Tuesday, March 25, 2008

Knowledge Deficit on Trade

Recently a friend of mine at work commented on America's "trade deficit" and alluded to its existence. I quickly corrected him and said that America didn't have a trade deficit and to insist that it did showed ignorance of what trade, particularly international trade, is when talking about deficits and surpluses. In the words of the former president of the Foundation of Economic Education, Donald J. Boudreaux, "Here's a quick lesson in international economic accounting. Every nation's foreign trade is always balanced."

And that's really all there is to it. Let's break it down. If a country's total exports of goods and services do not equal its total imports of goods and services, the country's trade is still in balance, as the following example "balance sheet" shows:

America's exports:              $500,000 minus
America's imports:            $1,000,000
America's trade account:      -$500,000

Capital spent for imports:    $1,000,000 minus
Capital rcvd. from exports:     $500,000
America's capital account:      $500,000

IN BALANCE

When America imports $1,000,000 worth of goods and services, it exports $1,000,000 worth of currency. When America exports $500,000 worth of goods and services, it imports $500,000 worth of currency. America's foreign trade balances when you consider the entire balance sheet. "If one part of a nation's trade account is in deficit by $1.96 billion, other parts must be in surplus by $1.96 billion," says Boudreaux. This is really what it comes down to and when the entire balance sheet is considered, the "trade deficit" disappears. Those US dollars will make their way back home in future purchases and investments, sooner or later. The supposed trade deficit could just as easily be shown as a trade surplus, when only looking at America's capital account.

Consider for a moment your neighborhood grocer. By those who advocate a trade deficit's logic, there's a trade deficit between you and your grocer. I'm sure you are like me and you import more from your grocer than you export. I don't export anything to my grocer when it comes to goods. I do, as we all do, trade goods with my grocer for capital. Would you say that there's a trade deficit between us and our grocers? And if so, is that a problem? I certainly don't think so. The reality is our trade is always balanced, as is the trade between all people, entities, cities, states, and nations.

I'll close with one of my favorite quotes by 18th century economist Adam Smith, on the subject of international trade, "Nothing…can be more absurd than this whole doctrine of the balance of trade."

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