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The Truth about the Trade Deficit

This election cycle the issue of the trade deficit has been a topic of great debate, with front-running candidates suggesting that the deficit is an example of how the U.S. is losing or being “ripped off’ economically. As of February this year, the balance in trade of goods and services stands at $47.1 billion. While this isn’t the largest trade deficit in recent years, some academics and politicians continue attempting to draw a relationship between the trade deficit and job losses.

According to the Economic Policy Institute, the trade deficit with the 11 Trans-Pacific Partnership (TPP) economies cost 1,057,200 manufacturing jobs in 2015. Overall, EPI claims that the trade deficit resulted in a total of 2 million job losses last year.

However, let’s look at some counter-evidence: Unemployment over the 12-month period from January 2015 continued to fall from 5.7 to 4.9 percent. This is thanks to the new jobs created in finance, construction and services, in great part resulting from the growing capital investment from China and other Asian economies. The $366 billion that China acquired last year through trade with the U.S. isn’t simply hoarded, but is quickly returned to the U.S. as a capital inflow, through purchasing financial assets or as foreign direct investment supporting American business growth.

In 2015, Chinese companies alone invested a record $15 billion in the U.S., up from $11.9 billion in 2014 and set to be in excess of $20 billion this year, according to a recent report published by the research firm Rhodium Group. This doesn’t sound like the U.S. is “losing” economically. As the economist Arthur Laffer made clear “The trade deficit, in point of fact, is the counterpart to the capital surplus. And capital surpluses are unambiguously good.”

Some critics also overlook the fact that countries do not engage in trade with other countries, but consumers and businesses do. And those consumers and businesses only engage in voluntary market exchanges that leave both parties better-off.  As a result, it becomes clear that trade is in fact a win-win, not a win-lose as some politicians and academics would have you believe. Americans are not made worse-off as result of China becoming more productive; on the contrary, if China is more productive, they have goods and services that Americans can buy at better prices, while China has more resources to invest in the U.S.

A further point is important about the deficit.  According to the U.S. Bureau of Economic Affairs, about half of all imports into the U.S. are used as inputs for U.S. manufacturing and are not purchased as consumer goods. Those “intermediate” goods provide the supplies and capital equipment that producers use. To restrict those goods or to slap higher tariffs on those goods would be to raise the costs to our own producers and cause them to be less competitive.

In an attempt to close the deficit, some front-running presidential candidates have suggested slamming large tariffs on goods made in China. Instead, we should embrace the case for free trade made by 19th century political economist Henry George “blockading squadrons are a means whereby nations seek to prevent their enemies from trading; protective tariffs are a means whereby nations attempt to prevent their own people from trading. What protection teaches us is to do to ourselves in time of peace what enemies seek to do to us in time of war.

The truth about the trade deficit is that there may well be some short-term costs to some sectors of U.S. manufacturing, but the significant benefits of trade far outway those costs, making the American economy stronger and wealthier in the long run. On the other hand, trade barriers and tariffs proposed by misinformed politicians and special interest groups will only make us poorer as a nation.