With all of the talk of trade lately, an important snip-it of data was released on Wednesday.
The Wall Street Journal reported that, “the U.S. posted its widest monthly trade gap since 2008 in December and a record annual deficit in goods…” during 2018. The record gap stood at $891.3 billion for the year, a 10% increase from 2017.
It is important to note that this is for physical goods only. When factoring in U.S. services sold to foreigners, like tourism and bank services, the 2018 gap is $621 billion. This is still a 12% increase from a year earlier, though.
This comes during a year when President Trump pushed an aggressive trade policy agenda. We saw numerous tariffs on goods, including 25% and 10% tariffs on steel and aluminum, respectively, along with a 10% duty on $50 billion in goods from China.
One of the President’s explicit goals with these was to push Americans away from foreign imports to reduce the trade deficit. (For those who do not know, the trade balance is calculated by exports – imports, and a trade deficit arises when imports are greater than exports.)
The President has been hung up on the trade deficit because he believes it is a reflection of poor trade deals and the U.S. becoming less competitive. This is a misguided view, though, and the record deficit highlights an economic consensus that deficits and bad trade agreements are not connected.
Let’s dive into more data to look at this further.
By The Numbers
Even with punitive tariffs on a wide range of goods, the U.S. last year saw imports grow by 7.5% overall. This outpaced the 6.3% growth in exports, leading to an increase in the deficit.
The primary cause for this was the relative strength of the U.S. economy to the rest of the world. The U.S. economy grew at a 2.9% rate for 2018, outpacing other wealthy countries like Germany (1.6% growth), the U.K. (1.3% growth), Japan (0.9% growth), and France (1.6% growth). China saw falling growth as well, with GDP slowing to a 6.5% growth rate not seen since the 1980’s.
The St. Louis Fed does a great job explaining where a deficit stems from, but in short, it comes from people spending more money and buying more imports. In a free market world, goods from abroad are naturally able to compete within domestic markets. If the economy is doing well and people have increasing disposable income, more of these imports will be purchased along with domestic goods. Imports then rise.
With the U.S. economy performing stronger relative to other countries, our demand for imports from countries like Germany and Japan will exceed their demand for U.S. exports that they import. As a result, imports grow faster than exports, expanding the deficit.
This is a simplified explanation, but it none the less highlights how a trade deficit is tide to a stronger economy. Looking at the data, strong economic gains indeed led to a big jump in consumer goods imports for 2018, which increased by 7.7% from 2017.
For an administration that talks heavily about reducing the trade deficit, it is a bit ironic that a major piece of legislation pushed by President Trump might have helped fuel its increase. But in fact, the tax overhaul did just this. The major corporate tax cut is widely credited with giving U.S. businesses a sugar high for 2018, allowing for increased investment and confidence as savings rolled in.
Coupled with a strong labor market and higher government spending, this boost from the tax legislation helped drive spending by consumers and businesses. Like I stated before, higher spending puts upward pressure on imports, so the tax overhaul ultimately helped increase the deficit.
Adding to this, the President’s tariffs with China led to retaliatory measures from Beijing, including tariffs on U.S. soybeans and metals. These resulted in a drop in exports to China for 2018 overall. American’s increased their imports of Chinese goods as well, even with tariffs on many goods, leading to an increased deficit with the country most heavily targeted.
The trade deficit data simply highlights an established consensus that the trade balance is a reflection of the economy’s performance, not an indicator of poor trade deals and lack of competitiveness.
The President should look at the deficit as an indicator of a strong U.S. economy in 2018, and not as a major issue. Hopefully economic perspectives will eventually penetrate the current administration.