Trump's Trade Ignorance Will Make America Poorer

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Does using your credit card to buy a washing machine from Target mean that Target has ripped you off? No. Does it make you poorer when you use your credit card to buy a washing machine from Target? Nope. You now have less money, but you have more stuff. In just the same way, a trade deficit means that the US has less money and more stuff. It does not mean America is poorer, or that it has been ripped off by foreigners.

A case where trade deficits can be good

Asking whether trade deficits are good or bad is like asking whether buying stuff with borrowed money is good or bad. The answer is pretty obviously“it depends on whether the purchase was worth it”.

One thing to remember is that not all purchases are for consumption - a lot are actually productive investment. If an American factory buys a Japanese CNC machine tool for $100,000, and the Japanese toolmaker simply stashes the money in US Treasury bonds, that contributes to the US trade deficit. But if the American factory uses that tool to make and sell $500,000 worth of car parts, it has come out ahead - and America has come out ahead too.

This is what South Korea did when it was rapidly industrializing. Around 1980 and then again in the early 1990s, South Korea ran a trade deficit:

Source: World Bank

This was a time when South Korea was investing a huge amount in its industrial economy:

Source: World Bank

As an aside, in the late 70s and early 80s, at the same time it was running a trade deficit, Korea was also ramping up exports - not just in dollar terms, but also as a percent of its GDP:

Source: World Bank

Remember that exports add to GDP, while imports don't subtract from GDP. So even as South Korea ran a big trade deficit, trade was adding more and more to South Korea's GDP each year. A MAGA guy will have a very hard time wrapping his head around that fact.

But anyway, South Korea's trade deficits at that time were probably worth it, because importing capital goods (machinery, etc.) helped them industrialize more rapidly than if they had had to take the time to make all those capital goods themselves. They just bought the machines and immediately used them to make cars and TVs and other useful stuff, much of which they sold to the rest of the world at a profit.

In fact, the US does some of this as well. When we think of U.S. trade deficits, we usually think of consumption goods - cheap Chinese TVs and such. But the US also imports a decent amount of capital goods , which American companies use to produce and sell things. The US did even more of this in the 1990s , when we ran a trade deficit but also had an investment and export boom.

But be careful here:“Using a trade deficit for investment” doesn't mean“The trade deficit is good.” If companies import a lot of capital goods but see a low return on the investment, it can be bad.

What if trade deficits are used for consumption? Is that good or bad?

Anyway, what about when you use trade deficits to buy consumption goods - those cheap Chinese TVs and Canadian-made cars and such? Consumption goods a majority of America's trade deficit these days. Is that trade deficit good or bad?

In this case, we have to decide whether“buy now, pay later” is good or bad. Remember, a trade deficit is like buying something with a credit card. When America imports Chinese TVs and Canadian cars, and China and Canada get US Treasury bonds in exchange, it means that America now owes China and Canada money.

At any time, China and Canada can choose to sell the bonds for dollars and use those dollars to buy US goods and services. If they eventually do this, then at that time, they'll run a trade deficit with the US. In that case, what basically happened is that the US borrowed from China and Canada, and paid them back later.

This is just like if you buy a washing machine from Target with your credit card, then work to earn some salary, and then use your paycheck to pay off your credit card. Was this bad or good? It depends.

Maybe you could have just waited to get the washing machine until you had the cash in the bank. Or maybe it was worth it to you to get the washing machine now instead of waiting a few months, even though you had to pay a bit of interest on the credit card debt.

Buying consumer goods with debt can be a good financial decision or a bad financial decision. That's basically what the US is doing when it runs a trade deficit with other countries.

It's also worth mentioning that just like a credit card borrower, the US might never fully pay its foreign loans back. If the US experiences a burst of unexpectedly high inflation, the US bonds that China and Canada hold will be devalued.3 That's basically like a partial debt default. Or, if someday an irresponsible US leader comes along and defaults on the debt, China and Canada will see some of the value of their Treasury bonds evaporate into thin air.

So when the US runs a trade deficit with other countries, those other countries are taking a risk. They're basically giving us a credit card that we can use to buy stuff that they make. There's always the possibility that we might just declare bankruptcy and never pay them back.

So you could say that in a sense, countries that run trade deficits are more short-term focused, or less patient, than countries that run trade surpluses. Nations don't really have motivations and personalities like that, but it's not a terrible way to think about it.

Do trade deficits deindustrialize America?

The final question here is whether importing stuff from other countries causes America to make less stuff. Maybe if you buy some tomatoes with your credit card, it'll mean you grow fewer tomatoes in your own garden as a result. And then when it comes time to pay back the credit card debt, you might have forgotten how to grow tomatoes. That's basically what deindustrialization is.4

Obviously, there are some cases where a trade deficit doesn't cause deindustrialization. For example, in the case of South Korea in the 1980s and 1990s, we saw that trade deficits helped to industrialize the country and ramp up manufacturing. Something similar probably happened to the US in the 1990s.

But OK, we're not talking about those historical cases, right? We're talking about the trade deficits that the US has run in the last 25 years, mostly with China but also with a bunch of other countries. Those trade deficits were mostly America borrowing to consume, not to invest. The question is whether they resulted in America losing its manufacturing industries.

The answer, at least with regards to China, is“yes.” Autor et al. (2013) famously find that“import competition [from China] explains one-quarter of the contemporaneous aggregate decline in US manufacturing employment [between 1990 and 2007].” Bloom et al. (2024) find that Chinese import competition caused a big reallocation from manufacturing to service jobs on the West Coast and in big cities, but in the Midwest it mostly just caused wage declines and job losses. And Acemoglu et al. (2014) write:

You can just kind of eyeball this by looking at the raw data. Until 2001, when China joined the WTO and started exporting tons of cheap stuff to America, US manufacturing employment had held up pretty well over the years (despite falling as a percentage of the total). In the 2000s - the decade of the big Chinese import surge - it just fell off a cliff:

It's worth noting that it wasn't the trade deficit per se that caused these job losses. Even if trade between the US and China had been balanced, Chinese import competition would probably have cost some US manufacturing workers their jobs, because A) some of the US exports would have been services instead of manufactured goods, and B) the US probably would have exported more capital-intensive goods, thus shifting away from the labor-intensive goods that China was good at making back in the 2000s.