Tuesday, November 30, 2010

Understanding The Trade Deficit and How It Can Be Fixed

To understand what a trade deficit really is, I think it best to illustrate the abstract with a concrete example. Look at the following financial transactions of a "Mr. T" (this was an actual person whose full name was not given, but from whose financial ledgers this example is drawn):
  • T exports to France a shipment of cotton valued at $200,000.  Shipping costs amounted to $80,000, and the shipment sells in France for $320,000 making a $40,000 profit.
  • T spends his $320,000 purchasing French goods which he ships back to the United States at a cost of $32,000 (bringing the total cost of the shipment to $352,000)  He is able to sell this locally for $422,400 realizing a $70,400 profit.
From the point of view of the U.S. customhouse, Mr. T exported $200,000 in goods and imported $352,000 in goods, thus concluding that the sum of his transactions resulted in a $152,000 trade deficit.  Somehow, in spite of the $110,400 profit made by T, this is a "bad thing."

Some time later, T sent another shipment of $200,000 worth of cotton to France, but the vessel carrying it sank, resulting in a loss of $200,000 for T.  From the point of view of the U.S. customhouse however, they recorded exports of $200,000 and no imports, resulting in a $200,000 trade gain.

Clearly, this example shows the way forward for us to rectify our trade deficit in very short order.  The United States should:
"...after entering entering into the custom-house her articles for exportation, cause them to be thrown into the sea.  By this course her exportations can speedily be made equal to her capital; importations will be nothing, and our gain will be, all which the ocean will have swallowed up." -- from "Sophismes Econimiques" by Frederic Bastiat
I pity the fool country which follows that course...

1 comment:

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