Prof. Walter E. Williams Explains What Our Trade Deficit with China Really Means

Trade Ignorance and Demagoguery

     When we discuss international trade and balance of payments, there are two types of accounts. There is the current account, which includes goods and services imported and exported and receives the most political attention. In 2016, the American people imported $479 billion worth of goods and services from Chinese producers, and we sold $170 billion worth of goods and services to Chinese customers. That made for a $309 billion current account deficit. In other words, we purchase more goods and services from Chinese producers than Chinese consumers purchase from American producers.

     How much of a problem is it when there is a deficit, or a negative imbalance, on current accounts? Let's look at it.

     I buy more from my grocer than he buys from me. Our Department of Defense buys more from General Dynamics than General Dynamics buys from our Department of Defense. With just a bit of thought, one could come up with thousands of examples in which one party buys more from another than that party buys from it -- creating deficits in current accounts. But a current account deficit is always offset by a surplus somewhere else.

     That somewhere else is known as the capital, or financial, account. This account consists of direct foreign investment, such as the purchase or construction of machinery, buildings or whole manufacturing plants. The capital account also consists of portfolio investment, such as purchases of stocks and bonds. In our capital account, the U.S. has a huge surplus with China. That means money is flowing into our country from China. In other words, Chinese people are investing more money into the U.S. -- in the forms of home and factory purchases, stocks, and bonds -- than Americans are investing in China. Of necessity, the deficit that we have with China on our current account, ignoring timing issues, must equal the surplus we have with China on our capital account.

     It turns out that foreigners own $30 trillion worth of U.S. assets, such as stocks, Treasury bonds, manufacturing plants and real estate. One of the reasons that foreigners hold so much U.S. capital is that our country is one of the world's most attractive places to invest. Secondly, our capital markets, unlike our goods markets, are open to foreigners. Foreigners can buy and sell any U.S. asset in any quantity, except in cases in which national security is an issue. One of the troubling aspects of foreign confidence in America is that foreigners invest so much in U.S. Treasury bonds. That in turn gives the U.S. Congress greater latitude to engage in profligate spending. Japan owns $1.1 trillion worth of U.S. Treasury bonds, and China owns $1 trillion.

     What about President Donald Trump's call to reduce our current account trade deficit? By the way, we know that we're being deceived when a politician talks only about the current account deficit, without a word about the capital account surplus. If foreigners sell us fewer goods, they will earn fewer dollars. With fewer dollars, they will be able to make fewer investments in America. But that's fine with politicians. The beneficiaries of trade restrictions are visible. Tariffs on tires, clothing and electronics will mean more profits and jobs and more votes for politicians. The victims of trade restrictions, such as people in the real estate market and other areas where foreigners are investing, are less visible. Last year, Chinese citizens alone purchased record amounts of residential and commercial real estate, bringing their five-year real estate investment total to more than $110 billion (http://tinyurl.com/z3nd4fn).

     Let's put trade deficits into historical perspective. If trade deficits were something for a president to fret about, every U.S. President from 1790 to today ought to have been fretting. For most of our history, we have had current account deficits (http://tinyurl.com/jczqrhu). I should say every president except Herbert Hoover and Franklin D. Roosevelt, whose administrations ushered in the Great Depression. Nine out of the 10 years of the economic downturn of the 1930s, our nation had a current account trade surplus. Should we reproduce the economic policies of that era and re-create the "wonderful" trade surplus?

Why Some U.S. Companies are Fleeing to Mexico and Trump Cannot Negotiate Us Out of this Mess

In my recent 1 March post Making America Great and Donald Trump, I said

the primary reason the opening of new trade markets around the world has not led to the growth of the American economy is because the American government does not allow American businesses to be competitive.  He notes the importance of corporate tax reductions, but only after implying that bad trade negotiations caused job loses in America.  The job losses in America are due to excessive taxes, paperwork, and regulations that American businesses are hobbled with, thanks to Washington.  Business expenses are very high in America compared to many other countries in the world.  To compete, we need to be free to take full advantage of our design and innovation capabilities, while shedding governmental burdens that provide no or insufficient benefits.  We should be taking advantage of our abundance of inexpensive and reliable energy, not trying to make it more expensive as Obama has done.  We should be taking advantage of our great banking and financial companies, not smothering most of them in disabling requirements under Dodd-Frank so-called reform.  We should not be raising the cost of business with governmental dictates of minimum wages, paid leave benefits, the highest corporate and personal taxes in most of the developed nations, ObamaCare, NLRB rulings favoring forced unionization, and EPA regulations based on exaggerated claims of mercury or catastrophic man-made global warming.

The lead Opinion article in the 4 March Wall St. Journal was titled Trump on Ford and Nabisco.  Trump has been claiming that Mexico hijacked both Ford and Nabisco plants resulting in plant closings in the U.S.  Trump says this is why he "Does not mind trade wars."

The Wall St. Journal response to that is:

That's one way of looking at it.  Another way is that both companies made rational decisions to move some of their operations to Mexico because the tax and regulatory climate in the U.S. under President Obama has become increasingly hostile to business.  Before picking destructive trade fights with the world, maybe the next President could work to make America great for doing business again.

Nine production lines at the largest bakery in the world, in Chicago, are to be closed by Nabisco to build a higher technology plant in Salinas, Mexico.  Nabisco will save $46 million a year with the new plant.  Nabisco gave the labor union at the Chicago plant the opportunity to match that annual savings.  The labor union brought in a Bernie Sanders campaign official to help them.  Operating a business in Chicago is especially tough.  Illinois has unusually high corporate taxes and property taxes, not to mention very high worker's compensation expenses.  Underfunded city employee pensions are forcing taxes upward rapidly.

Nabisco is hardly alone in abandoning Chicago or Illinois.  In 2015, Illinois bucked the increase in manufacturing jobs in other nearby states by losing 56 jobs a working day.  Meanwhile, Michigan gained 74 manufacturing jobs a working day, Ohio gained 58, Indiana gained 20, and Wisconsin gained 18 manufacturing jobs a day.  The unfriendly business climate in Illinois has dire consequences.

Both Ford and General Motors are doubling their production in Mexico by 2018.  Ford is building two engine and transmission plants in Mexico and will manufacture small cars and hybrids required to meet the federally imposed fuel standard fleet requirements on all Ford vehicles manufactured.  These required small cars are money losers, so it is particularly hard to manufacture them in the U.S.

The United Auto Workers Union has won an agreement that will raise the hourly cost of wages and benefits for its members to $60, from the already very high cost of $57/hour cost for Ford and a $55/hour cost for GM.  In comparison, foreign-owned automakers in the U.S. have labor costs of about $50/hour.

In addition to lower labor costs, Mexico has free-trade agreements with 45 countries, while the U.S. has free-trade agreements with only 20 countries.  Trump clearly wants to reduce our free-trade agreements, hurting the U.S. still further in this competitive advantage.  He will drive still more plants to Mexico following his trade-war policies.

The Wall St. Journal says the way to make the U.S. economy great is to

• lower corporate and marginal tax rates
• reform pensions and entitlements
• institute right-to-work laws
• repeal ObamaCare

This sounds rather similar to what I was saying in my 1 March post.  It is not the case that we are losing jobs because China and Mexico are better negotiators and Trump can just make better deals with them.  Our problems are mostly self-made and owe to our penchant for big government that acts as a parasite sucking the life out of businesses.

Mexico Retaliates with Trade Warfare

One of the first acts of the Obama administration was to pay the Teamsters Union for its support in the election. They restricted Mexican trucking access to American roads. Mexico has now retaliated by raising tariffs on $2.4 billion of our exports. The Obama action was stupid in any case, but especially so in light of the recession. All we need to make matters worse is to incite trade wars with our important trade partners. Mexico is one of our most important trade partners.

Obama is trying to enlarge the trade wars. The administration is talking about how they will raise tariffs on the goods of countries who do not restrict the use of energy as Obama plans to and whose goods will therefore be relatively cheaper than ours. Of course, Obama can raise tariffs and protect American domestic market sales of our newly expensive goods. But .... he can do little to then make other people throughout the world buy our over-priced goods. In other words, we will lose much of our export markets. This could result in about 1 in 10 Americans becoming unemployed!

On economic issues, it is very clear that few Democrats ever think. They do not seem to do any better with foreign policy or with matters of national security.