Trade and The World's Most Misunderstood Accounting Identity: Y=C+I+G+X-M (Update)

(Note:  This is an update of this post based on a new set of economically illiterate people in the White House).

Repeat after me:  Y=C+I+G+X-M is an accounting rule.  It does not explain anything about the economy.  It is as useful to telling us anything interesting about the economy as the equation biomass=plants+animals+bacteria tells us anything about the ecosystem.

Apparently our new commerce secretary is totally ignorant of this fact:

[New Commerce Secretary Wilbur Ross] has a simple but misguided view of global trade. He believes that good trade policy yields a national trade surplus, while bad deals produce trade deficits—as if every country in the world could run a trade surplus. In an August letter to this newspaper, Mr. Ross wrote, “It’s Econ 101 that GDP equals the sum of domestic economic activity plus ‘net exports,’ i.e., exports minus imports. Therefore, when we run massive and chronic trade deficits, it weakens our economy.”

Who taught him that? Imports are subtracted in GDP calculations to avoid overstating domestic production, not because they make us poorer. Many domestic products wouldn’t exist without foreign components.

Here is his faulty logic.  The GDP (Y) is calculated by adding Consumer spending + Investment by Business + Government spending + eXports and then subtracting iMports.  Because imports are subtracted in the GDP equation, they look to the layman like they shrink the economy.  How do we grow the economy?  Why, let's reduce that number that is subtracted!  But this is wrong.  Totally wrong.   Anything that reduces imports (e.g. a tariff) will likely reduce C+I+G by the same amount.   The M term is there simply to avoid double counting.  It has no economic meaning in this context whatsoever.  I have tried many times to explain this, but let me see if I can work by analogy.

Let's say we wanted an equation to count the amount of clothing we owned.  To make things simple, let's say we are only concerned with the total of Shirts, Pants, and Underwear.   Most of our clothes are in the closet, so we say our clothes are equal to the S+P+U we count in our closet.  But wait, we may have Loaned clothes to other people.  Those are not in our closet but should count in our total of our owned clothing.  So now clothes = S+P+U+L.  But we may also have Borrowed clothes.  Some of those clothes we counted in the closet may be Borrowed and thus not actually ours, so we need to back these out.  Our final equation is clothes owned = S+P+U+L-B.  Look familiar?

Let's go further.  Let's say that we want to increase our number of clothes owned.  We want wardrobe growth!  Well, it looks like those borrowed clothes are a "drag" on our wardrobe size.  If we get rid of the borrowed clothes, that negative B term will get smaller and our wardrobe has to get larger, right?

Wrong.  Remember, like the GDP equation, our wardrobe size equation is just an accounting identity.  The negative B term was put in to account for the fact that some of the clothes we counted in S+P+U in the closet were not actually ours.  If we decrease B, say by returning our friend's shirt, the S term will go down by the exact same amount.  Sure, B goes down, but so do the number of shirts we count in the closet.  So focusing on the B term gets us nowhere.

But it is actually worse than that, because focusing on reducing B makes us worse off.  If negative term B rises, our wardrobe is no larger, but we get the use of all of those other pieces of clothing.  Our owned wardrobe may not be any larger but we get access to more choices and clothing possibilities.  When we drive the negative term B down to zero, our wardrobe is no larger and we are worse off with fewer choices.  Similarly, in the the economy, focusing on reducing imports does not grow the economy, it just serves to make us poorer by reducing our buying choices and increasing the cost of consumer goods as well as manufacturing inputs.

I don't want to say that it's impossible for increases in imports to drag the economy.  For example, if oil prices rise, the imports number measured in dollars will likely rise, and the economy could be worse off as we have to give up buying other things to continue to buy the oil we need.  But, absent major price changes, drops in exports more likely just mirror drops in C+I+G.  If consumers are hurting, they spend less on everything, including imported goods.   At the end of the day, none of these numbers (Mr. Keynes, are you listening?) are independent variables.

Postscript:  Here is another example.  Imagine a company with three divisions, D1, D2, and D3.  How do we compute the company's total revenue?  Well, typically we would add the revenue from the three divisions, so Total Corporate Revenue R = RD1 + RD2 + RD3.  Oh, but there is a problem.  Some of the sales from each of our divisions are to each other.  We only want to measure our true revenue from external sales, so we need to subtract intra-company sales from the total (this is a very typical step in conglomerate accounting).  So total company revenue R = RD1+RD2+RD3-IC, where IC are the total of intra-company sales within the company between divisions.  If you had a new CEO who looked at this accounting, and the CEO's first thought was "if we got rid of all these intra-company sales, surely we would have more revenue, because they are subtracting from total revenue in the revenue equation."  What would you do with this CEO?  If you knew the first thing about corporate accounting, you would fire him or her immediately for being a moron.  Just because the IC term is negative in the accounting equation does not mean that intra-company sales are a drag on revenues.  Eliminating intra-comapny sales would likely reduce revenues and profits as company insiders are forced to find new, less trusted, and more expensive sources for their purchases than buying internally.

  • mlhouse

    Again, I will bring up my Trumpian point about trade. If you believe in the true free market, then the make up of that M is important. If trade is not free, that is trade is being manipulated one way or the other, that M is not a true equilibrium point of the free market system. For example, if some of that steel is imported from China because of Chinese manipulation of their currency rates, export subsidies, and/or other trade manipulation methods, while some consumers may be benefiting from the lower cost imports, the entire country, and in fact, the entire world economy is not.

    Resources that should have produced something else were instead used to artificially build up Chinese steel production. Steel production should have used other resources and been produced somewhere else and some of those resources should have been used to produce some entirely different product in some entirely different part of the world.

    It is great to talk about "Free Trade", but the fact is, we do not have any such system. I have attended graduate school in economics and have been a "free trader" all of my life, with the advent of Trump I have had to look at this in a different way. When other countries, including our own, do not practice "free trade", there are losers from those practices and I believe Trump is correct in identifying the primary losers in the United States as the lower middle class blue collar workers whose jobs could be exported to lower cost nations. The statement of "if the Chinese are so stupid to give us cheap televisions", a statement I have used myself, might be true but as an upper middle class American I am benefiting from such trade arrangements and the workers in many industries that have been destroyed by this competition have not.

    And, it is clear that some, but certainly not all, of this competition is unfair. While you and I watch a football game on our incredibly cheap 4K television, many people with limited job skills and education struggles in a service economy that offers low wages at teh bottom, with the total understanding that there isn't anything they can do to change their standing in life.

    I am not sure what the remedy is. I oppose very high protectionist tariffs mainly because the vested interest can diminish innovation.

    One idea that I find somewhat intriguing is a "revenue" tariff that is balanced out by domestic tax reductions, one for one. I prefer taxes on consumption over production any day, as well as the opportunity to choose to be taxed rather than coerced. If you don't want to be taxed, don't consume (or at least don't consume an imported item).

    I think that a "revenue" tariff would be somewhat mild even in its impact on imports. Textiles, for example, have such high margins that increased duty on their primary product would not shift price points all that much, if any. Higher end manufacturing would adjust in a way that I think has benefited the United States signidicantly, that is, moving your produciton plant to Tennessee, South Carolina, or Georgia.

    Ideally, we should have a world were even "revenue" tariffs do not exist, but we don't. We do not have "free" trade. And we should not pretend we do.

  • me

    There are a number of issues with the way the argument is typically presented by Trumpians.

    First off, the alleged trade distortion is net beneficial to the US - we're paying less and can therefore allocate capital towards other objectives compared to a scenario in which we'd be forced to purchase goods at a higher price point. Undoing it will result in net lower quality of living for Americans.

    Secondly, the argument that because there is a need for good X in America, we ought to produce good X in America is flawed - taken to its conclusion, you should never trade, but always manufacture anything you need in your own backyard, no matter the cost.

    Thirdly, the idea that because jobs for people who are a poor fit for skills sought after in today's market is counterproductive. This presumes that there are no alternative jobs that these people could do. Attempts such as these at statism end poorly regardless of where they are tried. Markets are a mechanism to adapt to change, and attempting to preserve jobs at the cost of capital will fail because it creates diseconomies and malallocation. There's a reason we don't have tariffs to ensure that coal-carrying is still a viable profession for young adults and that the union of post coach stable-boys is not a major player anymore.

    This last point is especially important. If for instance, we had tried the same thing with cobblers, shoes today would be much higher cost for everyone, resulting in restricted choice per American and poorer quality shoes on average (as fewer consumers could afford to ditch shoes early and would have to wear theirs out for longer instead). We'd have employed cobblers, who'd probably be unhappy with their work, because the prices they can charge would be controlled by external factors (shoe import tariffs) more than their contribution and we'd have to pay for a ministry of shoe tariff setting, to ensure that some bureaucrat sets tariffs on imported shoes that ensure cobblers remain viable. Compare to a scenario where all involved pursue jobs that actually benefit society as a whole and have more spending money available.

  • Q46

    And Mr Ross is certainly a stranger to Balance of Payments (actually a measure of transactions) which must balance and which has two accounts, current account and capital account. The former includes net import/export and the latter includes inward investment.

    If the current account is in deficit, this must be balanced by an increased capital account and vice versa.

    In short, the money that goes out in buying imports comes back in the form of inward investment. If the US has an high trade deficit it is balanced by a high inflow of capital investment. If it runs a budget surplus there is a net outflow of capital.

    Speaking of Econ 101 Mr Ross...

    US exports (are a cost) as they use US capital, labour and other resources which is sent out of the Country for the benefit of people in other Countries, therefore providing no benefit to the people of the US. That is sending US money and US jobs/labour abroad.

    Imports are provided by capital, labour and other resources of people in other Countries for the benefit of the people of the USA.

    If exports and 'jobs' will 'Make America Great Again', there is an easy solution. Engage everyone in work making stuff - it does not matter what as long as everyone has a job - then load the stuff onto containers, onto ships, sail beyond the 12 mile limit and dump it all in the sea.

    100% employment; 100% exports. America Great Again. Job done. Home in time for tea and bread and honey.

  • kidmugsy

    "“It’s Econ 101 that ....": this phrase and its equivalents usually translate as 'read no further, what follows is tripe'.

    As for Trumpians: they've never explained how a semi-skilled worker in a US factory can possibly out-compete a semi-skilled worker in China on one tenth of the pay. I hope Trump survives the slow-motion coup d'état against him but I would be astonished if his trade policy proves to make any sense at all.

  • Q46

    "... if some of that steel is imported from China because of Chinese manipulation of their currency rates, export subsidies, and/or other trade manipulation methods, while some consumers may be benefiting from the lower cost imports, the entire country, and in fact, the entire world economy is not."

    That is simply not true.

    The incidence of any cost for that is only on the Chinese, in taxes and in higher cost of imports. And you are overlooking the value of US currency coming into China.

    "...while some consumers may be benefiting from the lower cost imports..."

    Consumers benefitting is the ONLY reason for economic activity! What happens to the 'entire' Country (whatever that means) is neither here nor there.

    " Steel production should have used other resources and been produced somewhere else and some of those resources should have been used to produce some entirely different product in some entirely different part of the world"

    But equally, cheaper Chinese steel in other Countries means cheaper consumer products in those Countries, which means consumers have more money to spend elsewhere to increase economic activity, create jobs, and because cheap Chinese steel replaces local steel production, that releases resources in those Countries to be reallocated elsewhere in the economy to provide the goods the cheaper Chinese steel has meant consumers can buy.

    So this statement is not so either...

    "...some consumers may be benefiting from the lower cost import....and in fact, the entire world economy is not."

    Free market simply means voluntary exchange wherein the parties to the exchange decide the terms of that exchange.

    Normally A hands over a good to B which they perceive as having less value than the good B offers in exchange; the same being so from B's perspective.

    Both A and B now have things of greater value and so are wealthier. This is how wealth is generated.

    That means the Chinese must believe what they receive in exchange for their steel is of greater value than the value of the steel they export.

  • Q46

    Another aspect of the Trumpanista doctrine is...

    It is fact: jobs can either move to where the labour is, or the labour can move to where the jobs are.

    That happens all the time within borders, companies move from areas where labour is scarce, to where there is a good labour pool, or people move from areas where jobs are scarce to where labour demand is higher.

    It happens across borders too, hence immigration.

    By preventing 'American' jobs going abroad (either by stopping business relocation or reducing imports) so that labour cannot got to jobs, it is an invitation for those jobs to come to the labour.

    If the intention is to reduce economic migration, Trumps policies will have the adverse effect.

  • gr8econ

    Macroeconomics 101
    Y=C+I+G+X-M
    In addition, Y=C+Saving+Net Taxes
    Therefore C+I+G+X-M = C+S+NT
    Rearranging, X-M = S-I + NT-G
    X-M is the trade deficit. S-I is the private sector balance while NT-G is the public sector balance.
    To reduce the trade deficit do one or more of the following – Increase household saving, Decrease investment, increase taxes or decrease government expenditures.

    Note that increasing investment and decreasing taxes makes the trade deficit larger.

  • DirtyJobsGuy

    Trumpian trade (or shall I say protectionists) is highly industry specific. So we help auto workers at the expense of exporting farmers. This even in the best of systems lends it self to corruption. But let us take the Trumpian bête noir, Mexico. Mexico was highly protectionist in the classic sense until the 1970's. If you wanted to do business in Mexico you needed a local partner even if it cost the Mexican economy more than imports. Now under NAFTA and a slowly modernizing government in Mexico there is a successful development of mid range industries. Companies like CEMEX are world players.

    I work in the Power industry and have seen the direct benefits to US companies from the liberalization of the Mexican electric power industry. The former state monopoly, CFE, still exists but independent power providers were welcomed about 15 years ago. US suppliers provide almost all of the high tech turbines and other systems. I sell a great deal of specialized services into the Mexican economy in this area. So those of us in this business as well as farmers and US oil and gas companies sell lots of services, raw materials (gas) and products to Mexico.

    It is interesting that protectionists often neglect areas where costs in the US could be reduced for suppliers via lower regulation, tort law reform, and improved transportation to concentrate on tariffs. Trade has made US suppliers raise their game (please god don't bring back the era of 1970's US Big Three Autos).

  • GoneWithTheWind

    Trade itself is not bad. How we choose to implement it is bad. We allow a few companies to make massive profit by using low tax/regulation companies to make products and sell them in our country with no taxes. Real jobs are lost. The payroll taxes income taxes, jobs and business taxes that would have accrued from making those product in the U.S. is lost. These are all replaced with unemployment costs and welfare not to mention social breakdown. What are the benefits of these policies? A handful of very rich billionaires buying politicians to keep their beneficial special benefits in place.

    At the least we should recoup the losses we incur when foreign businesses sell into our market and displace American workers. We should simply institute a tax on all goods and services imported into our country that at least offsets the negative impact of imports. I would suggest a tax of 25%. But what we could also do is end federal corporate income taxes. This would incentivize American businesses and employing more American workers. We should simultaneously review and reduce the numbers of laws, regulations, red tape and bureaucracy that harms American businesses. Make America great and employed again.

  • John O.

    This whole discussion from a leftist and rightist point of view is flawed. The biggest problem that befalls those who want to correct some perceived economic injustice will always attempt to justify their actions in relation to that injustice neglecting the other linked parts of the economic cycle that will suffer instead. A phrase for it is " information problem" which is notorious for interfering with the socialist economies of the Eastern Bloc but also plagues well-intentioned Western government policy.

    The right thing is always create and maintain stable rules and laws for conducting trade and the rest will sort itself out eventually.

  • Patrick

    Excellent, spot-on writeup.
    "...What would you do with this CEO? If you knew the first thing about corporate accounting, you would fire him or her immediately for being a moron."
    Man, if only you or I (or someone else who knew the first thing about corporate accounting) were in a position to immediately fire CEOs for being morons 🙂

  • Bruce Zeuli

    That Trump and Commerce Secretary Ross make counterfactual statements in regards to trade, says nothing about what they actually believe in regards to trade. I would never presume to know what any political leader actually believes. But their statements say something about what they believe about their constituency.

    My guess is that over 90% of the populace believes that a trade deficit is bad and a trade surplus is good. What percent would be swayed by a solid, factual, reality based, logical argument demonstrating the reverse? Almost none. So let’s consider the merits of their argument in that light.

    Their argument comes down to: we feel your pain, we are on your side, and we will make things better. So they talk about trade imbalances and reinvestment in America and some percent of the populace feels better as a result. Most certainly a larger percent than could ever be swayed by a logical argument for free trade. As a result those people work a little harder, take on a little more risk or get back to looking for work. If these feelings of hope result in actions that improve the economy, then you get the credit. If they fail to improve the economy, well there is plenty of blame to go around.

    I hate making this argument because facts and logic and reality matter to me. But with those priorities, I also have to accept that I am a part of a very small minority. Most people don’t know the facts, can’t follow a logical argument and so live in their own reality. I recognize that in the long run we are made poorer by the kinds of actions suggested by our current administration.

    So if you think like an economist and compare their argument to its alternatives, then they are making the better argument. That is, they are making an argument with a greater likelihood of growth than its alternatives.

  • Dan Wendlick

    You can argue that imports and exports always balance, if you consider that "trade deficit" to be a measure of the amount of currency the country is exporting. If you think a bit deeper, this is a sign that people believe that our currency is more likely to be valuable at some future time than their "stuff" is now. Now if we were on a rigid gold standard and had to export specie in order to balance the accounts, this could be bad, since we would eventually run out of metal to coin and ship out. However, since most currency represents nothing more than a future claim on goods and services, it becomes little more than an acknowledgement that the collective "they" think that our economy is going to be stable enough that even an intangible future claim against it will retain value.

  • David in Michigan

    Imaginary numbers were always a hard concept in math classes. Economists love them however.

    Okay, but seriously, maybe you're right about all this or maybe not. Personally, I have serious doubts that the way the world's economy works is understood by anyone. We try to make sense of it but it seems always to come down to theory and politics .

  • Maximum Liberty

    Who is this "we" of whom you speak? Whoever it is, they are choosing, implementing, allowing, recouping, instituting, ending, reviewing, reducing, and so on. They seem awfully powerful. I'm not sure I'd trust this "we" with so much of my life.

  • GoneWithTheWind

    Citizens/voters/the people. The ones who the politicians look down on and ignore except near an election.

  • mlhouse

    If a country uses the various ways of subsidizing its exports, that means that production is happening in their country that under a free market would not. While some may benefit from "cheaper" steel, because of the inefficient allocation everyone is actually worse off. The reason for this is the mistake in believeing that the steel is actually "cheaper". It is essentially the same as thinking "free college" is free. Since some producers will now get artificially cheap inputs, this causes further misallocations of capital and resources.

    This is the Basic Economic 101 argument for free trade policies. Currency manipulations, high protective tariffs, export subsidies, and other trade manipulation are not free trade policies and are not free market approaches.

  • mlhouse

    1. I disagree that "trade distortion" is a net benefit to the United States. If you believe this, then you are actually arguing AGAINST free trade. If production "moves" from one country to another because that production can be done more efficiently there because that nation's competitive advantage, then the argument that there is a "net advantage" in the trade is a valid one. But, if production moves because it is being artificially stimulated by the various trade manipulations, then I think your argument is false.

    2. No one is arguing for autarky. I am arguing the ridiculousness of defending a "free trade" system when "free trade" does not exist, anywhere.

    3. While I get your argument, it isn't my argument and in the end you are making a rather circular one. I get your rant about "statism", but the problem is when "statistm" causes the problem, how do you solve it? This is the key to me. I believe for too long we have let the system be tilted too much against the United States in trade matters despite access to U.S. markets is much more valuable to foreign producers than access to their markets. We put up with significant protective tariffs, currency manipulation, direct subsidies, and every other trick in the book. While I am in the top 1% percentile of U.S. income and benefit, lower wage workers that have to directly compete against this suffer significantly and in many cases unfairly.

    4. You last point is not even valid. I am not taking a Luddite view of the world. Instead, going back to #2 above is the critical point. We do not have "free trade" in this world. Every country on the planet "cheats" including the United States.

  • mlhouse

    Again, the problem with your argument is that you ignore the artificial stimuluos used to move the business/production/labor. To use one of Coyote's pet peeves, when the city of Glendale subsidizes the local NHL team with tens of millions of dollars in subsidies each year, that keeps "labor" in Glendale. But under "free market" allocations, that labor would be in a different location and the millions of dollars of taxpayers money would still potentially be in their pockets to be spend on different things, produced efficiently under a free market system.

    Again, that is my main point and why I think we need to review our approach to these economic matters. A large part of it is political, but there are many angry people in our country who feel, correctly or incorrectly, that some of their economic stagnation is caused by these problems (and not just because of trade). You probably would agree with my that in many/most cases these problems are exaggerated and they are blaming the wrong causes. To use the example above, some of them are cobblers and cobblers just arent part of the economic future.

    But, while some or a lot fo this is true, it doesnt explain the entire story.

  • me

    Absolutely correct. That said, if a country like China chooses to subsidize its exports, China is net worse off (and her trading partners are in an artifically improved situation). This is not an argument for distoring the American market by adding tarrifs but an argument to buy as much as we can of Chinese steel at discount prices while its available.

  • me

    These are great arguments, thank you for taking the time.

    I completely agree with 2 - there is insufficient free trade, as market participants do their utmost to distort markets they engage in as soon as they become successful. Instead of curtailing this practice, governmental organizations are typically eager to help along. It's my belief that counteracting such distortion wherever possible is the best use of time for an individual with the economy well being of their nation at heart.

    Item 1 on the list is where we appear to have our fundamental disagreement. I agree that free trade is already distorted by existing subsidies and or tariffs. I disagree that our only option is to create more subsidies and tariffs to combat existing ones on the other side. There are many more options: if an industry is strategic, you can ensure it's existence by requiring it's strategic dependencies to only purchase from local suppliers. If an industry can be replaced, you can use the distortion by another participant to cheaply satisfy your economies needs while building up that replacement. If you believe the other parties subsidies are unsustainable, you can call their bluff and buy them out below price while stockpiling - and you get the benefit of being able to threaten their production capability once built up by using the stockpile to cut off orders.

    For items 3 and 4, I am *not* accusing you of being a luddite, but I also do not believe the argument to be circular. I get and support the social aspect - people displaced by economic activity need and deserve work, but I believe the best way forward is to ensure that they can find new roles with a sustainable future.

  • Sam P

    All this points out that this formula is a relatively simple way to measure the size of the economy, but is a poor policy tool as the components are not independent variables.

  • Titan28

    Calling Wilbur Ross ignorant is a stretch, even for a Libertarian.

  • Matthew Teague

    And if people stop being hopeful...would you say our trouble is just a malaise?

    https://www.whitehouse.gov/1600/presidents/jimmycarter

  • jandr0

    [So if you think like an economist and compare their argument to its alternatives, then they are making the better argument.]

    No, they are not. In your hypothetical (as posited) they are simply lying and they know it. In my world that is not, and can never be, a "better argument."

  • jandr0

    [When other countries, including our own, do not practice "free trade",
    there are losers from those practices and I believe Trump is correct in
    identifying the primary losers in the United States as the lower middle
    class blue collar workers whose jobs could be exported to lower cost
    nations.]

    Not necessarily. You will have to argue much more comprehensively to convince me of that. So, since this is a key (and, at the very least, unargued) assumption (actually "belief," as in your words "I believe") of yours, I am not bothering with the rest of your argument.

  • TruthisaPeskyThing

    Coyote,
    I think you have written a fine article. My only quibble is that likely you get caught up in the bluster of political talk.
    I would stretch my imagination to believe that Trump or Ross do not believe in trade. Sometimes, I think that things are said for political expediency rather than for policy implication. And of course both parties are guilty of doing so. (I remember years ago, complaining to my Democratic legislator about a ridiculous initiative that his party was taking and how much harm it would cause me. He assured me that his fellow Democrats had no intention of consummating their proposal; they just wanted to make political hay out of the situation.)
    I firmly believe that the Trump administration is not going to impose a broad-based set of tariffs and quotas. Rather, their focus will be on reducing taxes and regulations for everyone to make investments in the U.S. more attractive. The bluster about trade restrictions help get these change passed, and once these changes are made, the perceived need for tariffs and quotas will fade away. In the midst of these developments, there may very well be some "penalty" imposed on companies that shut down factories here, set up operations for the same output overseas, and then import that same output to the U.S. I do not favor such penalties, but I am not going to get very excited about it because such production represents a very low portion of trade.

  • TruthisaPeskyThing

    I am hesitant to agree that trade distortion is net beneficial for the U.S. Yes, consumers may be getting goods at a lower price via the trade distortion, but the current account and the capital account will balance out. Therefore, foreigners will end up owning more assets in the U.S. Of course, foreign investments to create jobs are greatly beneficial if a country lacks investment mentality and ability. However, we are talking about that scenario here. As a result of our current trade deficits, foreigners end up owning more of existing American assets and earning income streams from them rather than Americans.

  • TruthisaPeskyThing

    I would not be so cavalier about trade deficits. yes, Tthe current account and the capital account will balance out. Therefore, foreigners will end up owning more assets in the U.S. Of course, foreign investments to create jobs are greatly beneficial if a country lacks investment mentality and ability. However, we are talking about that scenario here. As a result of our current trade deficits, foreigners end up owning more of existing American assets and earning income streams from them rather than Americans.

  • mlhouse

    Rich...a guy who is playing semantics decides what is important in an argument.

    Economics is not objective. In every economic policy choice there will be winners and losers. Example: Inflation hurts savers and helps debtors, so inflation can only be evaluated from a subjective basis and policy only evaluated on a subjective view of balance between winners and losers.

    My view on trade is somewhat different than Trump's but I agree with him on many points, and I think the "Free Trade Radicals, particularly the liberatarian varieties, miss the boat. An example of a topic I both disagree and agree with Trump is NAFTA. I disagree that NAFTA has been bad for the United States. However, I totally support Trump in that a trade treaty negotiated more than 25 years ago by the original Bush Administration needs to be reevaluted and renegotiated.

    My main position, which is a new one for me, is the agreement with Trump that our trade policies need to be reviewed going forward. My underlying theory might even be different than the President's, but we need to review the winners and losers of trade when the the claims of "Free Trade" and not met. It must be unacceptable to the United States to lose jobs because of unfair trade of other countries. I have a pretty solid income that puts me well into the 1% of income earners in the U.S. Cheap imports and cheap labor for my business really helps my interests. But selfishness is bad electoral policy and Trump's election demonstrates that. We cannot ignore the loss of 1000 Carrier air conditioner jobs and just shrug our shoulders, "Oh Well, I'm getting cheap Chinese manufactures."

    The 2016 presidential election demonstrates the anger that lower middle class and lower class, blue collar, white Americans feel about the policy direction going against their interests. While some of their views are wrong, and some of the finanacial loss unavoidable, the feeling is real. And the consequences of leaving them behind are potentially substantial. Want to continue the march of socialism or socialistic policies in the United States, just keep on ignoring this result.

    My economic analysis is that tax and regulatory reform will do 80% of the work in restoring better competitiveness in the United States so that strict trade measures and even retaliatory measures would not be required. Trade and foreign policy were the United States is not expected to pick up undue economic burdens and responsibilities could cover the remainder. For example, reevaluating NATO and the 2% of GDP defense establishments that the treaty partners fail to meet.

  • Seekingfactsforsanity

    Good points mlhouse - Economic theory argued through expression of formula generally ignore politics that are pressed into world trade practices. Just because a nation can produce X more cheaply after some form of government subsidy does not mean it is good for the consuming nation. It is only good for those in the consuming nation who have a position of production (adequate income) to buy X more cheaply. One country's subsidy to encourage export of its production of X results in the need for the importing country to provide an equal but opposite type of subsidy through taxation in one form or the other, such as an import tax proposed by President Trump, or it could simply REMAIN as the tax that exists anyway - a tax on the increased income of those who benefited from the importation of X - but in either case - it results in a tax (collected on higher incomes or through an import tax) that will eventually be paid out to those who were hurt by lost production through social payments.

  • Seekingfactsforsanity

    Economic theory argued through expression of formula generally ignore politics that are pressed into world trade practices. Just because a nation can produce X more cheaply after some form of government subsidy does not mean it is good for the consuming nation. It is only good for those in the consuming nation who have a position of production (adequate income) to buy X more cheaply. One country's subsidy to encourage export of its production of X results in the need for the importing country to provide an equal but opposite type of subsidy through taxation in one form or the other, such as an import tax proposed by President Trump, or it could simply REMAIN as the tax that exists anyway - a tax on the increased income of those who benefited from the importation of X - but in either case - it results in a tax (collected on higher incomes or through an import tax) that will eventually be paid out to those who were hurt by lost production through social payments

  • Fred_Z

    " foreigners will end up owning more assets in the U.S."

    Groan. Tax them. Bang them with the highest non citizen ownership tax the market will bear. Foreigners owning American assets entirely under American control are also an American asset, but a better one than the original underlying asset. Those foreigners are sheep to be sheared, cows to be milked, pigs to be slaughtered - well, that last one went too far.

    American strength and stability are hugely valuable things and foreigners will pay, and pay well, for the privilege of owning American assets. Look at Switzerland - they make lots of money from doing what Americans seem to be too dumb to do. How much money is parked in Switzerland earning negative interest and why isn't it parked in the USA?

  • ColoComment

    We've seen this movie before. I'm old enough to remember shrieks about the sky falling when a Japanese investor bought Rockefeller Center in 1989. It didn't last long....

    "Mitsubishi's sudden decision to exit Rockefeller Center is the most striking in a string of recent retreats from the trophy properties stretching from New York to Honolulu that Japanese companies acquired during a real estate binge in the 1980's."
    http://www.nytimes.com/1995/09/12/business/japanese-scrap-2-billion-stake-in-rockefeller.html?pagewanted=all

    I'm for sure no econ expert, but it seems to me that, if foreigners want to spend their international earnings in the United States. why should we stop them? Purchase prices are paid to U.S. investor-sellers to be re-invested in other, higher valued assets (or else, why sell?), and income streams from that still-operating asset (that is still employing American labor) paid to foreign investors from U.S. assets are (i) U.S. taxed, and (ii) paid in dollars and therefore cycle back into the U.S. economy.

    Feel free to correct me where you find error.

    PS: IIRC, the company store was a closed system where the workers paid for goods in company "scrip" that was useless in any other retail outlet. The problem was not that the store was owned by "outsiders," it was that the company brooked no competition nor paid in fungible currency. But, feel free to also correct me here -- by the way, I love Tennessee Ernie Ford -- my elder sister had that song on a 45 vinyl record that the "young me" would sing along to. 🙂

  • mlhouse

    And that is why I think that we should explore a revenue tariff that is tax neutral, i.e. balanced out by reductions in some other form(s) of taxation.

    Like I said, in theory I too am a "Free Trader", but the problem is that Free Trade does not exist. Historically, the United States governement was funded by tariff revenues, not taxation. If we created an "import tax" that raised m billions of dollars and reduced payroll taxes by the same m, I think we are in position were the marginal value of that tradeoff is very positive (increasing m means diminishing returns on that value though).

    I get the problems with tariffs, but I think some of the problems are vastly overstated. For example, tariffs offer protection for existing products from innovation. Often the old world telephone systems are used an example. And these claims are true, but only in part. Tariff's can only protect entrenched interests from EXTERNAL competition, while any historical analysis would demonstrate that most of the protection AT&T, Ma Bell, and other old school U.S. monopolies received was from INTERNAL competition. I also believe that most advocates of this line of argument overstate the actual technological potentials and ignore some of the economic realities of the times.

    I also get that "trade wars" are bad for the overall global economy. However, the potential for retaliation is limited. Most of these countries already have prohibitive tariffs against U.S. competition so if they raised their tariff rates in response, big deal. Their markets, while valuable to certain U.S. producers, simply are not as valuable to the U.S. economy as the U.S. markets are for theirs. In the Eurozone 40% of their GDP is represented by exports versus 12% in the US. Now, some of that may be overstated because the Europeans do most of their trading amongst themselves, but exports are much more critical to their welfare than ours. What this means in balance, is that the pressure would be on the exporting countries to adjust their production costs to remain more competitive than the other way around.

  • Seekingfactsforsanity

    "Just because the IC term is negative in the accounting equation does not mean that intra-company sales are a drag on revenues." True, and you are right - a CEO that would not understand such a simple concept would definitely not be a TYCOON. And a company that promoted someone who could not understand such a simple math concept is in trouble.

    "Eliminating intra-comapny sales would likely reduce revenues and profits as company insiders are forced to find new, less trusted, and more expensive sources for their purchases than buying internally." Based on experience with this type of intra-company activity, the selling division making intra-company profit can become lazy and and in many cases, dependent. When the buying division begins to push back on price, it generally turns into an internal political battle. Then the decisions become less transparent and create distrust or even resentment. And once the market knows you buy from within you own company, obtaining objective, independent bids becomes difficult.