Thursday, February 12, 2009

Trade Deficit Shrinks, but no Parades?

The balance of trade -- the amount of goods imported versus goods exported -- has been a tool used by those who are shallow in their economic knowledge and deep in their isolationism. We are told by many politicians that trade deficits (importing more than we export) is a "terrible" thing and an indicator of an economy in decline. As a result of decades of trade deficits, the US is a "debtor" nation, we are told.

So the headlines at CNNMoney this morning should be good news: "Trade Gap Narrows for 2nd Straight Year." This narrowing is because the amount of goods we are importing each year is declining. Yet, this "good news" accompanies headlines of the fastest and largest increase in unemployment in decades (500,000 just since the elections). There are few, if any, who would argue that this economy is anything but weak and has been in a downward spiral for about two years (about the same period for which the gap has decreased). This reality should not be a surprise to any student of history.

In 1928 Republican Herbert Hoover was running for President of the United States against Democrat Al Smith of New York. Hoover, the Secretary of Commerce under one of the most successful Presidents in US history, was running against a very popular governor. It was easy for Hoover to defend the record of the President he served, Calvin Coolidge, as virtually every indicator pointed to an administration of success.

During the 20s Republicans took a tax rate that was as high as 70 percent under their predecessor and lowered the top rate to a low of 5 percent. Coolidge opened economic trade with countries and unleashed a level of prosperity we had not seen in generations. The number of people who made six digits (a very high income in the 1920s, and still is today) quadrupled. Inflation was less than 2 percent and unemployment was at a comparable amount. They called it the "Roaring Twenties" for a reason. There was, however, one area of "weakness" following Coolidge and that was the trade deficit that exploded during his administration. This area feel under the Secretary of Commerce and Hoover was taunted by his opponent through out the race. Finally Hoover assured voters that if Smith or he were elected, there would be quotas and tariffs placed on trade. Hoover won and by the Fall of 1929, he was sticking to his guns and pursuing protectionism in the form of the Smoot-Hawley Tariff Act.

That law did exactly what it intended to do -- dramatically reduce the importation of goods. Within a few years, the US had its first trade surplus in decades and also one of the highest unemployment rates in history. The Stock Market crash that proceeded the Depression was fueled by this trade protectionism. Wall Street knew that, if we penalized imports, foreign countries would retaliate. That led to the Market crash because investors knew that the value of goods would decline as the trade markets would shrink.

The high unemployment rate was associated with the trade surplus for a very simple reason. We imported more goods than we exported because our buying power had declined dramatically. Through out our nation's history over the last century, our periods of highest prosperity were accompanied by eras of trade deficits. Meanwhile, trade surpluses accompanied economic decline. In our prosperity we were buying more.

Today, the trade deficit is shrinking because the economy is shrinking. Our national buying power is in decline. Trade deficits continue to indicate a sign of economic strength, rather than weakness.

Kevin Price is a syndicated columnist whose articles frequently appear at ChicagoSunTimes.com, Reuters.com, USAToday.com, and other national media. Kevin Price is Host of the Price of Business (M-F at 11 AM on CNN 650) and Publisher of the Houston Business Review. Hear the show live and online at PriceofBusiness.com. Visit the archive of past shows here.

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