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The Damage Deepens

by PETER MORICI

Today, the Commerce Department reported the second quarter current account deficit was $183.1 billion. This was caused largely by a $216.3 billion deficit on trade in goods.

The current account is the broadest measure of the U.S. trade balance. In addition to trade in goods and services, it includes income received from U.S. investments abroad less payments to foreigners on their investments in the United States.

At about five percent of GDP, the huge current account deficit indicates Americans continue to consumer much more than they produce, borrow too much from the rest of the world

The current account deficit is nearly entirely caused by the huge deficit on trade in goods. In turn, the goods deficit is caused by a combination of an overvalued dollar against the Chinese yuan, a dysfunctional national energy policy that increases U.S. dependence on foreign oil, and the competitive woes of the three domestic automakers. Together, the trade deficit with China and on petroleum and automotive products account for about deficit 90 percent of the deficit on trade in goods.

To finance the current account deficit, Americans are borrowing and selling assets at a pace of $600 billion a year. U.S. foreign debt exceeds $6.5 trillion, and the debt service comes to about $2,000 a year for every working American.

The current account deficit imposes a significant tax on GDP growth by moving workers from export and import-competing industries to other sectors of the economy. This reduces labor productivity, research and development (R&D) spending, and important investments in human capital. In 2007 the trade deficit is slicing off $300 to 500 billion off GDP, and longer term, it reduces potential annual GDP growth to 3 percent from 4 percent.

Each dollar spent on imports that is not matched by a dollar of exports reduces domestic demand and employment, and shifts workers into activities where productivity is lower. Productivity is at least 50 percent higher in industries that export and compete with imports, and reducing the trade deficit and moving workers into these industries would increase GDP.

Were the trade deficit cut in half, the movement of workers and capital into more productive export and import-competing industries would increase by at least $300 billion or more than $2000 for every working American. Workers’ wages would not be lagging inflation, and ordinary working Americans would more easily find jobs paying higher wages and offering decent benefits.

Manufacturers are particularly hard hit by this subsidized competition. Through recession and recovery, the manufacturing sector has lost 3.9 million jobs since 2000. Following the pattern of past economic recoveries, the manufacturing sector should have regained about 2 million of those jobs, especially given the very strong productivity growth accomplished in durable goods and throughout manufacturing.

Longer-term, persistent U.S. trade deficits are a substantial drag on productivity growth. U.S. import-competing and export industries spend three-times the national average on industrial R&D, and encourage more investments in skills and education than other sectors of the economy. By shifting employment away from trade-competing industries, the trade deficit reduces U.S. investments in new methods and products, and skilled labor.

Cutting the trade deficit in half would boost U.S. GDP growth by one percentage point a year, and the trade deficits of the last two decades have reduced U.S. growth by one percentage point a year.

Lost growth is cumulative. Thanks to the record trade deficits accumulated over the last 10 years, the U.S. economy is about $1.5 trillion smaller. This comes to about $10000 per worker.

Had the Administration and the Congress acted responsibly to reduce the deficit, American workers would be much better off, tax revenues would be much larger, and the federal deficit could be eliminated without cutting spending.

The damage grows larger each month, as the Bush Administration and Congress dally and ignore the corrosive consequences of the trade deficit.

 

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PETER MORICI is a professor at the Smith School of Business, University of Maryland School, and the former Chief Economist at the U.S. International Trade Commission.

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