themarketswork

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Trade Deficits, Foreign Investment, Under-Employment & Trump

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If a country is buying more goods and services from the rest of the world than it is selling, the country must also be selling more assets to the rest of the world than it is buying. – Douglas Irwin

While awaiting the Inspector General’s Report, I came across an interesting exchange regarding trade and foreign investment.

Hint: Sundance already understood the answer to the question.

A classical economic explanation was provided:

And an important clarification was made:

And the “flaw” in the classical economic argument exposed:

The Balance of Trade – or Trade Balance – is simply the value of exports minus the value of imports.

For simplicity assume Country A imports one good and exports one good:

Trade Balance = Price of Exports * Quantity of Exports – Price of Imports * Quantity of Import

A Trade Surplus means the Value of Exports exceeds the Value of Imports.

A Trade Deficit means the Value of Imports exceeds the Value of Exports.

Country A exports chips and imports beer. Country B exports beer and imports chips. Countries A & B trade only with each other.

The price of chips is $2 and the price of beer is $3.

Country A exports 4 bags of chips and imports 3 bottles of beer. Country B exports 3 bottles of beer and imports 4 bags of chips.

The trade balance for Country A = Price of Chips * Bags of Chips – Price of Beer * Bottles of Beer

TB = ($2 * 4) – ($3 * 3)

TB = $8 – $9

Trade Balance = -$1

Country A is running a Trade Deficit of $1. Conversely, Country B is running a Trade Surplus of $1 (Price of Beer * Bottles of Beer – Price of Chips * Bags of Chips).

Notably, the sum of Country A’s Trade Surplus and Country B’s Trade Deficit = $0.

Assume Country A is the United States and Country B is China.

China will be lending $1 to the United States in the scenario above.

The U.S. receives $9 worth of beer – plus $8 dollars worth of yuan for the chips sold to China.

China receives $8 worth of chips – plus $9 for the beer sold to the U.S.

The U.S. can trade its $8 in yuan for $8 of the $9 dollars China is holding from their transaction.

The remaining $1 in China’s possession is now a debt of the United States. China has a $1 promise of future goods or services from the United States.

Assume this trade pattern is repeated – again and again. Soon China has accumulated a large number of dollars – $1 for each transaction.

China will be forced to put these accumulated dollars to work by buying U.S. Treasury Bonds and/or U.S. stocks.

China could also choose to buy factories – or other hard assets – in the United States but China already has a surplus of workers.

Therefore, China has an inherent motivation to purchase bonds and/or stock as opposed to physical assets.

This is what Goldberg was referring to with his statements “foreign investment is the inverse of trade deficits”… “the bigger your deficit, the more foreign investment you get”.

In the short-run there is nothing inherently bad about this practice.

China and the U.S. each get the goods they want – chips for China and beer for the U.S. – presumably at prices cheaper than the items could be manufactured at home.

There are two very important assumptions inherent to this.

First, the country accumulating the debt is only better off if it’s using the proceeds for productive growth purposes.

Second, that we operate in a free and open market.

We have not had free markets for decades – if ever.

And we have been running a trade deficit since 1976.

A sustained practice of running trade deficits leads to underinvestment in those industries from which goods are being purchased abroad.

Expertise is lost, jobs are outsourced and entire industries can become effectively outsourced to other nations.

There are also some underlying problems.

Economists’ measures of benefit from trade are, by definition, net measures. They calculate the increase in benefit to the nation as a whole – not to individuals.

But what happens when the benefits accrue to the few – while the many bear a disproportionate cost.

What happens when good-paying manufacturing jobs are “traded” for low-paying service sector jobs.

And are we adequately capturing that cost in our economic assessments.

It’s easy to point to our low levels of unemployment as a counter to trade deficits. If a trade deficit is “bad”, why are our current levels of unemployment so low.

I’ve always felt unemployment is a faulty measure that fails to capture the underlying problem. Unemployment provides a directional indicator of our economy’s health but it also masks some flaws.

We also need to focus on Under-Employment – when people have been forcefully moved from higher paying jobs into service-sector oriented jobs that offer little in the way of advancement or higher income opportunities.

The United States has seen its manufacturing sector eviscerated through out-sourcing:

The United States lost 41 percent of its manufacturing jobs between June 1979, when manufacturing employment peaked and December 2009, when it reached its recent low point.

The manufacturing jobs drop has continued in recent periods:

Between 2000 and 2010, manufacturing employment plummeted by more than a third. Nearly 6 million American factory workers lost their jobs. The drop was unprecedented – worse than any decade in US manufacturing history.

Even during the Great Depression, factory jobs shrunk by only 31%, according to a Information Technology & Innovation Foundation report. Though the sector recovered slightly since then, America’s manufacturing workforce is still more than 26% smaller than it was in 2000.

Here is some hard data to illustrate the under-employment problem.

In May 2018, the unemployment rate was 3.8 percent. The number of unemployed persons was 6.1 million.

The number of long-term unemployed (those jobless for 27 weeks or more) was 1.2 million in May 2018 and accounted for 19.4 percent of the unemployed.

The labor force participation rate was 62.7 percent.

The employment-population ratio (% of the total US working-age population employed) was 60.4 percent

The number of persons employed part time for economic reasons (involuntary part-time workers) was 4.9 million in May 2018.

Involuntary part-time workers are those who want full-time employment and are working part time because their hours had been cut back or because they were unable to find a full-time job.

An additional 1.5 million persons were marginally attached to the labor force.

These individuals wanted and were available for work, and had looked for a job sometime in the prior 12 months. They were not counted as unemployed because they had not searched for work in the 4 weeks preceding the survey.

So, while our unemployment rate is at 3.8 percent – the immediately available pool is double that figure:

  • 6.1 million unemployed Americans.
  • 4.9 million involuntary part-time workers.
  • 1.5 million Americans who have temporarily given up looking for work.

12.5 million Americans looking for full-time employment.

And there’s another pool of workers that can supplement the 12.5 million number.

President Trump sometimes references 100 million Americans not in the workforce. This is factually correct – the actual number for January 2018 was 95.6 million.

About half of the 95.6 million – 46.7 million – are retired.

Another 13.8 million are on some form of disability. The disability number is widely acknowledged as swollen.

Another 6.4 million are Social Security beneficiaries who are neither aged nor disabled (for example, early retirees, young survivors).

15 million were either in school or in job-training.

The remaining pool of ~13.7 million Americans were care-givers of some nature.

There are currently 12.5 million Americans looking for full-time employment. Add to this workers from the ranks of the “retired but willing to work” along with excesses from our disability ranks and one can see that we have far more flexibility within our employment levels than the stated rate of 3.8% would suggest.

Here’s another way to look at the employment scenario:

The percentage of Americans expected to pay no Federal Income tax in 2018 is 45%.

The actual number for 2016 was 44.3%.

This doesn’t mean 45% of Americans pay no taxes. Most people still pay Social Security and Medicare payroll taxes along with state and local sales taxes.

And of course, there will always be a significant percentage who pay no federal taxes due to retirement, etc. But it doesn’t equate to anywhere near 45%.

Our federal tax system is progressive by nature. The 45% rate, when combined with low unemployment levels, is indicative of the problem.

A large portion of Americans are chronically under-employed, working in low-paying service sector jobs, trying to make ends meet.

Manufacturing jobs provided a large segment of our population with a viable means to support themselves. Some of these folks couldn’t afford a higher education or lacked the opportunities to gain skills required for the white-collar world.

Manufacturing jobs offered these folks the chance to still pursue the American Dream.

Now, many are relegated to McDonald’s or Starbucks for career paths.

Yes, our unemployment numbers are good. But there are a lot of folks who are clearly under-employed and more than willing to work for higher paying jobs – if they were available.

Jobs like those offered from manufacturing.

I’m not arguing for government intervention or protectionism. I’m arguing for the removal of unfair trade agreements. I’m arguing for the death of NAFTA. I’m arguing for the removal of layers of unnecessary regulations.

I’m arguing for an even playing field.

We have the most productive workers on earth. It’s time we unleashed them once again.

President Trump understands this dynamic. And he’s doing something about it.

Bringing back real, hard investment that directly benefits those who need it the most.

The United States is the sum of its citizens. A net economic number fails to adequately tell the underlying story.

There’s Goldberg’s classical economic definition and then there’s President Trump’s definition.

As succinctly noted by Michael Do:

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