Brad Setser

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Cross border flows, with a bit of macroeconomics

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Since the US government is unwilling to take any action, the US current account deficit cannot be a problem.

by Brad Setser
July 30, 2005

The IMF just published its annual report on the US economy.

The report was in some ways remarkably frank.    And it outlined the core policy choice the US government has made, namely, not to do anything to try to reduce the vulnerabilities associated with the large – and I suspect still growing – US current account deficit.

The money quote: "The authorities observed there was little more than US policy could do to address global imbalances"

The IMF does not agree:  their work (see Chapter V) suggests more aggressive efforts to reduce the fiscal deficit would have an impact. 

Ted Truman (and Paul Volcker) do not agree.  Truman thinks monetary policy should try to maintain balance between aggregate supply and aggregate demand – which, in practice, means the Fed should do more to reign in demand growth. 

The problem is not just that the US is borrowing large sums from abroad, but it is borrowing in ways that are unlikely to generate the future income needed to pay the debt back, as (to quote the summary of the IMF's Executive Board discussion) "foreign savings and corporate profits increasingly [are] financing government and household spending." 

The last (2004) IMF Article IV report on the US forecast – almost magically – the US current account deficit would wither away.    It predicted the deficit would peak at around 5% of US GDP in 2004 and start falling in 2005.  That forecast was no doubt done at the end of 2003 and the IMF assumed (like many) that dollar depreciation would have a bigger impact than it did.  Still, the IMF's old forecast for the  2005 current account — around 4.5% of US GDP — is not going to even be close to this year's number, and that was clear from the moment it was released. This year's Article IV report represents something of an improvement: it forecasts a 6.1% of GDP current account deficit from now until 2010.   

The IMF does its forecast right.   Since net debt and net interest payments are rising, a constant current account deficit implies a small reduction in the trade deficit.

p. 12 of the Article IV report includes a series of charts that show the evolution of the US net international investment position if large US current account deficits are sustained.  They look a bit like some of the charts in Roubini and Setser (2004).   Note in particular that exports as a share of GDP have been rather flat for some time, and have actually fallen since 2000.    That is not a good sign if your external debt is rising.

Since the IMF forecasts only a modest slowing of US domestic demand growth (it falls from 4.8% in 04 to 4% in 05 and around 3.5% from then on) and solid but not spectacular growth in US trading partners (it is expected to be between 2.8 and 3.0% going forward, a bit lower than in 04) and still high oil prices, the IMF implicitly (maybe even explicitly) is forecasting further dollar depreciation to shift demand from foreign to US goods.  

Economic wonks know that standard elasticities for the US would generate faster import growth than export growth if US domestic demand grows faster than foreign demand and the dollar is constant, and thus a rising trade deficit.  Remember, keeping the trade deficit constant requires exports to grow much faster than imports.

The Fed staff certainly expects the dollar should fall further.  To quote the IMF's staff report:  "Fed officials agreed that a significant depreciation of the dollar would be needed to narrow the trade balance and stabilize the net investment position."

But make no mistake, even if the dollar depreciates and the trade deficit falls slightly over the next few years, as the IMF forecasts, the US is on track have a mountain of external debt.  Net external debt is forecast to reach about 50% of its GDP by 2010 – a very high number for a country that only exports about 10% of its GDP. 

To be honest, I think a realistic forecast should include further widening of the current account deficit in the near term.   A bigger current account deficit implies a bigger gap between savings and investment.  So a bigger deficit implies that savings – household savings at least – might go negative.   Or business investment would need to rise without triggering higher interest rates and a fall in residential investment.   

You can certainly argue that this is a bit unrealistic, and market forces will kick in to push the US back toward equilibrium before the current account deficit reaches 7% of US GDP.  Greenspan was making a variant of this argument in the spring.  Yet right now, is sure seems likely that the q3 and q4 2005 current account deficits will be above 6.5% of US GDP – it looks like an inventory correction kept imports unusually low in q2, so import growth looks set to resume its upward march later in the year.  Barring a slowdown in the US or collapse of the dollar, I expect a 7% of GDP 2006 US current account deficit.

That is a quibble though.  Far better for the IMF to forecast a constant current account deficit than to forecast the deficit will disappear without any action from the US government.  

Note as well the IMF's forecast for the future evolution of the fiscal deficit if government spending grows at something like its historical norm.    That would require President Bush to show a greater commitment to limiting spending in his second term than in his first.    Under those assumptions, the US fiscal deficit more or less stays around 3% of GDP for the next few years, maybe a bit less if this year's revenue surprise is sustained.  No matter: it is far too high a level for a country that does not save.


  • Posted by Movie Guy

    “But make no mistake, even if the dollar depreciates and the trade deficit falls slightly over the next few years, as the IMF forecasts, the US is on track have a mountain of external debt. Net external debt is forecast to reach about 50% of its GDP by 2010 – a very high number for a country that only exports about 10% of its GDP.”

    I noted the budget projections on page 18 of the IMF report. And entitlement cost projections on page 21. Same for taxation discussion on page 26, and growing mortgage debt outlined on page 27.

    The U.S. situation comes more serious after 2010 or 2012 with regard to projected government spending.

    It’s one big mess.

    We have to get serious on a number of fronts.

    And this leads me to the following report.

  • Posted by Movie Guy

    I have been saving this report for a future discussion. Now is a good time to dust it off and bring it forward.


    A worthy read. Look forward to seeing the findings of this document discussed.

    The only thing missing is an update which would show how much bigger the hole is since 1999.

    We need another U.S. Trade Deficit Review Commission.

    We need a new report…

    We’re losing ground.

    Taken together with the other problems that the U.S. is facing, it’s time for action that stops our mounting current account deficit.

    Firm decisive action.

  • Posted by Movie Guy

    The U.S. trade and current account deficits are so large that I see no way out of the mess without significantly devaluing the U.S. dollar. For which there are negative consequences for American households.

    The lack of knowledge and understanding by open border advocates regarding current account imbalances and resulting declining U.S. wage levels created the conditions which will result in lower U.S. standards of living. This fundamental error failed to take into account what would happen as rapidly growing U.S. imports continued to exceed U.S. exports, resulting growing trade and current account imbalances. That the U.S. dollar serves as the global reserve currency, and that currency pegs and other artificial props used by other central banks has insured that conditions allowing for greater levels of disproportional U.S. imports and large current account deficits continue to this day. The second error was not recognizing that U.S. large fiscal deficits would have to be offset by positive gains in U.S. trade policy or tax increases. None of which occurred under the existing trade and fiscal policy arrangements. It is always essential that trade, fiscal, and monetary policies work toward achieving the common goal of improving the welfare and safety of the nation. Both are at risk over the next ten to twenty years due to the failures of coordinated understanding.

    Devaluation of the U.S. dollar must occur by whatever means are available.

    The need for a massive devaluation of the U.S. dollar might have been avoided had the United States pursued a different trade policy path toward achieving global growth and well being of citizens around the world.

    I am suggesting that trade policy could have been built around cost averaging, for example, whereby U.S. manufacturers could have been offered sufficient incentives to keep a percentage of U.S. plants in operation. Foreign interests would have had faced a similar situation based on large unit volume and dollar sales, duplicating the trade model used for automobile manufacturers. It has worked well for Toyota, Nissan, Honda, and others that have built plants in the USA. Cost averaging would not displace all U.S. outsourcing, but would establish thresholds for plant source mix between U.S. and foreign location sources. GM is using the cost averaging model with its SUV manufacturing in the U.S. and Mexico, identical products of such plants flow to the American market. Works well.

    Anyway, we’re not using common sense. So, here we are. Declining U.S. wages, declining non-credit purchasing power of average consumers, and a growing share of foreign manufactured household finished goods are the result. Followed by an anticipated further rise in U.S. interest rates, future declining housing prices and household asset values, and rising prices of imported goods once the U.S. dollar is devalued.

    Hardcore free trade advocates in official positions who promote open borders, minimum taxation (individual and other), and seek existing levels of government social services, defense, and infrastructure support have failed to insure the financial stability of the United States of America.

    So, let’s get started. Bring on the devaluation of the U.S. dollar. Let’s try to fix their mess.

    Whether American consumers and households survive the forthcoming changes intact remains to be seen. But, rest assured, the brief party is winding down.

    Turn off the party lights on the way out. Close the door. It’s time to get back to basics.

  • Posted by cranagh

    in 1999, six years ago, results of work done by the national energy policy development group were already known to dick cheney. cheney foresaw demand for oil growing at 2 percent, and overall production declining at 3 percent. that does not sound a big mismatch, but simple arithmetic shows that a few years of that quickly produce an impossible mismatch. (google for the detail)

    there is no way out of those figures except by a ‘discontinuity’ in the global economic scenario. the missing piece of the jigsaw ( ‘why can’t they see they are bankrupting america . . .?’) may be that this discontinuity is already built in to their policies.

    if this were so, – to phrase it as a homely analogy – if you know the restaurant is going to burn down before midnight, what’s the big hurry to pay your bill ?

    as for the dollar going down, the thing that it could go down against is not lesser currencies, but oil. written into the script may be an oil spike of unprecedented severity, accompanied by an extension of the middle east war, which would provide political cover for the financial pain and angst back home.

    that is why there is no big effort to paddle the canoe upstream, we are already committed to shooting the rapids.

  • Posted by Guest

    Movie Guy –

    Scary reality you describe. But I can’t find a single thing I disagree with.

  • Posted by Guest

    ::::as for the dollar going down, the thing that it could go down against is not lesser currencies, but oil. written into the script may be an oil spike of unprecedented severity, accompanied by an extension of the middle east war, which would provide political cover for the financial pain and angst back home. ::::


    I’ve thought that for a long time… and as oil went up and the dollar dropped against the Euro… it almost looked like that was happening… that oil was only rising against the dollar.

    Well euroland has shot themselves in the foot… France, Netherlands & now talk of the Lira… and it looks like oil will go up against them all.

    As a result I think the dollar will have to depreciate more than the others… depreciate against the other currencies & against oil… I don’t see how the imbalances we have will allow for an artificially high dollar.

    I see too many examples in my personal working experience where these balances are becoming increasingly obvious.

  • Posted by dryfly

    Last ‘Guest’ post was me…

  • Posted by Stormy


    Excellent post and an interesting suggestion regarding cost averaging.

    The question is: How do we devalue the dollar? Unilaterally? Or do we wait for oil to do the work or the consumer to be tapped out.

    I may be wrong, but the deflationary pressures may be zeroing out the inflationary pressures of oil. But that will not hold for long.

    As far as the Middle East is concerned, the drumbeats over Iran have been a bit softer, though now that Iran is going ahead with its nuclear program, who knows. The Iraq debacle was something the administration did not foresee. That disaster has upset the whole calculus.

    This party has a ways to go. The longer it goes, the worse the correction will be.

  • Posted by Stormy

    Advantage, China
    In This Match, They Play Us Better Than We Play Them

    Good article. On target.

  • Posted by Stormy

    How prescient some people were in 2000. Consider what Jeff Faux said:

    “The cost of the proposed China trade pact is the permanent loss of control over trade relations with China. The potential benefits to the trade agreement are small — even by the supporters’ calculations — and largely benefit investors by providing them with wider choices of foreign investment opportunities. A more realistic analysis indicates that the net impact on U.S. employment and domestic business is likely to be negative rather than positive.

    “Furthermore, the claimed geopolitical benefits of this trade agreement are less than credible. Given the United States’ recent experiences in Russia and Mexico, the assumption that the United States can identify the true Chinese “reformers,” that these leaders will ultimately prevail in the political arena, and that the acceptance of an ever-widening trade imbalance will turn China into a democratic, free-market economy cannot be taken seriously.

    “The U.S. relationship with China is likely to be complicated and difficult for as far into the future as we can see. To deny America its one non-military instrument of leverage in exchange for limited financial benefits that would go to a few multinational investors is a risky and irresponsible policy.

    The costs and dangers of this proposal substantially outweigh any potential gains for the United States.”

  • Posted by sun bin


    That is a great essay from McGregor. But I am afraid his voice is not as loud as the defense contractor lobby/etc. Perhaps the best way to ensure the future benefit for either nation is more exchange and understanding between the 2 people’s, as he suggested.

  • Posted by sunbin

    Here’s a simple comparison on China and US. Simple take, but wisdom often comes from simple ideas.
    best companion reading for this letter will be this older speech

  • Posted by Tom Marney

    IOW, don’t worry, everything will somehow work itself out. Gee, I dunno…

  • Posted by Stormy


    I agree with the idea of learning from one another. Trade should be mutually beneficial for both sides.

    Remember, Jeff Faux’s predictions were made back in 2000. (Curiously enough, the U.S. Trade Deficit Review Commission’s “Impact of U.S.-China Trade Relations on Workers and Employment” implies that he SUPPORTED the 1992 Memorandum with China, when in actual fact, he was quoting Clinton’s support for it and then questioning Clinton’s assumptions.) Faux was right; Clinton and Rubin wrong.

    The report itself goes on to specify in nice detail the state of affairs in 2001. The report details where the trade shifts have occurred and the jobs lost:

    “We would therefore estimate that the actual number of jobs lost each year from production shifts to China total between 80,000 and 100,000 jobs, which, when compounded over eight years (with the expectation that the number increases each year as production shifts and trade deficits increase) is very close to our preliminary estimate of the total jobs lost due to increased trade deficits between 1992 and 2000 (760,000)”

    The report goes on to detail precisely the shifts measured by 2001. Not a happy picture for the US. We are now in 2005.

    The report is worth a look.

  • Posted by Stormy


    Jeff Faux wrote the report you attributed to McGregor.

  • Posted by sunbin

    “Advantage, China
    In This Match, They Play Us Better Than We Play Them
    By James McGregor”

    in washington post?


    p.s. i agree that one should be prepared for the worse case scenario and compete like Intel paranoid. However, one should also recognize where one’s position really it. If one got side-tracked by inaccurate info or prediciton, the strategy and resource allocation would most likely be wrong.

  • Posted by sunbin


    i looked again and think i never read anything from faux no refered to any of his report. i was referring to McGregor in your previous link. There was probably some misunderstanding 🙂


  • Posted by Stormy


    True enough. McGreggor’s was the WP piece that had some interesting stuff.

    But I quoted two. The second, and most important was Jeff Faux’s:

    a quite substantial piece, more so than either McGreggor’s or Steins’s.

    Because you replied after the Faux citation, I thought you were replying to it. It was a mix-up. My fault.

    Faux’s study is worth reading, as well as the Trade Commission piece.

    blogging certainly is not like talking. 🙂

  • Posted by Steven M

    Movie Guy,
    I agree with you. You’re quite right that we will have to get back to basics, and start thinking about core priorities again.

    The one thing I would add, is that if and when this does happen, most people will not have seen it coming. Their first reaction will be to just be sort of disconcerted. It will be up to us, who are aware of this, to re-assert a common idealism, and to reassert the idea of working together towards common economic goals. That is something which countries do, and which we used to do. We have just lost the knack for it a little bit, but we can do so again.

  • Posted by ftx

    May as well add to Movie Guy and Stormys’ forebodings:

    ‘Made in China’ is getting better

    “[Zane] predicted that once quotas were fully removed, as seems likely after 2007, clothes made in China would make up 50 percent to 80 percent of the U.S. market, compared with a figure in the low 20s now.”

  • Posted by Joseph Wang

    We seem to be in “blame China” mode again.

    The one important thing that is missing from the Zane quote is the fact that much of the textile production that China is taking up is from countries like Bangledesh.

    Similarly, you can talk about manufacturing jobs lost to China, but they would have been lost to somewhere else (mostly Mexico) if the WTO agreement hadn’t been put into place.

    I’m actually pretty neutral as to whether or not the United States should be protectionist or not, but I don’t think in talking about trade that the United States should target China.

    If the US wants to establish a protectionist policy, the right thing to do wasn’t to have blocked China from entering WTO, the right thing to have done is for the US to withdraw completely from WTO, and thus allow the rest of the world to work things out without it.

  • Posted by Joseph Wang

    Movie Guy: I think you are blaming free trade for the problem that you can’t get something for nothing. The US federal budget needs to be funded. Bush doesn’t want to fund it from taxes. Without Chinese funding, the funding could have come from higher interest rates. As it is, there is a series of transactions that cause the funding to come from lost manufacturing jobs. You can establish tariffs to prevent the losses there, but then the funding is going to come from higher prices in consumer goods.

    You can hide the costs somewhere. You can make sure that someone else bears the cost, but ultimately someone has to pay. My own preference is to make the costs of policy explicit so that people know where the money is coming from and where it is going, but politicians tend not to like that.

  • Posted by Joseph Wang

    One other thing. Comparative advantage theory suggests that free trade has zero net effect on employment (i.e. its neither positive nor negative). I don’t challenge the premise that trade with China causes a huge loss in manufacturing jobs, but this is balanced by the gain in jobs in other sectors.

  • Posted by Steven M

    Hi Joseph. You make good points. I think you are in Movie Guy are actually in agreement. Since I have read his past comments, I know he believes that the US economy needs to be more self-reliant. I think he would be the first to agree with you, as do I that China should not be blamed for the fact that they are the ones giving us money to finance our deficits. That is our doing, not theirs. So we should look to ourselves, and our own resources and obligations, to address this matter. Thanks.

  • Posted by bsetser

    Joseph Wang — I do not always agree with your take on China, but I quite agree with your take on the US.

    One other thing — simple extrapolation/ forecasts are dangerous. China will not simultaneously be able to take 80% of the US market for textiles (that would drive down wages in Bangladesh to the point where they are competitive with China) and move up the value added chain and starting exporting cars, and doing more of the value added in computer assembly, etc.

    what does have to change is the fact that China needs to balance its exporting prowess with more imports of goods, not just debt — the current chinese exports for us debt trade is not sustainable for all that much longer, tho one can debate how much longer.

  • Posted by OldVet

    James Wang wrote: I don’t challenge the premise that trade with China causes a huge loss in manufacturing jobs, but this is balanced by the gain in jobs in other sectors.

    That would be true if it can be proven with jobs data, but I haven’t seen any indication that the Theory of Comparative Advantage is anything but an old outmoded theory from the early 1800’s. That theory was based on a fundamental assumption which no longer is true: that the trading economies had fixed ratios of land, labor, capital, and technology. Neither capital, technology, or labor exists in “fixed” proportions in either the US or any other national economy these days. Push a button, turn on a computer, there it is – a changed ratio of factors of production.

    Such factor mobility was unthinkable in 1800. What leap of imagination could have predicted today’s world? We had no Leonardo da Vinci’s working then, who might have forseen such changed fundamentals.

    It is the post-Comparative Advantage era. We’re in the era of Absolute Advantage, which is what is scaring Americans, including myself. I wish it were not so. For any given product, or any given service with a market value, it is perfectly possible to rapidly import capital, technology, and even skilled labor to achieve a cost/benefit ratio superior to any and all of the products and services generated in the US. That is the problem for Americans.

    US economists are mostly wedded to orthodoxy, and especially to the notion of comparative advantage. But the results in the past 40 years or so for the US have been one way trade barriers, supplanted industries, falling currency, trade imbalances, massive official borrowings from trade competitor nations, and so on. I’ll have to go with the evidence, rather than the theory, on the benefits and costs of modern trade.

  • Posted by ftx

    Joseph — my post wasn’t in any way intended as a “blame China” comment. I’m sorry you got that impression.

    To me the article shows just how difficult it’s going to be for the US to improve its deteriorating trade position. Studies of previous current account adjustments (e.g. Croke, Kamin and Leduc 2005) seem to focus on data from the 1980’s and early 1990’s, and I would have thought great care is needed in applying empirical observations from ‘pre-globalization era’ economies to the US position today.

    I never seem to see much in the way of specifics as to how the current account adjustment will be made. Maybe this is unknowable, and the only thing that economists can be sure of is the inevitability of the correction.

    For example, the US has a structural energy deficit. US oil production is declining while crude oil demand is still rising, so how is this part of the trade deficit going to improve, even with a decline in the dollar? What is the US going to export to the oil producers in return?

    I suppose an economist would tell me that I’m making a mistake in asking such questions. I should instead just think of the economy as a black box. You don’t need to know what’s inside to know that things will work out in the fullness of time.

  • Posted by dryfly

    Oldvet has it 100% right… don’t quote the orthodoxy… show me the numbers saying there wasn’t a net loss of jobs?

    Fact is maybe over time those mfg’ing jobs will be replaced and both countries will see benefits… but right now it is looking more and more like a lose-lose than a win-win…

    Chinese lose because they send resources to support our debt that they could use to grow their standard of living more organicly… resources they might never get back if our society fails and the dollar tanks.

    We lose because our whole mfg infrastructure is being eaten from the inside out by our own excess & lack of discipline & focus.

    And like Joe Wang suggested… it isn’t fair to blame the Chinese for being there. This problem is 99% on our side of the Pacific.

  • Posted by Stormy


    Comparative Advantage really started to fail when full globalization began, especially the form it is taking. With the industrial revolution, technology was never fixed. Labor productivity has increased for a century or more. Automation and now IT have dramatically increased the production capacity of the average worker, although, as we are discovering, massive cheap labor has its advantages.

    We are now faced with radically changing ratios of resources, labor, and technology. We have ever diminishing resources, a sudden influx of a huge labor force, and a technology that is spinning faster and faster.

    Few economic models have a chance to be even remotely predictive here. For a while, I suspect, cheap labor will have its day. And technology will help. But the resources and the environment are very big issues—and they are either becoming depleted or unusable at an alarming rate.

    Ironically, economists and politicians complain about the aging population. The MAJOR premise of the whole system is that we need population growth to keep the whole economic system viable. That premise has to be question closely if we are to even have a chance as a species. I have yet to see an economist tackle this assumption.

    A some insightful wag put it: Nature bats last. I do not like the batting order.

  • Posted by bsetser

    WSJ article on europe today is interesting reading — (on int. page). suggests europe has problems because it is less able to move workers out of manufacturing into service jobs, and that is a problem as investment leaves europe for places with lower labor costs.

    interesting, and certainly the CW.

    but it looks forward by assuming “what happens in the us is a good guide for will happen elsewhere.” that strikes me as off. it seems to miss the point that at some point, the US will have to shift out of services and housing, and back into manufactures (or tradable services), since the US cannot forever pay for its imports with debt, and at some point, the trade deficit will at least have to stop growing.

    it also misses the fact that Europe runs a trade surplus in manufactures … and its manufactured exports have been growing strongly. A bit over simplified in my view. europe’s remaining manufacturing industries are a potential vulnerability in a globalized world — but the United states lack of an export industry sufficient to pay for its imports strikes me as a bigger vulnerability.

    the goods for debt trade has some limits — so the past ten years in the US are unlikely to be a good guide for the next ten …

  • Posted by Joseph Wang

    I think part of the problem is that people are missing what the theory of comparative advantage states and doesn’t state.

    In particular, I think that it is pretty clear that the *total* amount of wealth available is being increased by free trade. There are companies that are making huge amounts of money from trade with China, and I think one could easily argue that the total value of goods and services is greater with free trade than without it.

    The trouble with that is that people generally don’t care what the *total* amount of wealth is if they don’t get any of it. How wealth is distributed is something that is totally outside of comparative advantage. If it turns out that the extra wealth from free trade goes to 2% of the population and 98% end up worse off, then you don’t have something that is political sustainable.

    (I should point out that one problem with political discourse in the United States is that it is almost impossible to admit that the proposals that one supports (gasp) has some downsides.)

    Also I think that part of the reason that things are so scary is that part of the American economic system is that very, very bad things will happen to you if you lose your job. I suspect that things would be much less scary if people knew that if they lost their jobs they’d still have health care and basic social services that they could access without social stigma. In addition, being overleveraged with debt with little savings makes any income disruption very, very frightening.

  • Posted by bsetser

    joseph — well said

  • Posted by Halidai

    From the sounds of the responses here, it would appear that the jury is still out on the economic future of the US (though to my uneducated eye, things look grim).

    My question is on the local rather than global scale. If the US dollar is devaluated in the future, what will the impact be on the average US citizen with a mortgage, two car payments, and $20k in credit card debt?

  • Posted by sun bin

    i think if you have a net debt, you fare better at a devaluation, because your asset (house and car) value increases while your debt remains unchanged.

    e.g. further inflation in house price, so that you will be able to refinance. inflation will also increase your wages, which will more than offset the rise in interet you have to pay.

    such families would be hard hit if there is a deflation imo

  • Posted by Movie Guy

    Existing U.S. trade, fiscal, financial and monetary (TFFM) policies, when viewed collectively as a governing coordinated TFFM strategy for achieving net positive economic benefits for the welfare and safety of the United States economy and net sustained improvements in standards of living for U.S. citizens, have failed to achieve required strategy objectives. Clearly, the United States is on a number of unsustainable TFFM paths for which there is no justifiable excuse. Rather, the known and anticipated risks and lack of sustainability represent policy implementation failures and, potentially, improper exercise of delegated authority.

    Trade, fiscal, financial and monetary (TMFF) policies are, in fact, a package of national policies based on mission statements designed to accomplish overall national economic objectives as well as department/agency missions as mandated in U.S. laws. Fiscal, financial, and monetary policies are discussed with increasing frequency, but trade policies are seldom mentioned. That is absurd. TFFM policies and actions must be viewed as a package of nationally defined initiatives based in law which must work in concert to achieve stated objectives.

    Treated in isolation, any group of such policies (T, F, F, or M individually) can be generally labeled as successful in achieving specific targeted goals within the broader department/agency level objectives. Collectively, though, the TFFM policies have failed to create the net positive economic and financial security foundations necessary for sustainability of U.S. economic performance and improved standards of livings for U.S. citizens. The existing trade deficit patterns, current account deficits, federal debt and bond issuance including interest payment obligations, and global currency imbalances demonstrate the collective TFFM failures that put the United States at risk. Yet, many policy failures and related actions continue to be exercised in ongoing operations.

  • Posted by Movie Guy

    Those in academia and elsewhere who hang their hats on the simplistic theory of comparative advantage and more recent derivative variations presently employed in U.S. international trade policies fail to explain away or justify the growing account deficits and trade deficits which are undermining the long term well being of standards of living for U.S. citizens.

    Comparative advantage theoretical application to trade policies is “not supposed to” result in continual and growing trade and current account deficits. As such, the excessive international application of the theory of comparative advantage is questionable. It can be put back on a shelf until such time as its application is applied carefully in situations whereby other nations do not have repeated and substantial advantage in capturing larger shares of bilateral or multilateral trade resulting in growing trade imbalances.

    Comparative advantage thinking must be applied in the broader context of overall national TFFM (trade, fiscal, financial, and monetary) policies’ objectives designed to provide for the welfare and economic security of the United States and improved standards of living for U.S. citizens. As stated in law. Such less than open borders consideration includes the preservation of critical skill sets, technologies, research and development, and service or manufacturing methodologies which provide comparative advantage to the United States, its industries, and its citizen employees. Once such known production and development advantages flow overseas to foreign interests, the United States in left in a potential net loss position on those elements mentioned. So, no, the simplistic application of comparative advantage is not appropriate in all internation trade situations. Nor should it be.

    The growing federal debt levels resulting from large and growing trade and current account imbalances thereby threaten the financial well being and economic security of the United States and its citizens. As such, discussing the supposed benefits of comparative advantage theory in isolation as opposed to viewing such within the broader governing objective of TFFM policies is misleading. Moreover, noting the growing profits of U.S. corporations and companies which are not providing net positive investments in U.S. operations resulting in improved, not diminished, U.S. wages levels fails to meet the lawful mission responsibilities of Treasury, Commerce, United States Trade Representative (USTR), and Federal Reserve missions as spelled out in unambigous language in U.S. statutes approved by the U.S. Congress and implemented by the Administrative Branch of the U.S. Government.

    All such arguments and positions treating economic theories (which are just that…theories) in isolation and failing to address the lawful obligations identified in national trade, fiscal, financial, and monetary (TFFM) policies are without significant merit for economic system application. The objective of net positive results for the welfare and economic security of the United States and the improved standards of living for U.S. citizens is the issue as spelled out in U.S. statutes and policy definitions provided in such statutes. Nothing less.

  • Posted by Movie Guy

    The lack of a well coordinated net positive strategy supported directly by trade, fiscal, financial, and monetary (TFFM) missions and policies was evident in the late 1990s, at least with regard to international trade patterns. One of the results was the creation a Congressional commission to examine the U.S. trade deficit.


    A careful read of the extensive documentation available at the sublinks of the TDRC web site reveals the growing concern of the U.S. trade deficit problems over five years ago. Since the publication of the commission’s report, the U.S. economic trade deficit situation has grown considerably worse. Yet we do not have a current trade deficit review commission or similar national entity in place to address such problems of Congressional and Administration concern.

    I recommend that the United States government create another trade deficit review commission tasked with the responsibility to review all TFFM missions, policies, and actions which have resulted in growing trade deficits, current account deficits, increasing federal debt obligations, and lower U.S. wage growth.

    Such review would include reviews of Treasury, Fed Reserve, Commerce and USTR policies and actions at a minimum.

  • Posted by DOR

    Jeff Faux questioned whether the “the true Chinese ‘reformers'” would ultimately prevail in the political arena in 2000?

    Deng Xiaoping purged the last of the radicals in February 1980, so he was 20 years behind the times!

    Nice posts, Sir Guy!

  • Posted by Joseph Wang

    Movie Guy: Comparative advantage theoretical application to trade policies is “not supposed to” result in continual and growing trade and current account deficits.

    As far as I’m aware comparative advantage is irrelevant here.

    Also, I don’t think you’ve hit the basic problem. The basic problem is that “I want to raise taxes” is not a winning political message.

  • Posted by Movie Guy

    Joseph Wang,

    It’s clear that you miss the points outlined in my seven posts.

    Proper application of coordinated and effective TFFM policies is the key to a successful national economic strategy for the United States.

    The problems created by massive trade and current account deficits are caused by an ineffective and disjointed application of TFFM policies not resulting in a net benefit for the welfare and safety of the U.S. economy.

    Attempts to provide sole sources splinter answers, such as “don’t raise our taxes”, as the cause of ineffective TFFM policies is naive. Moreover, to suggest that the application of a variant of the comparative advantage (CA) theory to U.S. trade policies does not apply is equally inaccurate. The mistaken assumption that broad open border application of CA theory will result in balanced trade is one of the errors in TFFM governing policy and strategy. The net result of mistaken CA application and other ineffectual measures created the trade and current accounts deficits threatening the United States.

    The national strategy is based on the package of policies, not one body of policies or one individual policy such as individual income tax policy.

  • Posted by sun bin

    I think Movie Guy has a point in CA has a role to play, in that everybody (nation, corporation, person) need to find his own advantage.
    However, the game of “Competitive Advantage” is hard to play. In the information age CA is hard to be sustained. So one needs to continuously find and create his new areas of advantage. This job is a lot more difficult for US than China. Because US is running at the front in the 10k km match and taking the wind. (like the Dallas Fed Bank speech said)

    One should also note that ‘border’ control works only if there is a 2 player game. in a multi-player game, the learning curve for those who open the border is much faster (that is why we have EU, NAFTA, CAFTA, APEC…).
    So if there is something US can keep it to itself uniquely, and don’t share with anybody else, then the argument is valid. But if you share selectively (e.g. with EU but not with China), there will be leak from EU to China, and US will be disadvantaged. Because EU+China is moving up the learning curve faster than US.
    Free market advocates free a simple game where all markets are open. It is easier to play and benefits everybody. The pie grows faster for everyone.

  • Posted by bsetser

    Halidai —

    A weaker dollar makes imports more expensive. And the set of events that leads the trade deficit to fall will likely include more than a weaker dollar — it will also require a slowdown in us consumption growth, if not US growth.

    A weaker dollar tho helps sectors of the economy that export/ compete with imports.

    A weaker dollar reduces the value of foriegn investment in the US. Their investment is “devalued” so to speak.

    The impact on the US — and on uS borrowers — of this comes if foreigners demand higher rates to keep on lending to the US, or just to refinance their existing loans to the US. Higher rates would hurt the US economy.

    Opinion is divided on whether or not the “adjustment” process will include higher rates. some envision rates staying low because US activity will be weak, inflation will be contained and the Fed will be able to keep rates low (the dollar has to fall a lot in this scenario). See Japan. Others say that a country that depends so heavily on foreign savings to finance its investment will have to give foreigners a positive real return, and compensate foreigners for the risk of further falls in the dollar. Plus higher rates will be needed to bring about the slowdown in US consumption growth. I tend to be in the latter category.

  • Posted by Steven M

    Hi Movie Guy. Excellent posts. I quite agree.

    The most important thing is our cconomic responsibility to create wealth and opportunity for our own people. If we couldn’t do that, it wouldn’t matter how good the imported products were; we would have a real reason to close the imports, and start consuming more domestic products. That is part of our obligation as a country, to make sure that the economy offers opportunities for all. There is no obligation to make sure we have cheap VCRs for all. 🙂 Just wanted to point that out. Thanks.

  • Posted by Movie Guy

    sun bin,

    The package of trade, fiscal, financial, and monetary (TFFM) policies and actions should be viewed together in determining whether the U.S. economy and its citizens are receiving net benefits.

    Creation of effective national trade policy most assuredly involves employment of the concept of comparative advantage among other considerations. As importantly, implementation of effective trade policy requires a balancing act with other national policies regarding fiscal, financial, and monetary missions of the U.S. government. All of which must work together in achieving a successful national strategy resulting in net benefits for the U.S. economy and producing improved standards of living for U.S. citizens. The actions of the TFFM policies either achieve such success or they do not.

    At issue is whether the U.S. is embracing TFFM policies that are working properly and providing net long term U.S. benefits based on domestic and global situations. I suggest not. The TFFM strategy is in disarray as evidenced by the trade deficit, current account deficit, and U.S. domestic asset valuations, along with declining U.S. wage levels. The strategy course is not sustainable.

    First, existing trade policy allowing for greater levels of open borders fails to offset the problems created by financial and fiscal policies and actions of the United States. Specifically, two principal problems occurred resulting from ineffective financial and fiscal policies. The presence of pegged global currencies by some trading partners renders the U.S. trade policies’ outcomes ineffective as evidenced by growing loss of share of export markets in all seven global trading regions. Moreover, large U.S. fiscal deficits compound the problems created by the trade policy and financial (Treasury Dept) policy actions resulting in trade deficits. Whether U.S. trade policy decisions will be justified or the results of such corrected if the U.S. dollar is devalued significantly remains to be seen. Meanwhile, monetary policy actions and failures have created yet another asset bubble situation in an attempt to offset problems created by trade, fiscal, and financial policy decisons and actions. Similarly, monetary policy is discounting the risks associated with growing levels of consumer debt including credit card and mortgage debts held by households. And discounting the effects of a potential housing bubble crash whether on a regional or national basis.

    If a potential significant devaluation of the U.S. dollar occurs, there is a general likelihood that U.S. exports volumes should grow if the global economy does not fall into regional or general recession. Similarly, there is a possibility that some U.S. outsourced production of goods and services will be relocated to U.S. facilities, though there is no firm assurance that this will happen in short order. It is likely that a devaluation will stem the growing outflow of goods production and services to overseas locations. Sounds good so far in the hypothetical scenario. But there are additional issues and concerns.

    While a future devaluation of the U.S. dollar could result in a net gain of U.S.-based production of goods and services for domestic and global markets, there is still the issue of global competition. So much technology and R&D effort has already been transferred overseas that some of the U.S. comparable advantages may be lost, whether flowing out the back door of foreign facilities or simply offered up to local foreign economies and leadership in exchange for FDI investment ventures. In turn, future U.S. economic success and net benefit positioning may require the presence of a new body of technologies, R&D domestic-based investment, and similar process improvements that provide strong production and services advantages as compared to global competitors.

    Global competition is certainly ramping up in a number of industries. Whether the U.S. will provide sufficient investment in U.S.-based facilities and operations to offset growing global competition remains to be seen. At the present time, more U.S. R&D operations are being transferred to foreign locations which are in general proximity with foreign production plant facilities. In other words, the corporate package excluding a few administration operations of some firms are shifting offshore. If a devalued U.S. dollar does not provide sufficient incentive to reverse this situation, then other policy measures will need to be considered and implemented.

    The growing trade and current account deficits do not represent a sound national economic strategy.

    Therein lies the growing problem.

    It’s time for a revised U.S. strategy.