Academic journal article AEI Paper & Studies

The Art of the Trade Deal: Priorities for Policy

Academic journal article AEI Paper & Studies

The Art of the Trade Deal: Priorities for Policy

Article excerpt

Key Points

* The language of the Trump campaign indicates possible major changes in American trade policy. These changes should not focus on eliminating or drastically reducing the trade deficit, as the evidence shows this is unlikely to create jobs.

* Our biggest trade relationship, with China, has multiple problems. Currency manipulation wins attention but may be an outdated concern. Right now, Chinese subsidies are blocking American exports and China is stealing intellectual property. The US should strongly consider retaliation in these areas.

* Both Americans who benefit from trade and US trade partners would be immensely reassured if the restrictions the Trump administration finds necessary are coupled with steps to encourage more trade. An example is seeking a free trade agreement with the United Kingdom.

Only a few people know what President-elect Donald Trump truly wants to do about trade. For the rest of us, constant conjecture about the grand vision is much less valuable than evaluating specific policies. These policies must fit at least to some extent with what the president-elect and his staff said during the campaign. Fortunately, the campaign offered plenty of trade material to work with.

The following recommendations may or may not match the Trump administration's eventual views, but they should be close enough to be worth consideration:

(1) Do not try to zero out the trade deficit. It will not create jobs. (2)

(2) Focusing on China makes more sense than focusing on NAFTA. Regarding China, currency manipulation may not matter while subsidies and theft of trade secrets definitely matter.

(3) It would reassure Americans and American trade partners if positive steps accompanied new barriers. A free trade deal with Britain, for example, has many advantages.

(4) There are also unilateral actions that would make any trade policy better. These range from compiling information on trade cheaters to streamlining corporate taxes.

The Trade Deficit

The rhetoric of the Trump campaign suggests that the net effect of planned changes in US policy will be to limit trade rather than expand it. But this general observation obscures a wide variety of possibilities. The primary issue--more important than the North American Free Trade Agreement (NAFTA), more important than 45 percent tariffs on China--is how to treat the trade deficit.

On trade, the Trump campaign website approvingly quoted the Economic Policy Institute, which makes conventional protectionist arguments in sync with those of organized labor. (1) The arguments depend almost entirely on the idea that a trade deficit automatically means lost jobs. This is simply wrong.

The well-known history is that the US fell into the Great Depression, imposed tariffs in 1930, and ran large trade surpluses from 1929 to 1935 and 1937 to 1941. (2) Neither the tariffs nor the large trade surpluses helped the economy, quite the opposite. While that was 75 years ago, some things have not changed: in 2009, the economy crashed and the trade deficit crashed with it. Trade became more balanced, but unemployment soared. The explanation is that, when Americans are poorer, they buy fewer foreign imports. Lower imports are not a sign of success.

This pattern extends well beyond 1930 and 2009. There is no statistical relationship between the trade deficit and unemployment from 1975 to 2015, no evidence that the trade deficit means lost jobs over the most recent 40 years (Figure 1). (3) This applies to the raw trade deficit figure and the deficit as a percentage of gross domestic product (GDP), and it applies to trade and employment measures during the same year and to trade one year and employment the next. (4)

Because organized labor and others cannot link the trade deficit to jobs, they link the trade deficit to GDP. (5) There is nothing at all magical about GDP; it is an accounting tool. …

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