Trump’s trade policy is an absolute disaster. Even with legendary free trader Larry Kudlow directing the NEC, the President continues to rattle financial markets on a near daily basis with the unprecedented stupidity of his policy ideas and the mortifying dread that he’ll eventually get his way.
Early this morning, he tweeted:
We are not in a trade war with China, that war was lost many years ago by the foolish, or incompetent, people who represented the U.S. Now we have a Trade Deficit of $500 Billion a year, with Intellectual Property Theft of another $300 Billion. We cannot let this continue!
— Donald J. Trump (@realDonaldTrump) April 4, 2018
The Dow was down 450 points when it opened an hour and a half later.
We could dig into the weeds in why this is so wrongheaded, but the commentariat has that covered. Matt Yglesias is particularly good, both witty and informative as ever.
What’s more interesting is to think about what it would take for Trump to be right. The looniest of notions invariably offer a nugget of tractable – though often fractured – reason, for those willing to dig deep enough. Luckily, however, this is well tilled-ground.
From John Maynard Keynes’s Opus
For some two hundred years both economic theorists and practical men did not doubt that there is a peculiar advantage to a country in a favourable balance of trade, and grave danger in an unfavourable balance, particularly if it results in an efflux of the precious metals. But for the past one hundred years there has been a remarkable divergence of opinion….
It will be convenient, in accordance with tradition, to designate the older opinion as mercantilism and the newer as free trade…
Generally speaking, modern economists have maintained not merely that there is, as a rule, a balance of gain from the international division of labour sufficient to outweigh such advantages as mercantilist practice can fairly claim, but that the mercantilist argument is based, from start to finish, on an intellectual confusion.
Yet, Keynes goes on
Let me first state in my own terms what now seems to me to be the element of scientific truth in mercantilist doctrine. We will then compare this with the actual arguments of the mercantilists. It should be understood that the advantages claimed are avowedly national advantages and are unlikely to benefit the world as a whole.
Whaoh, that is almost precisely Trumpism. Trade is good. Trade surpluses are better. But, only for the country running them.
What, pray tell, are we to make of this? I tend to cast the issue in terms of monetary policy, and by those lights the crucial clue comes in the first sentence:
[there is] grave danger in an unfavourable balance, particularly if it results in an efflux of the precious metals
Metals are after money and an efflux means fewer of them. You may already see where I’m going. First, however, its worth taking in Keyenes’s take which, I suspect, is more easily digested, if less direct, than my purely monetary exposition:
When a country is growing in wealth somewhat rapidly, the further progress of this happy state of affairs is liable to be interrupted, in conditions of laissez-faire, by the insufficiency of the inducements to new investment. Given the social and political environment and the national characteristics which determine the propensity to consume, the well-being of a progressive state essentially depends, for the reasons we have already explained, on the sufficiency of such inducements. They may be found either in home investment or in foreign investment (including in the latter the accumulation of the precious metals), which, between them, make up aggregate investment. In conditions in which the quantity of aggregate investment is determined by the profit motive alone, the opportunities for home investment will be governed, in the long run, by the domestic rate of interest; whilst the volume of foreign investment is necessarily determined by the size of the favourable balance of trade. Thus, in a society where there is no question of direct investment under the aegis of public authority, the economic objects, with which it is reasonable for the government to be preoccupied, are the domestic rate of interest and the balance of foreign trade.
At a time when the authorities had no direct control over the domestic rate of interest or the other inducements to home investment, measures to increase the favourable balance of trade were the only direct means at their disposal for increasing foreign investment; and, at the same time, the effect of a favourable balance of trade on the influx of the precious metals was their only indirect means of reducing the domestic rate of interest and so increasing the inducement to home investment.
In short, periods of high investment are what we know as booms. Periods of low investment are what we know of as recessions. In an absolute lassiez-faire economy the only systematic lever on investment is the balance of trade. Sensible people, therefore, are highly keen on seeing a sustained and preferably growing trade surplus and deathly afraid of a trade deficit.
Why are things different now? Because our economy isn’t even close to laissez-faire. There are many ways in which this is true and most of them have a direct bearing on the economics of trade balances. The most powerful though, is that the U.S. has a fiat currency.
In the past, the money supply is most countries was determined by the flow of gold, silver, or some other precious commodity. Trade was settled in that commodity and so surplus’s meant inflows of the precious commodity that were the equivalent of expansionary monetary policy. Trade deficits meant outflows of the precious commodity and were the equivalent of contractionary monetary policy.
Now, however, we have a technology known as the printing press which allows us to produce virtually unlimited quantities of money at no cost. When we buy goods from China we do indeed send them dollars in return and they often keep those dollars as reserves. This contracts the U.S. money supply, but it’s no problem, because the Federal Reserve prints more dollars to make up the difference. Indeed, because of the way the Fed currently implements monetary policy, there is always a huge pile of surplus dollars ready in case any event – like, say, a financial crisis – sucks money out of the economy.