More on Free Trade and the Trade Deficit

After reading my August 13 post on free trade, my friend Tom Potter wrote his own thoughts on the subject.  He put particular emphasis on the trade deficit.  Based on my own observations, almost no government leader other than President Trump has expressed any real concern about our huge trade deficits with China and other nations.   Tom believes that we have reasons to be concerned.  His statement follows:

Politicians and many economists decry the nation’s growing federal deficit. Almost none, however, publically complain about our enormous trade deficit. In fact, many economists argue that the trade deficit is unimportant.

The two, however, are not unrelated. The nation’s economy requires the circulation of money. Producers pay employees as they produce goods. Employees buy goods using the money paid. By selling goods, producers recover money paid to workers. This completes the circular flow.

If employees spend money on goods produced in foreign countries, the loop is broken and money flows outside the country. This is alriight if equivalent money comes in resulting from the sale of goods to foreign countries. But if there is a trade deficit, there is then a net outflow of money.

The loss of money can be addressed in three ways, all of which have negative consequences. A government can print money, which eventually leads to run-away inflation. A country can increase the money supply by relaxing the requirement on bank reserves associated with customer deposits. Tis also leads eventually to run-away inflation. Finally, a country can borrow the money back from foreign countries. This has consequences which will be discussed.

Individuals and private companies might borrow some funds from foreign sources; but this in general does not suffice. To ensure a sufficient supply of money, government must borrow the remainder; and this is done most easily by the federal government.

In this way the trade deficit contributes in a major way to the federal deficit. But it also contributes in another way. The loss of employment resulting from the trade deficit requires the establishment of social programs to assist the unemployed and under-employed. The federal government pays workers to administer these programs; and also pays out the associated assistance funds. These payments contribute to the federal deficit.

A further discussion of the federal deficit and its negative consequences could be considered; but it is sufficient to note that this topic has been extensively discussed elsewhere. The point here is that the trade deficit contributes in a major way to the federal deficit.. The next topic concerns the reasons for the trade deficit and what, if anything, can bedone to address it.

The United States has lower tariffs than those of most of our major trading partners; and it is the United States that suffers the world’s largest trade deficit year after year. And yet, it is the United States that is accuused of starting a trade war.

The irony seems to escape the notice of our leading academics and economists, who continue in their unqualified commitment to free trade. The truth is that free trade does not currently exist; and probably never has. All countries, including the United States, support industries which they consider to be vital.

In fact, in the United States, it is government supported industries such as: aerospace, energy, and agriculture which continue to enjoy staying power. Many other non-supported industries such as: ship building, commercial electronics, semi-conductors, digital cameras, flat screen displays, construction machinery, household appliances, automation equipment, etc. are lost or in decline.

Most academics suggest that the United States should abandon these older industries and focus on industries of the future. However, as countries such as India and China continue to develop capabilities, idustries of the future such as information technology will be subject to take-over as well. Foreign comanies which enjoy the support of their respective governments will eventually dominate these areas as well.

Government support of an industry need not be extensive. For example, a commitment to use domestically produced materials on government funded projects could ensure the long-term survival of a revitalized steel industry. Just knowing that the government is on one’s side can enable an industry to invest and develop capabilities for the future.

Most foreign competitors are aware of this. It is time for the United States to move in this direction as well. In fact, the United States utilized these strategies during the 19th century, the period of our most rapid growth. During this time there was no federal income tax and the federal government was supported largely by the collection of tariffs.

I am not suggesting that the United States should return to policies of an earlier century. I am arguing, however, that our current devotion to free trade is not serving the country well in the current century.

Viewpoint by Thomas Potter

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