photo: Gage Skidmore
Introduction. President Trump is not sure what he wants when it comes to America’s global economic strategy. On the one hand, he has been heavily involved with international trade and finance as a businessman and he hired lots of Goldman Sachs international financiers for his administration. On the other hand, he rallies his populist base by telling them he wants protectionism in order to “make America great again.”
Not surprisingly, White House infighting is heating up between the globalization ideas of Gary Cohn, who now runs the longstanding National Economic Council, and the economic nationalism of Peter Navarro who runs the upstart National Trade Council. How these mixed signals sort themselves out will have a major impact on the global economy.
Admittedly, the nationalistic “Make America Great Again” slogan played well in the rust belt during Donald Trump’s campaign for the presidency. George Will says Trump now wants to “make America 1953,” a time when zero-sum game economic nationalists say America was “great” because it was “winning” global manufacturing with a 30% market share.
But thankfully George Marshall, Secretary of State under President Truman, was a statesman and had bigger things in mind — like internalizing the lesson learned from the punitive Treaty of Versailles which ended World War I and led to the rise of a vindictive Adolph Hitler and World War II. America needs to be magnanimous in victory.
With this in mind, George Marshall wisely created the Marshall Plan, which helped Germany rebuild its manufacturing base after World War II. His implicit vision was “no (vindictive) victor,” and no vanquished loser. Instead of keeping Germany defeated and in ashes, America was magnanimous and wisely shared the global manufacturing pie. This economic interdependence happily turned into shared prosperity. It also turned a previous enemy into a friend and created a responsible stakeholder – not a bad way to keep the peace in Europe for 70 years.
But for economic nationalists, that’s not enough. They want to “bring back American jobs.” The problem is there is mostly nowhere to bring manufacturing jobs back from. The lion share of US manufacturing jobs were lost to technology, not trade. A Ball State University study notes that out of the 5.6 million US manufacturing jobs lost between 2000 and 2010, productivity improvements accounted for over 85% of U.S. job losses.
Gary Cohn’s experience as President and Chief Operating Officer at Goldman Sachs undoubtedly taught him over the years all about the changing nature of global manufacturing. Perhaps Dr. Victor Fung puts it best. “In the old days, manufacturing a product was done in-house – in one factory, under one roof, and in one country – before a product was exported and sold in another country.”
Not anymore. Production is now dispersed across different factories in different countries and thus globalized. Economic nationalists dislike all of this. But actually, allowing different countries to perform different tasks is a good thing. This inclusive economic democracy fosters international peace and stability by giving more countries a stake in the global economy.
In this regard, Wharton Professor Ann Harrison notes that a lot of what the US exports is dependent on a global supply chain that uses intermediate components produced cheaply elsewhere. In fact, over 60% of U.S. imports are these international components that go into U.S. products. U.S. businesses import these components to lower costs for U.S. production and U.S. exports.
So if President Trump is true to his word and decides to put large tariffs on these intermediate components coming into the U.S. from Mexico and China, he would make things worse. He would needlessly overprice U.S. manufacturing exports and therefore make them less competitive. As a result, America would lose exports and export related jobs.
How do changes in supply chain management affect the contentious U.S. trade deficit with China? With globalization and the dispersion of production, China started to do the final assembly of goods that America previously imported from companies based in Japan, South Korea and Taiwan. As the final leg of the supply chain shifted to China, U.S. imports from China rose as the United States imported less from the rest of Asia.
That said, U.S. and Chinese goods are often in different market segments — they therefore do not always compete head to head. So when the RMB rises, the United States simply imports less from China and more from other, higher-priced Asian producers — not from producers in the United States. Not only is the result no net increase in U.S. jobs, but it also means higher prices at Walmart for struggling U.S. consumers.
Unfortunately, none of this softens complaints from President Trump about the U.S. trade deficit with China which hit a record high of about $365 billion in 2015 and almost as high ($347 billion) in 2016. . Why is this happening? President Trump blames China and accuses it of “manipulating” its foreign exchange rate. But if China wanted such a low foreign exchange rate to underprice US exports, why did its foreign exchange rate rise so much against the US dollar between 2010 and 2014?
Admittedly, China’s foreign exchange rate fell 6% against the U.S. dollar in 2016. But that’s because of capital flight rather than China manipulating its currency to make its exports cheaper on the world market. China’s central bank has been depleting its foreign reserves numerous times in order to keep its foreign exchange rate from falling even further. In the process, Yao Yang of the Financial Times notes that Beijing has lost about $1 trillion in foreign reserves while trying to strengthen the value of the RMB the past 18 months. In fact, at the end of October 2016 China’s central bank’s foreigners reserves hit their lowest level since March of 2011.
So what is the real reason why America runs such high trade deficit? It’s basically because America is running a large deficit in national savings. Yale Professor Stephen Roach notes that the U.S. must import its savings from countries like China, Germany and Japan, which have large surpluses in savings, because America lives beyond its means by consuming way too much, thus leaving it with a large deficit in savings. As long as the U.S. maintains its large savings deficit, eliminating a trade deficit with China simply turns into a larger trade deficit with other U.S. trading partners.
In this regard, President Trump’s own domestic economic policies will likely widen the U.S. trade imbalance. President Trump plans to run a loose fiscal policy that promises to generate rising budget deficits. The Fed has already said it will offset this loose fiscal policy with higher interest rates, which in turn will likely strengthen the US dollar and increase the cost of US exports. More expensive exports will thus worsen the overall U.S. trade deficit. It will also lead to rising unemployment in U.S. export industries.
President Harry Truman once said that “the only thing new in the world is the history you don’t know.” And if we look at the past we learn that protectionism is a bad idea. After the 1930 Smoot-Hawley Act’s high tariffs took effect, President Herbert Hoover achieved the glorious trade surplus that Donald Trump calls “winning,” But shrinking the gains from trade by making the global economic pie smaller also produced a U.S. unemployment rate of 25%—and the Great Depression.
More recently, Greg Ip from the Wall Street Journal reminds us what happened when US President Jimmy Carter tried to protect U.S. manufacturers by restricting imports of Japanese televisions. Imports from South Korea and Taiwan increased. When those were restricted, manufacturers in Mexico and Singapore benefited.
Similarly, President Obama took credit for protecting over a thousand US jobs after there was a surge in Chinese tires in 2012. But this government interventionism cost $900,000 per job, paid by American purchasers of now higher-priced vehicles and tires. Imports of low-end tires from Thailand, Indonesia, Mexico and elsewhere largely replaced Chinese imports.
To make matters worse, the Peterson Institute says that this money needlessly taken out of the wallets of struggling US consumers had other negative consequences. It reduced their spending on other retail goods, which in turn brought the net job loss from the so-called job-saving tire tariffs to about 2,500. To add insult to injury, China retaliated with duties on U.S. chicken parts, costing this U.S. industry (which had done nothing wrong) $1 billion in sales.
It also makes no sense for Trump to raise tariffs on imports and force American businesses and consumers to pay more and have less freedom to choose. Foreign competition keeps prices affordable for consumers and increases the quality of U.S. made goods.
In addition, Donald Trump often refers to US free trade deals as disasters for America. Guess again. Lower taxes on imports from free trade deals save the average U.S. household about $10,000 a year, according to the Peterson Institute for International Economics. And over the past five years the U.S. and its free-trade partners have run a trade surplus for manufactured goods of about $230 billion, according to the US Commerce Department. Robert Zoellick notes that in the first five years after the U.S. has concluded free-trade deals, U.S. exports have increased 3 times as rapidly as overall export growth. In addition, Zoellick says America’s farmers and ranchers boosted their exports to free-trade partners by $56 billion or 130% between 2003 and 2013. And now one of every three acres of crops planted in America is for export.
US businesses have also benefitted from large U.S. investments in China. Over the years, American and other foreign companies have dominated China’s high-tech and industrial exports. Profits for these products are thus not China’s alone. In the past, China has only retained $4 out of the $300 final price for the iPods Apple produced in China. U.S. corporations benefit by recycling their profits back into the United States and other foreign companies. U.S. consumers benefit by getting lower prices, higher quality and greater variety.
In addition, protectionism also hurts poor people. Douglas Irwin from Dartmouth College notes that it is unfair to sharply increase the price of clothing for 45 million poor Americans just to save jobs in the over-priced US textile industry. Internationally, the UN notes that free trade has cut the extreme global poverty rate in half since 1990. If protectionism spreads it would reverse this decline in global poverty and would therefore provide fertile ground for an even greater rise in violent extremism.
This paper made the case for why the logic of shared prosperity not only out-weighs the ill-advised ideas of economic nationalism and trade protectionism, but it also promotes share security. In addition, the paper explained why there is mostly nowhere overseas to bring manufacturing jobs back from. That’s because the lion share of manufacturing jobs were lost to technology, not trade. It also explained that dispersion of global manufacturing among many countries promotes an inclusive economic democracy which in turn fosters even more peace and stability. In addition, the paper explained why the high U.S. trade deficit is not because China is manipulating its exchange rate to get cheaper exports. The real reason America is running a large trade deficit is macroeconomic in nature. America is running a large savings deficit because it is consuming way too much. Therefore, eliminating 100% of China’s trade surplus would simply turn into a larger trade deficit with other U.S. trading partners. We’ve seen how U.S. attempts at trade protectionism in the past have only made things worse. Finally, we learned that free trade has dramatically reduced global poverty. If protectionism spreads, get ready for a rise in global poverty, which in turn is fertile ground for an even greater rise in violent extremism.
Dr. Leif Rosenberger was the Chief Economist at CENTCOM and PACOM and Professor of Economics at the U.S. Army War College for three decades