) perfectly positioned by Donald Trump in a stronger negotiating position, via Donald pretending (or, maybe he is serious about it, but willing to give policymakers and negotiators a fair shot, first) to be the 'bad cop' while America's policymakers can play the part of the 'good cop'.

Never, since President Reagan's threat to generously fund the Star Wars Initiative, have policymakers been so gifted by a President with such an opportunity to succeed in America's favour.

Indeed, the Star Wars threat not only favoured America in theory, but in practice, it turned out to favour the entire world. Look at all that has *not* happened since! (We averted an eventual, but nevertheless inevitable, nuclear holocaust)

And of course, look at all the good that has happened since (the end of the Cold War, the end of the Soviet Union, the end of Communism in Russia, the fall of the Berlin Wall, the re-unification of Germany, the return of Eastern Europe to the West, and booming economies everywhere including Russia! (Until the recent oil price crash)

The Star Wars threat worked a zillion times better than anyone ever suspected it could. And everyone benefited because brainy policymakers *MADE THE MOST* out of the hand that President Reagan gave them.

If today's policymakers can now *MAKE THE MOST* out of the hand that President Trump has given them and succeed on the same scale as the previous experience -- a positive paradigm economic shift on the same scale as the Star Wars threat and its eventual result -- is only months away!

(Disclaimer) Some of us have inside information on what happened surrounding the Star Wars Initiative threat and the policymakers who turned the world's then-worst threat (Mutually Assured Destruction, or MAD) into the world's best-yet success story -- and Professor Martin Feldstein was the Numero Uno policymaker in all of that success -- and he only received one-millionth of the accolades he should have received. And frankly, he was *too busy getting it done* to stop and receive accolades at the time.

Martin, your country (and by extension, the world) is calling out for your brilliant and deft policy touch here and now that President Trump has set it up so perfectly for policymakers and their negotiating teams to succeed a zillion times better than anyone could hope to expect.

Minor policy differences aside, I salute your stupendous success during the Reagan era and hope you see fit to turn your attention to the present economic moment with the same vigor you employed under President Reagan.

As always, very best regards, JBS
- John Brian Shannon Jun 29, 2017
  
  Hi Greg Posehn,
  
  Although your comment hasn't yet appeared on the PS website, I'll answer it now.
  
  1) You questioned my assertion, "[Martin Feldstein's essay] must be seen in the context of what's best for the overall financial health of 326,474,013 Americans, and by extension, the rest of the world."
  
  If America's economy goes into recession or depression -- by extension -- so will the rest of the developed world.
  
  So yes, what happens in America has huge ramifications for the rest of the world.
  
  2) You say what's missing from Professor Feldstein's analysis, "is that America has priced itself out of competition."
  
  Part of being a developed nation means that we have paved roads to drive on, hospitals with the highest quality care on the planet, useful and massive infrastructure such as hydro-electric dams and nuclear power stations, airports, etc. high quality education and a high standard of life.
  
  All of that doesn't come for free just because the U.S. has the prettiest flag.
  
  America is great because of decades of growth, and unless you share the wealth with the workers, growth ceases.
  
  To wit: The reason the former Soviet Union collapsed, can be summed-up in one phrase that is very familiar to anyone who ever visited the former Soviet Union as it was frequently spoken by workers there: "As long as they pretend to pay us, we will pretend to work."
  
  Which doesn't do much for productivity!!!
  
  All the propaganda aside, that's the real reason the former Soviet Union collapsed.
  
  President Reagan's Star Wars Initiative threat merely convinced communist party apparatchiks that it was a fight the Soviet Union couldn't win. Lowering wages and living standards even further to be able to afford to match Reagan's SDI spending program would've led to violent civil war in the former Soviet Union. (They knew that was a fight they couldn't win, so they capitulated and gave up communism due to the SDI threat) A brilliant plan, but I can only say that because it ended peacefully. (No nuclear war between the superpowers)
  
  3) Your comment about America needing higher productivity is fine, except that in highly developed nations, productivity has hit a plateau. (You can only get so many horsepower out of any machine)
  
  On the other hand, developing nations have lower productivity, but their yearly productivity improvements are sometimes very impressive -- but only because they have the room to improve.
  
  There is practically zero ability for large U.S. corporations to improve their productivity (see one exception to this, below) and there is some small ability for SME's to improve productivity in America. But that's it.
  
  Except for the one thing that everyone is afraid to talk about -- because it is the ultimate disruptor -- and will change the face of society in only a few years time.
  
  *Robotics and automation (easily) have the potential to replace 1 in every 8 jobs in the U.S. and other developed nations. And that change-up could begin now, and be complete in 40 months.*
  
  And no, there won't be 'other' jobs for workers to transfer to (magical jobs that suddenly appear out of nowhere to replace the jobs lost to robotics, just because workers need jobs) but yes, productivity would increase dramatically!!!
  
  In fact, the 37% of manufacturing jobs shipped overseas since 1975 would return -- except U.S. robots would be doing those jobs, not humans.
  
  (Which is why smart people like Bill Gates suggest 'taxing' the virtual 'income' of robots, so that all unemployed/welfare status folks could receive a Guaranteed Basic Income that would replace all other welfare schemes for worker's whose unemployment insurance benefits have run-out)
  
  Productivity would go through the roof, manufacturing would return to the U.S., profits would skyrocket, and the unemployment rate would be 25 percent -- permanently.
  
  The government would love it, corporations would love it, global consumers that actually had a job and could afford to buy any manufactured thing would love it (lower cost manufacturing might translate into lower-priced goods) but 25 percent of Americans (and other developed nation workers) would soon run-out their unemployment insurance benefits and wind up on welfare.
  
  Workers should never talk about productivity, because the only step left to increase productivity in developed nations like the U.S. is to replace the workers with robots and other automation. (Don't get them thinking!)
  
  4. Your point about bilateral trade agreements accomplishing nothing, is wrong.
  
  International trade is always a positive -- that's what turned America into an economic powerhouse -- a process that began decades ago. And it continues, however, trade agreements must be fair to both sides, and that's what's been lacking for America.
  
  First, postwar Europe, then, the developing world, has lived off America's largesse since 1945.
  
  But no more, can America afford to be so generous to it's trading partners. (However, changing this too quickly will result in a global economic catastrophe)
  
  The reason the German economy is booming is because they export billions more euros per month, than Germany buys from the rest of the world.
  
  Their *annual export surplus* is bigger than many developing nations' GDP!
  
  And the Germans tend to pay high wages to their workers.
  
  Would you want to buy a Mercedes Benz that is built/assembled by €8.00/hr workers, or would you rather buy a Mercedes Benz that is built/assembled by €100./hr workers. Remember, some of those AMG Mercedes go pretty fast, and those workers DO build/assemble the braking and steering systems...
  
  It's really your choice.
  
  In summary:
  
  1) America has an outsized influence on the world, regardless of small population relative to the global total population.
  
  2) America hasn't 'priced itself out of competition'. America, like any developed nation, has high skilled workers and they cost money. Remember the Soviet Union example.
  
  3) There is only one way to higher productivity in America and that is by replacing human workers with automation. Which will increase the unemployment rate to 25 percent and it will be a permanent state of affairs. (This is especially true in the United States)
  
  4) Any kind of international trade is a good thing for the U.S. economy -- as long as the trade agreement is fair.
  
  Also on that, the U.S. shouldn't bother to compete with (for example) the Indonesian T-shirt industry. We can't. Nor should we try.
  
  Rather, the U.S. should compete (on a level playing field) on the products and services that the U.S. is best at. (That is the secret of a booming economy... ask Germany)
  
  Cheers, JBS
  A new reply to this comment has been posted.
- Greg Posehn Jun 29, 2017
  
  With a global population of over 7b, hard to see how it follows that what is best for 326m Americans, less than 5% of the total, is good for the rest of us. But
  I digress.
  
  What is missing from the analysis is the simple fact that America has priced itself out of competition. American auto workers are more productive than Mexican workers, and if they received Mexican wages, all autos would be manufactured in the US. The fact that Mexico runs a trade surplus with the US in cars reflects America's comfort in borrowing from the rest of the world to pay for their standard of living, and their satisfaction that a Mexican built car is as good as one built in the US. Trying to wrest jobs back from Mexico just distorts the price mechanism and lowers all real incomes.
  
  The only way to sustain living standards in the long run is to increase productivity and innovate with new products. Bilateral trade negotiation will at best have no impact, and will likely lead to a fall in global living standards.
  A new reply to this comment has been posted.
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lt lee Jun 28, 2017

When will economists include the effect of TAX HAVENS?
When will politicians stop trading campaign finance for policies favoring donors?
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Steve Hurst Jun 27, 2017

'Economists also like to stress that free trade raises a country’s overall income. There are winners and losers, but the winners from free trade could in principle compensate the losers by enough to make everyone better off. Economists don’t talk very much about such compensation, because governments don’t do much to arrange it for the losers.'

So if economists dont talk about it and government doesnt talk about why bother talking about it because like unicorns and pink fairies at the bottom of the garden it doesnt exist.

Free trade, which is a misnomer, is not free it is paid for by those who lose out and do not get compensation. Can you explain to me why those that lose out should put up with that situation, paying somebody elses bill. It sort of sounds a bit like the argument about no tax without representation, now where did that happen..
- Barry Rosenfeld Jul 4, 2017
  
  Steve: Of course you are right. Economists insist that there is no "free lunch," but somehow there is "Free trade." Talk about blowing and sucking at the same time.
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- stephan Edwards Jun 27, 2017
  
  Mr. Leo:
  If you can't see a difference between Blue collars with nothing to sell but their labor and Slave owners in the Old South....You and I don't live in the same Galaxy much less the same world.
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- Alex Leo Jun 27, 2017
  
  When slavery was abolished the former slave owners lost. It was inevitable and a question of time that the former slaves should be allowed to sell their labor. Don't allow your policies to get ahead of your objectivity.
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stephan Edwards Jun 27, 2017

Any other words if your a loser read IO.E Bluecollar or poor from globalization Tough S-it. It's a sacrifice for the greater good AKA the rich.
The virtue of Free Trade for Whom???? Professor. For some reason the wins of American Trade policy whatever haven't trickled down to the working class. The only thing trickling down on us HAS BEEN YELLOW WARM AND SMELLY. And Economists wonder why they are even more mistrusted then Bankers and used car salesmen. The US trade imbalance has sodomized the working class for the last 40 years and articles telling us nothing can be done and the rich deserve to rich off of shipping jobs overseas. All of these wonderful policy changes have done nothing for the working class just bankers and big contributors. What a wonderful thing if your a Banker or big donor has for the rest of us all it means is we are getting screwed again to benefit the rich. note your own statement: " it will raise the real incomes and profits of US producers of beef, financial services, and natural gas. Chinese consumers will also benefit."
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