Donald Trump has been making a show of irritation with Germany’s trade surplus with the US. But Ulrich Kater, chief economist of DekaBank, says US policies drive Germany’s surplus.The Trump Administration is obsessed with the US’s bilateral trade numbers. Wherever a country exports more goods or services to the US, as measured in dollar value, than it imports from the US, Trump labels that country “bad.” China, Mexico, Canada, Germany – all “bad.”
But in reality, in the context of globalized trade, bilateral trade account numbers – the figures between any two countries – are, in general, economically not very important. To take an analogy from everyday life: Most private citizens have a chronic ‘trade deficit’ with their local grocery store, since they buy a lot of groceries from the store, but sell it exactly nothing. Yet no-one would suggest imposing penalty tariffs on the grocer as a punishment, until such time as he buys as much from his individual clients as they buy from him.
Similarly, it should not be the goal of economic policy to ensure that direct reciprocal trade flows between any two countries are equal in value. When one country’s businesses sell more to a trade partner nation than vice versa, there are usually good reasons for that, having to do with customer preferences or comparative advantages of different countries that make them more suitable for producing certain products or services.
A key reason for US trade deficits: The dollar is the global reserve currency
Moreover, on closer inspection, it becomes apparent that the US is a special case: It has trade deficits with nearly all of its trading partners. The reason for that has to do with the fact that the US dollar is, uniquely, the main global trade currency.
That’s why it’s important to evaluate the US’s trade numbers from a different perspective than those of any other country. America’s bilateral trade deficits have little to do with policy decisions made in foreign countries, or even with exchange rates.
The real reason for them is that Americans tend to consume more and save less of their incomes, on average, than their trading partners – and the US can get away with running consumer-based trade deficits because the rest of the world is happy to accept US dollars in payment for deliveries of goods and services. That’s because they can spend those dollars anywhere in the world, not just in the US and not just on US goods and services.
As long as households, business and governments in the US systematically buy more goods and services than the US economy produces each year, the country will continue to import more than it exports. And that can continue as long as the US dollar remains in high demand abroad.
Trump’s policies are likely to further increase deficits
The Trump Administration could reduce its aggregate trade deficit if it really wanted to, by means of domestic policies. It could achieve this by increasing the domestic savings rate.
The US federal government’s own budget is a major source of total economic demand, and the government has run chronic deficits for many years. The 2016 budget deficit was a bit lower than in previous years, but still ran to nearly 5 percent of GDP. Reducing the government spending deficit by half would suffice, in straightforward arithmetic terms, to cancel the trade deficit.
But that would require the Trump Administration to refrain from its proposed stimulus program – because getting the economy roaring requires spending lots of money. To the extent that the stimulus would be financed by government deficit spending, rather than from tax revenues, it will help drive the country’s trade deficit higher – and as a side-effect of creating an economic boom, it will also drive the US dollar higher on foreign-exchange markets.
A stimulus program will only be economically helpful, in a structural sense, if instead of merely stimulating general demand, it improves supply-side factors and competitiveness – for example, by improving the nation’s transport, energy and communications infrastructure, or the quality of its college graduates. What this means is that the US government already has the keys to reducing the country’s trade deficit with the rest of the world. It can use them if it chooses.
Conversely, however, Germany also some control over the factors driving its trade surplus with the USA in its own hands.
Germany’s trade surpluses have almost nothing to do with exchange rates
Contrary to what Trump and some of his advisors appear to believe, Germany’s surplus doesn’t depend strongly on the exchange rate between the euro and the dollar. Germany’s trade numbers only fluctuate briefly in response to changes in the exchange rate, even when the change is large and sustained, as it has been over recent years.
This has been true since the days of the Deutschmark (DM). When the managed exchange rate between the DM and the dollar was adjusted to reflect a stronger DM, in theory, that should have caused Germany’s chronic trade surplus to disappear. But it didn’t. Such exchange-rate adjustments never had more than a brief, transient effect on Germany’s surplus.
The only period in post-war history that Germany had a sustained trade deficit was in the 1990s, and that too was independent of the relative strength or weakness of the DM compared to the dollar in any given year. The reason for Germany’s 1990s trade deficit had nothing to do with exchange rates – it resulted from the massive multi-year bout of stimulus spending associated with rebuilding eastern Germany after the collapse of communism and the unification of the two German states into a single federal republic.
After the 2008 financial crisis, Germany’s trade surplus with the rest of the world markedly increased, even though the euro – the eurozone’s and Germany’s currency – was very strong compared to the US dollar for several years.
Indeed, the current weakness of the euro can be seen as a long-term threat to German competitiveness, because a weak euro means there is less pressure on German firms to take measures to drive down unit costs in order for their products to stay competitive on global markets. Long-term competitive advantages are only achievable through efficiency improvements and innovation.
The real reasons for Germany’s trade surplus
Within Germany, too, forces other than exchange rates drive the long-term direction of the country’s trade balance. For one thing, Germany produces a lot of high-quality goods that customers outside the country like to buy – whatever the exchange rate.
But that’s not the only factor in play. Another is that German economic actors – households, companies, and recently even governments – tend to save a lot, and spend less than they earn each year.
Together, those two factors are the real foundation of the country’s trade surplus.
Add to that a tendency to invest savings mostly abroad rather than at home, and the current account balance with the USA, or indeed with most countries, tends to rise even further – because the current account balance is composed of the country’s trade surplus, plus the excess of German investments abroad over foreign investments in Germany.
In a nutshell, Germans produce and sell more than they buy, and they tend to invest a lot of the resultant surplus earnings abroad.
That’s not necessarily a good thing for Germany. The tendency of Germans to invest abroad rather than at home is problematic for two reasons: First, it means the country is investing less in maintaining and improving its own infrastructure and supply-side factors than it could be doing, which may weaken its comparative long-term competitive position. Second, investments made abroad may end up losing value, as was the case with the many billions German banks invested in US real estate during the 2000s.
Summing up, we see that both the US and Germany could take useful domestic policy measures that would reduce their trade imbalance. The US could rein in domestic demand and increase the savings rate, and Germany could stimulate domestic investment.
Trade barriers would backfire
The current US government’s threat to impose across-the-board sanctions against German industrial sectors – such as the automotive industry – is unlikely to be carried out, because a protectionist attack on German industry would be an attack on the European Union. The EU is too large a trade partner to risk attacking, because counter-measures imposed by the EU would hit US export industries hard.
Yet the trade balance numbers are not really the target at which President Trump wants to take aim. The US has lived with a trade deficit with the rest of the world for decades – and it has had no problem financing that deficit, because the US dollar is the main global reserve currency.
Trump didn’t promise his political base – the people who voted for him – a trade surplus. He promised them well-paid jobs in re-invigorated American industries. Protectionism is not the appropriate instrument to make good on that promise, and the fact that Mr. Trump has focused on bilateral trade deficits with Germany and other countries is a testimony to his Administration’s confusion or helplessness on economic policy issues. Protectionism won’t help the US deal with the challenges of an emerging services-dominated American economy. Instead, the Administration’s focus should be on investing in the underlying drivers of long-term US competitiveness.
Dr. Ulrich Kater is the chief economist at DekaBank, which is the investment banking offshoot of Germany’s Sparkasse banking chain – sometimes called The German Savings Banks Finance Group in English.
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