The U.S. trade deficit for goods rose to $666 billion last year, up from $547 billion in 2003 and $483 billion in 2002. The goods trade deficit increased to an annual rate of $737 billion in the final quarter of 2004 and is headed for $800 billion by the end of this year. Should we worry?
Some consequences are obvious enough, for example, the loss of 3 million manufacturing jobs, many of them relatively high-paying jobs. So why are virtually all economists in favor of more free trade? A cynic would say that's because we economists don't really have to work for a living. But there has to be more to it than that. Indeed, if there really were no tangible benefits to these enormous trade deficits, steps would have been taken to reduce them long ago.
The trade deficit as a proportion of GDP was almost as large in the mid-1980s, but that was because the dollar was extremely overvalued. Based on purchasing power parity, the dollar is currently about 5% below its equilibrium value, yet the trade deficit continues to expand without pause.
The modern era of the trade deficit -- by which I mean the period when the deficit continues to increase regardless of the value of the U.S. dollar or the growth rate of the U.S. economy -- started nearly 10 years ago. Since 1996, the U.S. productivity growth rate has increased to an average of 3.1% per year, compared with the 1.7% average of the previous 30 years. The rate of inflation as measured by the U.S. Labor Department's Consumer Price Index has averaged 1.3%, compared with 4.6% previously. There were other factors, but in my view an increase in foreign competition was a major reason for these positive developments.
For many years economists have talked about the relationship between the "twin deficits" -- the U.S. international trade deficit and the U.S. federal budget deficit. In the 1980s, Europe paid for our budget deficit by sending their surplus trade dollars back to the U.S. In the latter half of the 1990s, with the federal budget deficit temporarily disappearing, the extra dollars went into the stock market. Since then, surplus trade dollars have helped finance the budget deficit again, keeping U.S. interest rates unusually low in spite of the federal government's burgeoning red ink.
Someone has to pay for the federal budget deficit. If we don't select higher inflation or higher interest rates from the economic menu, that "someone" is either people in the U.S., who then have to cut on consumption and investment, or people in other countries, who continue to recycle their dollars back to U.S. shores.
I don't foresee another balanced federal budget in my lifetime. The Clinton years were a combination of events that will not be repeated: the gutting of the defense department, the ending of long-term welfare payments, the temporarily halting of the growth in Medicare and Medicaid, and the creation of an Internet stock market bubble. So for the foreseeable future, we have a choice: We in the U.S. can pick up the economic bill ourselves or we can invite others to the table.
But what about all those manufacturing jobs that have been lost -- and will continue to be lost? Over the next few decades, only high-tech manufacturing jobs will survive. Unless specialized skills are required, few if any business owners will pay $10 or more per hour when essentially the same work can be done by foreign laborers earning $1 per hour. It's a change that would have come about regardless of what the U.S. deficit position was or what the value of the U.S. dollar was. The message is: Luddites need not apply for jobs in the U.S. Only technologically advanced jobs contain the promise of the future. Inexpensive goods using old technology will continue to be produced offshore, and I say we are better off because of that.
Michael K. Evans is chief economist for American Economics Group, Washington, D.C., and president of the Evans Group, an economics consulting firm in Boca Raton, Fla.