There are always a lot of stories in the news about the U.S. trade deficit, about how large it is, and how much it’s expected to grow. But I still don’t understand how this ‘trade deficit’ is even possible.
If Japan sells the U.S. a bunch of cars, they would acquire a bunch of U.S. dollars. If these dollars aren’t being spent on U.S. goods, then there would be no point in having them. Therefore, Japan must be purchasing an equivalent amount of U.S. goods at some point.
Every time a trade takes place, whether it’s with Japan or with your grocery store, items of equal value are exchanged. So how can there be a ‘deficit’? What am I missing here??
IANAEconomist, but measures of the trade deficit generally do not count all currency flows between nations. Japanese companies have many investments and property holdings in the USA (which are not all counted in measures of the trade deficit).
Also there is a large amount of borrowing and moneylending between nations, both by governments and individuals, involving significant flows of capital. Trade in goods is far from the only movement of money.
Fluctuations in exchange rates typically reduce differences in trade deficits by making imports more expensive and exports cheaper, or vice versa. This means that in a truly free market deficits will eventually disappear, unless there are other forces at work.
The Japanese don’t have to spend the dollars buying US products. They can spend it elsewhere. They finance an office tower in Malaysia, the Malaysians spend the dollars on rice from Indonesia who spend them on farm equipment from India that spends them on French jets, etc. So a lot of overseas economic activity can result. It can take a while for the money to make its way back to the US.
If the money came back directly to the US, we’d have office towers and rice and farm equipment and so on. But we won’t.
One of the primary rules of economics is development happens where the money is. The more money that is overseas, the more development will happen there.
This is not true. First off US dollars can be exchanged for Japanese Yen. Secondly US dollars can be used to buy things other than US goods. United States currency is the number one currency for trade in the world such that Japan could US dollars to buy oil from Saudi Arabia (as a example). It used to be the case in Russia (back when Russia was the USSR at least) that when you visited you exchanged dollars for rubles. However, when you left and tried to exchange your money back they wouldn’t do it…the ruble was worthless and the dollar had value. Finally, when you collect money you do not need to spend it…you can put it in the bank.
Enough has been said aleady about being able to use US dollars outside the US but there is also another aspect to the trade deficit as well. IIRC from my econ classes many years ago, what is actually compared is value of exports to a particular country vs. value of imports from that country. For example, if the US imports $10B worth of goods from Japan in a given year, but only exports $8B to Japan, then the US has a $2B trade deficit that year WRT Japan. Likewise, from Japan’s point of view, they have a $2B trade surplus with the US.
Enough has been said aleady about being able to use US dollars outside the US but there is also another aspect to the trade deficit as well. IIRC from my econ classes many years ago, what is actually compared is value of exports to a particular country vs. value of imports from that country. For example, if the US imports $10B worth of goods from Japan in a given year, but only exports $8B to Japan, then the US has a $2B trade deficit that year WRT Japan. Likewise, from Japan’s point of view, they have a $2B trade surplus with the US.
See that’s where the real problem begins. A lot of nations (esp. the US) deal w/ each other on their credit, a debt so to speak. The national debt (which includes) loans to and from other countries, are often traded between nations in lieu of ACTUAL payment. Usually with an incentive added. IOW the US wants more goods from China and China needs more whatever from Mexico…Mexico owes the US $$$. So in exchange the US China and Mexico barter their good with no actual cost to the US. Mexico gets a reduction in their National Debt. the US deficit gets a little cut and China gets what it wants as well.
Just one of the many aspects I was referring to earlier.
Aside: Many people confuse the two (debt and deficit)and while they are not the same they are related in some aspects.
Sorry about that double quote…my PC keeps going offline and the power went off (bad storm brewing here) I copied my response to save it and when I pasted I guess I got it twice.
Plus, the US borrows billions of dollars from other nations in the form of T-Bills. We borrow the money, run a deficit, and buy a whole lot of cars from Japan. Some of the money to buy those cars was lent to the US when Japanese banks and companies bought US T-Bills.
It’s all part of the Current Account deficit. This is the all inclusive deficit that includes goods, services, investment, and income/outgo of dividends, interest, and all that jazz.
The Current Account deficit is matched by surpluses in the Capital and Financial accounts: see this link:
The gap between what we sell and what we buy is filled in by foreign purchases of securities like stocks and bonds, by purchases of assets, like real estate and even actual companies by foreign based entities, and by investment in actual plant and equipment, like Toyota building a factory in the U.S., for instance. Of course U.S. persons and entities do the same in the opposite direction all the time, so all that these accounts are trying to measure is how it all balances out, quite literally.
There’s economists hangin’ out on this here board, who I’m sure will be along any minute now to make all this even more complicated.
The trade deficit can continue indefinitely also because not all goods and services are included in the calculations. I don’t know exactly all that is considered in the trade deficit, but here’s an example: A U.S. citizen buys 2 million dollars worth of Japanese products, and pays with American dollars. The Japanese then turn around and buy 2 million dollars worth of property in the U.S. Net currency outflow: 0. Trade deficit: 2 million dollars.
This was the big worry in the 80’s. There was a general fear that Japan was buying up American assets. And in fact, the Japanese WERE making big investments in the U.S. - then years later, after their own real-estate bubble broke, they sold many of those assets back to Americans at a huge loss. The U.S. as a whole benefitted greatly from this.
Another example: An American buys 2 million dollars worth of goods. The Japanese customer then hires an American engineering firm to do a geological survey or something. Since services don’t count in the trade deficit numbers, you can maintain a permanent deficit this way.
Last example: An American buys a Japanese car. The Japanese takes the money and buys a German car. The German buys an American car. Net result: currency outflow, 0. Trade deficit with Japan: 1 car. Trade surplus with Germany: 1 car.
