Donald Trump is famously hostile to US trade deficits. He believes not only that these deficits harm the US economy, but also that they are clear evidence of foreigners’ economic mistreatment of Americans. Almost as famously, economists disagree with Mr. Trump. Responding to his countless complaints about trade deficits, economists have spilled oceans of ink — including at AIER — to explain that US trade deficits are not the problem that Mr. Trump believes them to be.
Yet despite economists repeatedly offering empirical evidence showing that trade deficits do not negatively affect employment, wages, economic growth, or any other measure of economic performance, Mr. Trump’s determination to end trade deficits is unshaken — and polls show that a majority of the public shares his concern with these deficits. This attitude is unfortunate, as the problem with the president’s war on trade deficits goes beyond its inconsistency with the empirical record; the problem includes its inconsistency with some of his own policy aspirations.
Earlier this month, Mr. Trump again emphasized his desire that the US dollar maintain its status as the global reserve currency. In addition, the White House boasts about the many additional investments that his policies are prompting multinational corporations to make in America. As a simple matter of economic logic, however, if foreign governments, firms, and private citizens continue to rely on US dollars as reserves, as well as if foreigners increase their investments in the US, Mr. Trump’s goal of eliminating US trade deficits becomes impossible to achieve.
Any dollars that foreigners hold as reserves, use to conduct international commercial transactions amongst themselves, or invest in America are unavailable to be spent on American exports. These uses of dollars thus result in US trade deficits. And the more intense are foreigners’ demands for dollars as reserves or to invest in America, the larger are these trade deficits.
It’s disturbing that the president is unaware of this necessary connection between US trade deficits and foreigners’ demand for dollars as a reserve currency or as an investment vehicle. He doesn’t realize that if US trade deficits are to be eliminated, foreigners must be persuaded, period after period, to spend on American exports all of the dollars that Americans send abroad as payment for US imports. Only then will the value of our exports equal the value of our imports. But the elimination of US trade deficits, by preventing all uses for dollars other than to purchase American exports, would also end the dollar’s run as a reserve currency, as well as reduce global investment in the American economy.
In short, Mr. Trump wants the impossible — namely, for foreigners simultaneously to use dollars for investment purposes, which include using them as a reserve currency, and to spend those very same dollars buying US exports. It can’t be done.
Mr. Trump might respond that he wants only the dollars currently serving as global reserves to continue to be used in that capacity. It’s only moving forward that he wants us Americans to export at least as much as we import. Were this to happen, it appears that US trade deficits would vanish while the dollars currently used abroad as reserves would remain in that role.
But this appearance is a mirage. US trade deficits will disappear only if America’s attractiveness as a destination for global investment funds falls relative to the attractiveness of other countries. If such a fall large enough to eliminate trade deficits were to occur, the dollar would not long remain in use as a reserve currency. For decades, non-Americans have eagerly used many of their dollars for purposes other than buying American exports. This eagerness is the consequence of the US economy being unusually entrepreneurial, dynamic, open, and stable. It’s an economy with abundant investment prospects and strong international trade ties. Because the only way to eliminate US trade deficits is to eliminate these unusually attractive features of America’s economy, eliminating US trade deficits would also eliminate foreigners’ demands to hold dollars as reserves.
The president is wise to want the dollar to continue to serve as the world’s reserve currency. He’s wise also to welcome foreign investment in America, although that investment should be what comes naturally on the market rather than what’s artificially ginned up by tariffs. But he’s unwise in failing to see that these desires are fundamentally incompatible with his longing to rid America of trade deficits. And trade policy that rests, as his now does, on such a fundamental inconsistency is destined to severely damage the American economy.
Mr. Trump should end his trade war, welcome US trade deficits, and bask in the dollar’s ongoing role as the global reserve currency.