Chapter 2: Trade Deficit

In this chapter I would solve the trade deficit by decreeing that we can buy from abroad only for cash, not credit; ie only to the extent that we had earned the money by selling abroad. I provide a simple freely-tradeable “export credit” method of accomplishing this.

Of Book
(Copyright July 31 2006)

The US has run a persistent deficit in its trade with other nations since the 1970’s. Beginning in about 1981 the trade deficit resulted in our current accounts exchange with the rest of the world going into deficit. We have had a current accounts deficit every year since then except 1991. Post-1991, the current accounts deficit has increased every year, reaching a record $618 billion in 2004 (SATUS 2006, Table 1287) Sustaining this imbalance for this long has been possible only because the rest of the world believes that our dollars will retain their value, ie, it is putting its trust in the full faith and credit of the US government. The value of our exports, about 60% of that of our imports, amounts to a “down payment” on our foreign purchases. The rest is on credit, in effect, creating a “virtual” debt. Because of the persistent deficit in current accounts, our position as a creditor nation reversed in 1986, and we have become the world’s largest debtor nation. Between 1986 and 2004, our cumulative current accounts deficit with the rest of the world totaled about $3.5 trillion. In 2004, our cumulative real and virtual debt amounted to about 30% of Gross Domestic Product (GDP), up from around 12% in 1999.

These dollars have been recycled back to us through the sale of our assets to foreign individuals and entities, in the form of investments in US securities and properties, including Treasury Bonds. This finances our trade deficit by converting “virtual” debt into real debt, paying interest and dividends. If those investments earned only 5%, we would pay $175 billion per year, requiring us to achieve a trade surplus of $175 billion just to get even. Even more to the point, foreigners now own an increasing proportion of American businesses. Decisions affecting those companies, their employees, and the communities they do business in, are made in foreign locations, for the benefit of foreign interests. In addition, our foreign policy may be constrained in the future by the necessity to avoid offending foreign creditors.

Let me calibrate rather clearly for you the magnitude of our sales of the family jewels. In 2006, Lucent Technologies, a telecommunications company was bought by a French company, Alcatel. They called it a “merger”, but the combined company will be incorporated in France and headquartered in Paris, with 60% control in the hands of the Alcatel fraction. (If it waddles like a duck, quacks like a duck, swims like a duck, it is a duck regardless of what other euphemism you wish to use to refer to it). Lucent Technologies is the corporate home of the world-famous Bell Telephone Laboratories. Scientists at these laboratories invented the transistor, the basis for the entire solid-state-electronics revolution, including the ubiquitous personal computer and cell phone systems. We have long since sold off much of this industry, which had created enormous wealth for us, and is now doing similar wonders for the economies of Asia. Now we are selling off the goose that laid that golden egg.

If we continue with business in this mode, the day will soon be here (if it isn’t already) when the rate of the sale of our assets exceeds the rate at which we can create them Then, we will eventually not have enough assets to sell. That is, we will be bankrupt, just like the family living beyond its income on credit cards. When the cards are maxed out, take out a home equity loan, pay off the cards and repeat the whole cycle. Eventually, the family gets to the point where it can‘t remortgage the house, can barely pay the interest, and has no hope at all of paying off the principal.

We better change things before we get there, while there is still time.. In order to get out of this mess, we need first to take a minute to analyze how we got into it.

Unlike most other players in the international game, we have always been on the side of free trade. Again, that’s part of our heritage. The touchstone of the American Revolution may have been “No taxation without representation”, but the real root cause of the conflict was Britain’s hundred-year attempt to stifle and control the trade of the colonies to its own benefit. We have been determined free traders ever since. Other nations have incredible restrictions on trade. Tariffs, duties, regulations, standards, you name it, they use them all.

It is widely understood by those selling electrical products in Europe, for example, that a fundamental duty of the German VDE, the equivalent of our Underwriter’s Lab (except that it’s a government agency), is to set standards so that only German-made goods can be sold in Germany. The Japanese have an even better dodge: a homogeneous and brainwashed populace, educated to believe that everything Japanese is so superior that any foreign or Gaijin product is worthless in comparison. The only thing they will buy from abroad is that which they cannot produce themselves, and that only until they can copy it. Once the Japanese version is on the market, the demand for the foreign-made article quietly disappears. The Chinese are even more xenophobic, if that’s possible

Other nations subsidize exports and penalize imports. The Value Added Tax “VAT” used by most European nations is an ideal tool for this. It is really nothing more than a complicated sales tax, which is ultimately paid in its entirety by the final customer. All VAT tax is removed from exports, which makes the article 15-20% cheaper on the dock headed overseas than the locals can buy it in their own emporia. The citizen trying to buy an imported item in any European country of course must pay the full VAT on it. Imports subsidize exports in every country in the world except the US.

We, of course, charge the manufacturer of export goods an income tax, whether the goods are exported or not, and this tax is built into the cost of the product on the dock being shipped overseas. So the poor foreigner trying to buy our product as an import must pay our tax plus his own VAT. He has to want it pretty badly for us to make that sale.

There is a great incantation among the so-called trade experts in our Department of Commerce and our Department of State about negotiating “level playing fields”. I’m not sure what that means, other than the Japanese will let us sell all the oranges we can ship that meet their standards for color, sphericity, texture, taste, sugar content, etc., if we let them sell all the cars they can ship. They can’t grow oranges, and they love them. We could ship them rice for one tenth their local cost, but you would think from the hullabaloo that we were asking them to surrender their manhood by even thinking about it. We try to jawbone the Chinese into revaluing the yuan to make our goods cheaper there and their goods more expensive here. Why would they want to? The status quo suits them just fine, and since we no longer make many of the products we buy from them, we are pretty much stuck with the situation.

The shining example of this type of negotiation is, of course, the famous “NAFTA” agreement, which was supposed to create the world’s largest free trade zone, create vast new markets for our goods, and provide jobs to keep the Mexicans at home. Here’s how well it’s working (SATUS 2006, Table 1293) : In 2000, our merchandise trade deficit with Mexico was $24.5 billion; in 2004 it was $45 billion. Our exports to Mexico didn’t increase at all over that time span, while their exports to us went up some $20 billion. Corresponding deficit figures for Canada were $51 billion and $65 billion. All in all, I don’t think it’s been a winning hand for us. We hand the Mexicans $45 billion to keep their people at home, and they send us a million illegal immigrants a year in exchange.

So, multilateral tariff reductions, bilateral negotiations, regulatory bars to free trade, whatever, all work to favor the rest of the world, and leave us increasingly naked. Incidentally, the first thing I would do when I became Dictator would be to fire the entire US Department of State, and close down the striped-pants spawning ground, Georgetown University. Then I would hire union negotiators to staff the new Department of American International Interests. That way I would get people who knew that their job was to represent American interests to the rest of the world, not serve as the Ambassadors of the rest of the world to the US.

A big factor in our slide was, of course the energy crisis, and OPEC raising the price of oil from $4 a barrel to $16-30 a barrel., and now up to $70. Given the fact that we are importing umpty-ump million barrels a day, that has a huge impact on our balance of payments, about $187 billion in the red for 2004 (SATUS 2006, Table 1288) We did cut back for a while, in the ‘80’s but the SUV generation has kicked our current consumption to record levels. A major factor in both Gulf wars was our absolute dependence on foreign oil. If Saddam Hussein had grabbed a hammerlock on the world supply of broccoli by invading Kuwait, I doubt if we would have taken such righteous umbrage.

But there were a couple of other factors too that need to be considered about our economic fall from the pinnacle. After all, 2/3 of our $617 billion tab in 2004 was from other causes than importation of oil.

First of all, after World War II, we rebuilt the industries of the world, most especially these of our former enemies. It has gone into the record books as the ultimate generosity of a victor to the vanquished. Be that as it may, if we took away the weapons with which they were shooting at us in World War II, we gave them a good start with the weapons of World War III. For we rebuilt their plants with the newest technology at the time, better than the vast majority of our own.

That wouldn’t have been so bad, except that American business began to be run by people who had never been in a factory, by investment portfolio managers. Faced with a choice between investing in newer more modern automated manufacturing facilities, or shipping work overseas to low labor-rate areas, they chose the latter because it didn’t take any investment. Reducing cost without investment increased profit and return on investment, the Holy Grail of every portfolio manager. But even worse, when the demand for this lower-cost product increased, and automation was required, they built the automated factories over there instead of at home. Why? Because it was more profitable, that’s why! Automated facilities plus lower labor rates equals still lower costs.

This is how the electronics industry got exported overseas. It was TV set manufacturer A, trying to get a leg up on B by lowering manufacturing costs with cheap Asian labor and B retaliating by shipping overseas both the work and state-of-the-art automated printed-circuit inserting machines. It was semiconductor manufacturer C shipping first chip mounting and packaging facilities overseas to eke out an edge over manufacturer D, who retaliated by shipping the chip fabrication itself over. So, for the noblest of corporate motives, to make a bigger profit, American manufacturers shipped our know-how to their foreign subsidiaries and suppliers. For their part, these worthies learned very well, and soon began to produce higher-quality ware than the increasingly outdated facilities of their mentors were capable of. And then of course, the students discovered that they no longer needed their former masters, who had become little more than middlemen merchants. There was far more profit to be made in selling direct and cutting out the middlemen.

Much has been made in the media about the problem stemming from unionized American labor, with high labor costs and low productivity, resulting in high manufacturing costs for American made products. I fault American management for failing to recognize that our markets were the target for the entire world, for failing to invest in more modern technology, and for failing to invest in more efficient manufacturing facilities,. They managed strictly in the short term, to maximize profit in the current quarter. I shall have much more to say about the failings of American business and industry in a later chapter. For now, let us leave it that we got into the shape we are in because American business saw it as a way to make more money. They made money selling the country down the river, because there was nothing in the Constitution or the law of the land that said they shouldn’t.

In recent years, not content with shipping American manufacturing jobs overseas, we are now shipping service jobs and engineering jobs overseas. The Internet and the incredible proliferation of computer power has made it possible for nearly any knowledge task to be done anywhere. This started with the “work-at-home” concept, but because knowledge workers as well as factory workers are cheaper overseas, there has been an exponential explosion of outsourcing jobs that used to be the backbone of design and engineering, the one area where we claimed to be the best in the world. The one bright spot in our trade balance has been a positive balance in “Services” However, between 1997 and 2004, the positive balance decreased from $91 billion to $48 billion (SATUS 2006, Table 1287) a direct consequence of our outsourcing service and knowledge-based jobs to low wage areas like India.

Lenin was wrong when he said “When it is time to hang the capitalists, they will compete for the rope contract.” Capitalists are smarter than that. What he should have said is “When it is time to hang a capitalist’s grandmother, he will compete for the rope contract.” Thomas Jefferson said, “Merchants have no country. The mere spot they stand on does not constitute so strong an attachment as that from which they draw their gains.” (Familiar Quotations, John Bartlett, Little Brown & Co, 19th Edition, page 389)

This then is the key. If the unfettered application of the profit imperative got us into the mess, the unfettered application of the profit motive will get us out. We will make it unprofitable to ship American jobs overseas, and unprofitable to import goods we can perfectly well (and ought to) make for ourselves. And by my dictatorial decree, we will do it the same way the near-bankrupt family has to do it: adopt a policy that we can only buy goods and services from abroad to the extent that we have already earned the money by selling goods and services abroad. STOP BUYING ON CREDIT!!!

How can this be managed? First, designate American-owned banks subject to the Federal Reserve System as the only agencies allowed to transfer dollars out of the US to exchange for foreign currency. Require that to send a dollar out of the country, a dollar’s worth of “export credit” must be surrendered. A dollar’s worth of export credit is earned when a dollar comes into this country from abroad in exchange for goods and services. All importers would be required to be licensed, and to have two accounts in the exchanging bank: one in dollars, one in export credits. To buy goods from abroad, they would have first to surrender from their dollar accounts the amounts to be exchanged into foreign currency; second, they would have to surrender an equal amount in dollars of export credits, which are erased in the transaction.

Those companies in the export business would also have similar accounts. Foreign currency received for goods and service sold abroad would be converted to dollars and deposited in their dollar accounts; a corresponding number of export credits would be created and credited to their export credit accounts.

Those requiring export credits to do business will not, in general, be the same as those earning export credits. Therefore, establish a free market in export credits, perhaps operated by the major security exchanges, where those having excess credits may sell their surplus, at whatever premium the market may dictate, to those needing export credits for foreign purchases. Factoring organizations could serve as brokers for small businesses and individuals to facilitate their transactions.

This change is not directed at any one trading partner. There is no requirement for accounts with any individual foreign country to be in balance, and a dollar of export credit will be the same, no matter where it is earned. It will not be necessary to negotiate “level playing fields” with any foreign power or potentate. The system will be self-leveling, and is not in any way a retreat from free trade. It is merely paying the full cost of imported goods and services up front, instead of putting 40% of the cost on credit. In fact, this change should be accompanied by unilateral removal of all customs duties and tariffs, as well as a withdrawal from the World Trade Association, elimination of the “Most Favored Nation” nonsense, and abrogation of all foreign trade agreements. Our borders will be completely open to foreign goods and services; the only difference is, we have to pay for them in cash on the barrelhead. The customs function will be reduced to verifying that incoming goods are accompanied by an invoice stamped “Paid in Full”, and to receiving the importer’s certification that all goods have been produced in compliance with US environmental and labor laws. False representation would result in automatic loss of the importer’s license, and confiscation of his export credits.

Dollars received from abroad for investment would be treated separately, as “Investment Credits”, rather than creating export credits. Income and capital gains traceable to specific investment credits can be repatriated at any time without surrendering export credits, subject to payment of the usual income and capital gains taxes. Repatriation of the original investment would require surrender of the corresponding investment credits.

US citizens traveling abroad would not be permitted to carry US currency, and would be required to surrender export credits to convert US dollars to foreign currency. Expenses charged abroad to credit cards would be allowed only to the extent of pre-purchased export credits. Foreigners visiting the United States would would not be permitted to bring foreign currency into the country, but would receive export credits upon conversion of their foreign currency to dollars. They would be free to sell those export credits for dollars in the open market, thus reducing the cost of their travel in the US. Payment of their credit card expenses, upon conversion to dollars, would also earn salable export credits, amounting to a discount in dollars of their expenditures, further reducing the cost of their travel in the US.

Initially, since the dollar value of our exports is presently only some 60% of the value of our imports, there will not be enough export credits to cover all the costs of imports. Export credits will command a premium price on the open market, perhaps more than a dollar per dollar of credit. This will have the effect of more than doubling the cost of imported goods, as well as doubling the cost of services purchased from abroad by “off-shored” American jobs. Similarly, companies who are strong in the export business, and have a large surplus of export credits to sell, will earn a substantial premium to the value of the goods they have sold abroad. This will make US goods much more competitive in foreign markets and increase our export sales. Either the goods can be sold at a correspondingly lower price, or more features and better quality can be sold for the same price. The increased cost of imports will bring American manufacturing and service jobs back home; exports will be increased substantially by the subsidy they receive from sale of export credits. Eventually, when our balance of trade has shifted to approximate equality of exports and imports, export credits will be widely available, at a cost of no more than a few pennies on the dollar. The subsidies and surcharges will effectively disappear,

It will no doubt be argued that this will drastically increase our cost of living and result in tremendous inflation. Without question, it will initially result in a reduced standard of living, because we will be required for the first time to pay the full cost of our imports, rather than putting 40% of the cost on credit. The same thing happens to a family who has had to undergo the painful experience of cutting up its credit cards, and has been forced to live within its income. The inflationary effect on our economy and the deflationary effect on foreign economies will be ameliorated by a phased introduction over, say, five years. In the first year, export credits equal to 65% of the dollars sent abroad would be required. The second year, the fraction would increase to 75%; the third year 85%; the fourth year 95%, the final year 100%. Thus, there will be ample time for closed-down manufacturing facilities in the US to be reactivated to manufacture goods no longer worth-while to purchase as imports, as well as to ramp up exports to take advantage of increased foreign markets. There will also be time for foreign suppliers to reduce production to accommodate their reduced sales to the US. In full operation of the system, with imports and exports in balance and the cost of export credits being minimal, there will be little or no subsidy to exports or cost penalty to imports; US manufacturers will still have to be cost-competitive against the rest of the world, both for exports and to defend home markets against imports.

A final point deals with the Homeland Security aspects of the importation of foreign goods, which can basically be summarized as non-existent at present. We currently inspect no more that 5% of foreign goods entering the country, leaving a giant hole that terrorists can use to attack us. The stated reason for this head-in-the-sand posture is that it would cost the government (and the taxpayers) too much to provide the number of inspectors and the equipment needed to do the job 100% without unacceptable delays. However, consider that if there were no foreign goods imported there would be no security concerns and nothing to inspect. The cost of proper inspection is therefore a part of the cost of importing goods, and should be allocated to the goods themselves. They have been receiving an unintended subsidy that makes their prices in the US less than they should be. I will discuss in the next chapter how I will use a much expanded military to provide personnel, and build the necessary facilities to accomplish prompt 100% inspection of all goods entering the country through whatever channel, and charge the importers of said goods for the cost of the inspection. A useful byproduct of 100% inspection of incoming goods will be the ability to find other forms of contraband, such as illegal drugs.

To summarize, the prices of foreign goods entering this country have been artificially reduced below their real costs to the nation, both by our buying them on credit and by our failure to inspect them adequately. Therefore, they have had an unfair competitive advantage in our market over US-made goods. The proposals herein, if adopted, would rectify these problems and result not only in drastically reducing our current accounts deficit, but also in bringing many American jobs back Stateside where they belong.

I think you may be able to see now why I have to tame the Federal deficit before I tackle the trade deficit. Some $2.2 trillion of Treasury securities are held in foreign hands. (Federal Reserve Board, Reported at www.ustreas.govtic/mfh.txt) Japan has $673 billion, and China holds $265 billion. When we stop flooding their economies with our trade deficit dollars, not only will they discontinue buying any more, they will have to sell of some of their hoard to finance their continuing economic expansion. Besides, they can make a virtue of this necessity, “punishing” us for our temerity in overturning their gravy train. Other countries may well do the same. The sheer volume of this selling pressure will mean that they will have to sell at a discount, raising the effective interest rate; If we had to sell new bonds into the face of this blizzard of old paper, the interest rate we would have to pay would be astronomical, and cause even more severe upset to our economy.

Another effect of our putting ourselves on a cash basis is that the value of the dollar will rise against other currencies. This will not affect the rebalancing of our trade, because what we buy in dollar equivalents is going to be equal to what we sell. We may sell fewer units of products, and may buy more units, but dollars in and dollars out will be forced to be in balance. A side benefit to us is that such currency revaluation will make our assets more expensive to foreigners, and reduce the sales of our family jewels.

More sinister is the fact that some countries may try to saddle our products with tariffs to try to gain advantage over other countries in trading with us. If, say, France loads a tariff on us while other nations did not, a smaller proportion of our total exports would be to France, and they might retain a positive trade balance with us even though our total balance with the world was neutral.

I would not hesitate to consider such a step to be an act of economic war. I would retaliate immediately by embargoing all products from such a country. They would not be allowed to sell so much as a slice of bread in this country until they removed their tariffs. If this did not work, I would bar all persons carrying that nation’s passports from entering this country, and expelling all of their diplomatic personnel. If they still did not see the futility of their position, I would seize all their assets in this country and use them to pay the tariff for the exporters.

If all other countries were truly rational, they would do exactly what we have done, and put their trade on a cash basis. This would be a good thing, because it would eventually force all trade between all nations to be in balance, with no country getting rich at the expense of another. Thus all trade would be free, and work to the benefit of both parties.

2 Responses to “CHAPTER 2 OF BOOK”

  1. Beercan Says:

    * Lots of statistics. Figures, or at least a table as in Chapter 1, might help emphasize the problem.
    * At present, the US is the largest consumer nation in the world. What will be the effect globally of reducing US demand for foreign goods by doubling the cost of imported goods? In other words, does it benefit the US if the Chinese and Indian economies collapse?

  2. Peleaceacetle Says:

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