It seems a terrible obfuscation of facts about foreign trade has happened simply because of the use of such incorrect and misleading terminology with respect to commercial activities across nations.
Supposedly, if the monetary value of goods and services going out of the nation is less than those coming in - the nation suffers from an "unfavourable" balance of trade, which can only become more "favourable" if more goods and services go out of the nation, and the nation becomes a net exporter. The incredible aversion to imports in general by governments out of fear that imports will result in "trade deficits" that will lead to a reduction in supply of foreign exchange is something that has caused many many poor nations to continue staying poor. The list of net exporters of this world includes some unfortunate names like Nigeria, Iran, Indonesia, and Azerbaijan. Some of these countries show incredible levels of unemployment and poverty, and even developed western industrialised net exporters like Germany have had increasing unemployment and falling levels of economic activity.
It all comes back to the simple old truth that money has no other value than what people actually give to it, and the true wealth of any person is in terms of the goods and services to available to him. The worry that fall in foreign exchange supply or depreciation of the currency is going to hurt the economy is particularly fallacious when you consider that the appreciation of the US currency and the fall of its trade deficits during the early 1990s was exactly during the one of the worst times of the US economy in recent history. Let alone the simple facts of comparative advantage and absolute advantage - nations which allow imports to support their population have been able to see increasing the purchasing power of their citizens with more and more range of goods available to them, at lower prices that allow them to have higher real incomes. The top net importers of this world are US, UK, and Australia, nations which see people who live longer and healthier lives, as they are sustained from more food and more conveniences from abroad.
The policies used by exporting nations to encourage exports have potentially destructive consequences. Nationalised banks offer loans to exporting industries at extremely low interest rates; governments offer them cheaper electricity and energy; land is available to them at lower rates, and so on. The result is large corporations that are run wastefully - with more labourers hired than needed, more coal shovelled into their furnaces than they actually need, more raw materials purchased than they actually need, more goods produced than can actually be sold, more stock in inventory than they actually manage. The net operating cash flow of large Chinese exporters (Cash Flow From Operating Activities - Cash Used in Investing Activities) is in the negative, as they keep using more and more financing to run their corporations without generating enough internally generated revenues to both finance future operations and reward shareholders, as their inefficient production pushes capital reinvestment requirements unnecessarilly high. Their asset prices have been inflated at great levels, while domestic savers earn miserable interest on their savings, all the while earning too little to provide for major decisions like buying a new house, for which banks won't even loan them money anyway, leaving them to save more and spend very little. This is not an economy - the nation is certainly not economising on its resources like this.
Interesting post, Prateek.
So are you saying it's better to be a net importing country? Or that it makes no difference, whatever happens happens?
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It's easy to refute an argument if you first misrepresent it. William Keizer
read david hume's essays on trade -he totally rips the mercantilists a new one. Then again so did bastiat. Basically if we imported too much then the prices decrease here so we would export again and vice-versa. Secondly the very idea of a trade deficit or surplus is totally imaginary and based soley on badly interpreted statistics. Thirdly, it is impossible for a country to have a trade deficit or surplus absolutely. Every deficit in goods is covered by a surplus in capital and a deficit in capital is a surplus in goods.
I think any form of economic activity between nations, whether to import or to export is beneficial to both nations involved. It has to be, because why else would the mutual agreement to trade happen between the two parties? Both have something to gain from it. High imports and high exports are both signs of strong economies.
But to take the difference between their imports and exports, and then say that one nation is being "favoured" and the other is not is a rather faulty concept.
That said, being an importing nation is a sign of the ability of the consumers in the nation to further upgrade their standard of living. Nations which prevent imports have simply hurt their own consumers, and indirectly their own industries, because the money they would have saved from cheaper foreign goods would have gone into productive domestic industries. Being a net importer tends to be a sign of a well performing economy, although there are some bad economies like India and Pakistan, which are net importers.
So in short, "trade deficit" is a meaningless concept, no matter how much Warren Buffet tries to create an alarm about it.
fakename: Every deficit in goods is covered by a surplus in capital and a deficit in capital is a surplus in goods.
Every deficit in goods is covered by a surplus in capital and a deficit in capital is a surplus in goods.
Ive been hearing people say that China will one day get tired of giving us all their stuff and getting pieces of paper in return.
In other words, maybe in Hume's day you exported goods and got gold in return. But nowadays with inflation making money worth less, and maybe even worthless soon, isn't the country left with the paper it got in exchange for real things in bad shape?
Smiling Dave:But nowadays with inflation making money worth less, and maybe even worthless soon, isn't the country left with the paper it got in exchange for real things in bad shape?
It's the same thing for the average American who receives paper for his labour domestically.
Notions of global trade or global politics between nations, are essentially no different than between two individual actor/citizens, just on a much larger scale.
Because in both cases, we are assigning specific individual identity and sovereignty to the two parties in question.
China might just as well be the village blacksmith, and America the village banker for all intents and purposes.
In my opinion I think that inasmuch as any paper currency is liable to lose value it is bad but this fault lies entirely with the state. So surplus/deficit trade per se is not to be blamed and is as profitable a system as we can have given the state. So in the short term it is better for china to invest here and get financial advisement but it is ultimately going to be bad for them once the dollar ends.
I understood the posts from LS and fakename. Ty both for the enlightening answers.
Smiling Dave: I understood the posts from LS and fakename. Ty both for the enlightening answers.
ya welcome
From
http://www.lewrockwell.com/schiff/schiff52.1.html
by Peter Schiff
...At the same time, our industrial output is contracting, our trade deficit is expanding once again (after contracting earlier in the year), and our savings rate is plummeting (after an early year surge).
So that line about trade deficit expanding is making a big stir about a non-issue?
Prateek Sanjay:It seems a terrible obfuscation of facts about foreign trade has happened simply because of the use of such incorrect and misleading terminology with respect to commercial activities across nations...
Surely you're familiar with Milton Friedman's discussion of this:
Another fallacy seldom contradicted is that exports are good, imports bad. The truth is very different. We cannot eat, wear, or enjoy the goods we send abroad. We eat bananas from Central America, wear Italian shoes, drive German automobiles, and enjoy programs we see on our Japanese TV sets. Our gain from foreign trade is what we import. Exports are the price we pay to get imports. As Adam Smith saw so clearly, the citizens of a nation benefit from getting as large a volume of imports as possible in return for its exports or, equivalently, from exporting as little as possible to pay for its imports. The misleading terminology we use reflects these erroneous ideas. "Protection" really means exploiting the consumer. A "favorable balance of trade" really means exporting more than we import, sending abroad goods of greater total value than the goods we get from abroad. In your private household, you would surely prefer to pay less for more rather than the other way around, yet that would be termed an "unfavorable balance of payments" in foreign trade.
The misleading terminology we use reflects these erroneous ideas. "Protection" really means exploiting the consumer. A "favorable balance of trade" really means exporting more than we import, sending abroad goods of greater total value than the goods we get from abroad. In your private household, you would surely prefer to pay less for more rather than the other way around, yet that would be termed an "unfavorable balance of payments" in foreign trade.
On of my favourite passages ever.
Irish Liberty Forum
This is the problem: the trade deficit is ambigous in that it could indicate bad or good health of the economy. That the trade deficit is rising could point to a general rise in prices (inflation) which points to central bank activism. It is this latter cause that is bad not the effect of the trade deficit. Basically, it's like a guy who says look your muscles are huge you should lay of the juice!
Smiling Dave: From http://www.lewrockwell.com/schiff/schiff52.1.html Ignorance Is Bliss by Peter Schiff ...At the same time, our industrial output is contracting, our trade deficit is expanding once again (after contracting earlier in the year), and our savings rate is plummeting (after an early year surge). So that line about trade deficit expanding is making a big stir about a non-issue?
It's only meaningful when you combine it with two related issues, which Peter discusses at length over and over again:
1 - The trade deficit is a reflection of Americans consuming instead of saving (he has made the point before that in the 19th century America had persistent trade deficits, but it was capital goods being imported, which helped bring about further production)
2 - Much of this consumption is indirectly brought about by the Federal Reserve with low interest rates and the gradual destruction of the dollar
And to be clear, consuming from abroad is not a problem in and of itself. The real problem is that consumption must come out of production if you don't want to see your standard of living drop considerably. If you consume only by taking on ever greater amounts of debt, one day you're sure to see a massive drop in that standard of living. Like a family living on credit card debt - they can live it up until the day the credit card companies cut them off, and then they must either pay off the debt or declare bankruptcy.
But it's not China and other countries which cause Americans to load up on debt, instead of saving. The biggest incentive to do so comes from the inflation of the money supply year in and year out, and the institution most responsible for that is the Federal Reserve.
Smiling Dave:So that line about trade deficit expanding is making a big stir about a non-issue?
Just to reiterate, no. He's not.
An individual (or nation, at least w.r.t. to other nations) earns an income through the sale of goods and services to other nations. It makes expenditures by buying goods and services from other nations. The trade balance is equivalent to the spread between the two. If their is a trade deficit, this indicates that the individual is borrowing. This can indicate a relatively higher standard of living later for the individual provided he is investing the borrowed money to increase his future income. This can also indicate a reduced future standard of living for the individual if he is consuming the borrowed funds instead of investing them. So it depends entirely on what the person is using the borrowed funds for.
When we compare the balance of trade between countries, we are just comparing the international balances of trade (and ignoring intranational) which indicate trade patterns between aggregates of individuals instead of single individuals.
liberty student:China might just as well be the village blacksmith, and America the village banker for all intents and purposes.
That would be a banker borrowing from the blacksmith to purchase the blacksmith's goods and services and in turn, providing almost none in return to him. Sounds like a good deal for the banker. Especially if he has the most powerful military on the earth and the blacksmith has no way to force him to repay his debts when he inevitably reneges.
Stephen: Smiling Dave:So that line about trade deficit expanding is making a big stir about a non-issue? Just to reiterate, no. He's not. An individual (or nation, at least w.r.t. to other nations) earns an income through the sale of goods and services to other nations. It makes expenditures by buying goods and services from other nations. The trade balance is equivalent to the spread between the two. If their is a trade deficit, this indicates that the individual is borrowing. This can indicate a relatively higher standard of living later for the individual provided he is investing the borrowed money to increase his future income. This can also indicate a reduced future standard of living for the individual if he is consuming the borrowed funds instead of investing them. So it depends entirely on what the person is using the borrowed funds for. When we compare the balance of trade between countries, we are just comparing the international balances of trade (and ignoring intranational) which indicate trade patterns between aggregates of individuals instead of single individuals.
A rejoinder: The trade deficit is always matched by a trade surplus such that their sum is equal to zero or a trade balance. This is because, I think, bankers and merchants have an incentive to make sure that the value of the goods they circulate is paid for lest they fall into debt or lose profits. The way this occurs if there is a trade imbalance in one area is to entice people to send valuable goods to them which they can use to pay off their debts. ( a more specific example is found in the book by cantillon). Now this process is timeless so the fact that cantillon wrote in the 18th century is beside the point. What the point is that if the west coast experiences a trade deficit it doesn't necessarily need to mean that the buyers in california are going into debt which is unfundable. It is only the eventual destruction of the currency that is the real worry.
Inflation is how the government get's rid of alot of its debt. But it's debt combined w/ falling productivity that's the problem. The incentive to inflate which will destroy the currency results to a large extent from the sheer level of debt that's becoming increasingly unserviceable, both for the gov and consumers.
The posts replying to my q about Peter Schiff are very enlightening. Thanks guys.
Prateek Sanjay:I think any form of economic activity between nations, whether to import or to export is beneficial to both nations involved. It has to be, because why else would the mutual agreement to trade happen between the two parties? Both have something to gain from it. High imports and high exports are both signs of strong economies.
Yes, right. But don't tell people that the inefficient, whose skills become obsolete or less valued after flush in of equal or better talent from other countries, will still be able to obtain high wages as before the barriers were removed. International trade will help the consumers, with lower prices and increased wealth. Blocking international trade will hurt consumers and favor only a small group of special interests.
In other words, explain things to people in a very realistic manner. Don't tell them, the next day we trade with Mars and we'd all be rich.
@ Prashanth
I thought Sanjay's post was fine. He didn't say anything about Mars either.