The Trade Deficit: is it a problem?

Now and then, we might hear from diverse people, especially politicians, about the terrible problem of trade deficit. Take for example the recent report by Bergsten which calls for a plan of action to force China to let its currency appreciate in order to have the US trade deficit diminished.

Theoretically, the trade balance should be seen as a problem since it is a simple accounting of the trade of goods and services. When we add the net transfers of income, we get the current account balance. Moreover, the current account balance it is accompanied by the other side of the balance, namely the capital account and financial account. When these three accounts are added up, by definition, one should obtain zero. To make things clearer, trade deficits will be accompanied by a positive capital account. However economists seldom agree on the significance of the trade balance.

To make things worse, leading macroeconomists do not offer a conclusive view. Take the view by Gregory Mankiw. Although he does not view this deficit as a problem per se, he still thinks this is a symptom for much deeper problems in US economy. A more worried position is expressed by Krugman, see here. He thinks that the trade deficit might signal financial problems and it can lead in time to an increased possibility of sudden capital flights. Bernanke also sees the trade deficit as a problem, reflecting, in his opinion, the “global savings glut”.

There are however a number of economists that simply view the trade deficit as a simple results of national accounting without a meaning in itself. The journalist and economist David Malpass simply views the trade deficit as a sign of the growing US economy and, due to the capital account surplus, as a potential for potential US growth. A similar view is held by economists from Austrian school, who are much more unitary in their views (see also my take on modern macroeconomics and the Austrian school).

I, myself, do not view the trade deficit as a problem and neither as a necessary sign for potential problems (just go back to the accounting issues discussed above). I do think however that, in some cases, the trade balance can provide some useful information.

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