Friday , October 19 2018
Home / Robert Murphy: Free Advice / One Cheer and One Criticism for Don Boudreaux on Trade Deficits

One Cheer and One Criticism for Don Boudreaux on Trade Deficits

Summary:
(Notice kids that I’m doing this on my personal blog; I’m not picking a public fight with Don. Also, if Don has anything to say in response, I will edit this post and paste his reaction into the body, below.) I think it’s fair to say that nobody has been hammering home the case for free trade since Trump got elected, more than Don Boudreaux. In the present post, I will first praise a subtlety that he has been making, showing the flaw in standard protectionist views. But then I will also criticize another of his posts, where Don repeats the same approach that Robert Barro used and which might (I claim) mislead people. THE CHEER In this post, Don writes: After reading my letter in the Wall Street Journal on why U.S. trade deficits do not necessarily imply greater

Topics:
Robert Murphy considers the following as important:

This could be interesting, too:

Don Boudreaux writes Quotation of the Day…

Don Boudreaux writes More on the Long-Run

Don Boudreaux writes Some Links

Wolf Richter writes US-China Trade War, “Hard” Brexit Give Germany Inc. the Willies

(Notice kids that I’m doing this on my personal blog; I’m not picking a public fight with Don. Also, if Don has anything to say in response, I will edit this post and paste his reaction into the body, below.)

I think it’s fair to say that nobody has been hammering home the case for free trade since Trump got elected, more than Don Boudreaux. In the present post, I will first praise a subtlety that he has been making, showing the flaw in standard protectionist views. But then I will also criticize another of his posts, where Don repeats the same approach that Robert Barro used and which might (I claim) mislead people.

THE CHEER

In this post, Don writes:

After reading my letter in the Wall Street Journal on why U.S. trade deficits do not necessarily imply greater American indebtedness, Steven Crow describes the examples that I use to make my point as all involving “transferring U.S. assets to foreign creditors” (Letters, May 14).

Mr. Crow is mistaken.

Consider my example of BMW building a factory in South Carolina. This factory was created by BMW. Because it did not exist before BMW created it, this factory cannot possibly have been a U.S. asset that was ‘transferred’ to foreigners, be they creditors or otherwise. BMW’s factory in Greer, SC, exists only because BMW conceived of it, financed it, built it, and operated it profitably for the past quarter-century. It is neither an asset that ever belonged to an American nor one whose creation resulted in any further American indebtedness.

This is great stuff, and it underscores one of Don’s frequent points, namely: A trade deficit is not necessarily a form of debt increase, at all.

To really see it, forget about currencies and just think of barter. You’ve got two countries, USA and Germany, that (let’s suppose) initially have nothing to do with each other in terms of trade. Now in this year, the Germans decide to send over a cargo ship loaded up with bricks, cement, glass, lumber, and a bunch of alcohol and steak. The Germans then negotiate with some Americans for the following deal:

==> The American owner of a piece of land gets to keep a little bit of the alcohol and steak, in order to rent the use of his land for one year.

==> The American workers get to keep the rest of the alcohol and steak, in order to use the raw materials to construct a car factory.

The way the trade accounts are maintained, the US runs a trade deficit this year with Germany, because of the bricks, cement, glass, and lumber that Americans imported from Germany, without any corresponding exports. (In contrast, the American exports of labor and land rental exactly matched the American imports of alcohol and steak from Germany.)

Because we assumed an initial condition of no trade relations, this year’s trade deficit is also equal to this year’s current account deficit, which means there is a capital account surplus. And…YEP! The Germans invested and acquired a nice new factory in America, while the Americans made no investments in acquiring German-based assets.

Now in this scenario, Don wants to know: In what meaningful sense did the Americans become “more indebted” this year? It’s true that now the U.S. is “on the hook” for sending the net cars of this factory (after subtracting the cars that must be given in barter to the American land owner, as well as any workers employed in the factory) back to Germany, or to be sold to Americans for other goods that can then be shipped to Germany, but this flow of net factory output back to Germany (in the future) isn’t a subtraction from what Americans otherwise would have been able to consume. No, total output within the boundaries of the U.S. is now higher, because of the German investment.

THE CRITICISM

In this post, Don writes a letter to Donald Trump:

Earlier today you said “We’re importing a lot of cars. We want a lot of those cars to be built in the U.S. Build them here, and also ship them overseas. Doing a reverse act.”

Soooo….. You want to arrange for us to spend more of our own time, labor, and resources producing valuable outputs to be shipped overseas, and for us to receive fewer valuable outputs in return. I’m stumped. Can you spell out just how this arrangement will “make America great again”?

Are we made “great” when our government simultaneously obliges us to produce more goods and services for foreigners, and for those same foreigners to send to us in exchange fewer goods and services? In what way, Mr. President, do we Americans “win” at trade – in what manner are we Americans “put first” – when you force us to work harder than we otherwise would to produce goods and services for foreigners’ consumption, and for foreigners to work less hard than they otherwise would to produce goods and services for our consumption?

As I said in my reaction to Robert Barro, I think this type of argument might mislead most readers. (And again, let me say that I’ve used similar reasoning in the past.)

What some people might think Don means in the above–and this isn’t a strawman, because the WSJ editor (?) who subtitled Barro’s piece explicitly fell into this trap–is something like this: “Right now we import a bunch of goods, and we export a bunch of goods, but the imports exceed the exports to the tune of 1 million cars. If Trump got his way, we would keep the other imports the same, but we’d cut back on imports by (say) 500,000 cars per year, and we’d keep our other exports the same, except we’d increase our car exports by 500,000 cars per year. Then we’d have balanced trade, going forward. But this is stupid,” so continues the person who might be misled by Don’s post, “because it effectively means every year, Americans have 500,000 fewer foreign cars to enjoy, and to add insult to injury, we have to bust our butts producing an additional 500,000 cars in order to send them abroad as gifts to foreigners. What kind of crappy deal is that?! Give me trade deficits any day!

OK so in case that’s what some of Don’s readers are walking away with…it’s wrong. Now to be fair, it is just as sophisticated (or not) as Trump’s mercantilism. But what I’m saying is that this type of view–which ends up thinking Americans are somehow lucky ducks with our trade deficit–is not right.

If we were dealing with spot barter transactions, then it would be correct to say that a decrease in the amount of goods given up–without a decrease in the amount gained–represents a boost in the “terms of trade.” So for example, if Americans initially are sending 1 billion bushels of wheat to Japan in exchange for 250,000 cars, and then the Americans manage to renegotiate the deal so that they only send 900 million bushels of wheat, then yes, this makes the Americans richer. Specifically, they are getting the 250,000 Japanese cars in exchange for 10% less wheat.

But when the U.S. runs a trade deficit, it’s not getting “more imports in exchange for fewer exports” in this sense. Rather, we are still paying “full market price” for all the imports, measured in dollars. The gap between imports and exports is made up by Americans selling net assets to the foreigners.

To return to our bushel/car example: Suppose instead of sending 1 billion bushels of wheat to Japan in exchange for 250,000 cars, that now the Americans send over 900 million bushels of wheat and sell IOUs promising the Japanese holders 115 million bushels to be delivered in 3 years in order to get those same 250,000 cars this year. Now it is not at all obvious that the renegotiated deal is better. In any event, it would be crazy to describe this renegotiation as the Americans getting the same quantity of Japanese cars in exchange for 10% less work.

Robert Murphy
Christian, Austrian economist, and libertarian theorist. Research Prof at Texas Tech and author of *Choice*. Paul Krugman's worst nightmare.

Leave a Reply

Your email address will not be published. Required fields are marked *