Tobold's Blog
Friday, July 07, 2017
Zero sum game

Usually The Economist magazine has a thoughtful view on economic issues. So I am somewhat surprised seeing this week's cover agreeing with Trump that trade deficits are bad, and that fault for the US trade deficit is countries like China or Germany who have a trade surplus. For me that seems to be very much contrary to very basic mathematical principles.

You see, trade deficits and surpluses are a true zero sum game. If you list all trade deficits and surpluses of all countries in the world and sum them up, you get exactly zero, because every export of one country corresponds to an import of another country. And because it is a zero sum game, there is no possibility of having any global trade policy in which every country has a trade surplus. A trade surplus can't exist without a trade deficit and vice versa.

The US has a trade deficit because it consumes more than it produces. If the US targets any single country with a trade surplus to reduce trade with that country, the trade deficit of the US won't change. As long as the US consumes more than it produces, it will simply import goods from somewhere else. A tariff could get US consumers to buy less German cars, but it is hard to imagine that a lower availability of German cars would lead to US consumers buying less cars overall. The solution to a trade deficit is not tariffs on trade surplus countries, but economic conditions that favor more production. If the US would produce more cars, they would need to import less of them, problem solved (for that particular item).

Of course the surplus countries like China or Germany could spend more. For example they could raise wages. As a consequence the production of a German car would cost more, and the price would further go up because more Germans would buy German cars. The result is the same as a tariff: German cars would become more expensive on the US market, and US consumers would buy less of them. But then they would simply buy more Korean and Japanese cars. Other than shifting the blame on a different country, that resolves exactly nothing.

And then there is the tricky problem of foreign direct investment, one country investing in another country, thus creating jobs. The thing is that this is directly related to trade surpluses and deficits: If Germany sells cars to the USA, German exporters end up with lots of dollars. These dollars need in one way or another get back into the USA. It is another zero sum game, a country can't have a lot of foreign direct investment and no trade deficit. Hit the countries that have a trade surplus with tariffs, and you end up getting less factories built in your country by foreigners, and less jobs created. A nationalist might say that a factory built by foreigners in your country is bad, but for the people living next to it a factory built by foreigners sure is better than no factory built at all and unemployment.

In short, the only solution that makes mathematically any sense to reducing trade deficits is for the deficit countries to produce more. That automatically makes the trade surpluses of other countries disappear. The best possible solution you can possible arrive at is every single country being perfectly balanced and having neither a trade deficit nor surplus. It is hard to imagine how one could possibly arrive there with only one side of the trade balance changing.

I overall agree with your analysis.

Just a small mistake in your reasoning : if the US citizen buy less from Germany, that does not mean they will buy from other country : this could stimulate the internal demand, and grow the internal industry.
The issue is that if customer are buying the German one, it is because they think it is cheaper/better. Increasing the cost for those product will only make the US citizen poorer.

Even if trade deficits are harmless on a macro scale, economics are not frictionless. There will be winners and losers in a given country as a consequence of trade deficits and how they are balanced out.

It's like immigration. However hard one wants to push for or against it, the truth is that it helps some people and hurts others.

A doctrinaire libertarian will argue that all the sins of any such matter are down to regulation, and pure unregulated free trade will automatically solve all ills. But nobody actually believes that.
There are at least a couple of points I don't agree with... at all.

"The solution to a trade deficit is not tariffs on trade surplus countries, but economic conditions that favor more production".

Which may simply not be possible. Production requires raw materials and energy. Even if you limit it to the service sector (which, BTW, it's not really "production"), your idea of "if trade deficit < 0 then produce more" sounds like a fast-forward to environment destruction.

There's also a second point: in order to produce more you need a market: if you produce more and nobody buys your goods, this has no effect on the trade deficit.
Of course the solution is to produce for cheaper, so that you can undercut someone else. This leads to a run-to-the-bottom approach, i.e. pay workers as little as possible, because after all to level your trade deficit you must EXPORT and not just improve the local economy.

The error is that you're using a physics/mathematics approach to model a system which is NOT physical or mathematical. The economy is not a system with fixed laws like a physical system, it's an optimization process: you define your priorities (= politics), and economy moves toward the "optimal" point. The current economy moves towards massive inequality because this is what's politics is requesting..... it's a feature not a bug :)

That is a very bad solution because it means that every country has to adjust to the worker rights and the environmental protection law of the country where they are the weakest.

The solution would be to add in import tax on every good which makes up the difference of these things. You import a phone from china where the worker is paid shit and the waste is dumped into a river? Charge them for that.
The flaw in that reasoning is that Germany has stronger worker rights and environmental protection laws than the USA.
Germany also has a steady influx of immigrants willing to work for smaller wages. And I'm not just talking about uneducated workers coming from the Middle East, but highly specialized workers coming from within Europe (i.e. the South and the East). Plus you also seem to believe that there are no illegal workers fueling the economy. BMW may not be able to get away with dumping waste into a river, but they can get away with other things within certain 'legal windows', make no mistake.

Helistar made a lot of good points, and it's why proposing import taxes for a case such as the United States will work: because they have the infrastructure to push for a surplus, as long as the US market is not cornered by outside forces. Initially the US consumers relying on cheap products may take a hit, but longterm it is in their benefit to buy cheap shit made domestically rather than cheaper shit made in China. And with time, their exports will grow as well, as they refine their products (like China did).
Running a deficit should devalue a currency (you have a demand for foreign currency to buy stuff and the supply of your currency on the global market goes up), helping to decrease the cost of local good and services relative to the overseas market. However, if the exporting country runs a surplus they prevent exchange equilibrium by stockpiling your currency. In the short term this is not an issue (Short term stability trumps holding markets in equilibrium), but running a long term surplus will inhibit overseas competitiveness.

The populist fix is to make the country running a surplus less efficient by adding tariffs and restrictive standards (which hurts global trade and increases consumer prices). The fair trade method requires the country running a surplus to buy more stuff. You can imagine why that is unpopular with the countries running at a deficit, especially when buying more stuff generally means increasing global commodity prices or buying overseas assets.
It doesn't matter what wages those immigrants would be willing to work for. What they get is at least $10 per hour, which is the minimum wage in Germany.
I vaguely agree with Helistar's second point. Do you believe there are US companies which have demand, but have decided not to produce more of their product? Increasing production doesn't change the market, you simply wind up with unsold product. The only potential solution is to increase demand for domestic products. This can potentially be done by increasing the cost of foreign products through tariffs, thus making the domestic product a cheaper and more attractive option.

This causes other problems, though. Most notably, Germany feels justified in raising tariffs on US cars in response. The result is that you haven't fixed any trade deficit, but the global market is now far less efficient. It is sort of the global trade version of the prisoner's dilemma: we all wind up worse off when everyone does the selfish thing, and we are better off when we agree to free trade.

I also somewhat reject the overall premise. You correctly point out that the global trade market is zero sum, then would it not make sense for the richest country in the world to be importing more than they produce? Someone has to be, and it certainly isn't going to be the poor countries.
If the Tariffs are universal (every import car in the US pays 35%) then locally made cars will have an advantage. People simply will buy American.

I already wrote why Trump is right:
free trade across countries will lead to arbitrage and eventually all standard of livings/prices will equal out (but much slower than monetary arbitrage takes place). While yes, free trade will increase the overall pie (and world wide standard of living will increase), very wealthy countries like US will see standard of living actually decline (as it has been since free trade). US citizens are also spending way more of GDP (compared to so called free trade partners like Germany) in military and keeping free trade lanes/world peace. Let's see how well Europe countries like Germany/Norway etc do if they could not free ride off of US maintaining the peace.
The obvious, glaring flaw with your analysis is that it's simply impossible for a country like the US, with it's high standard of living, to produce things cheaper than a developing country.

Basically, you're espousing the "lowest common denominator" approach. Countries that can produce cheaply, due to whatever reason... low standard of living, slave labor, super advanced robotics... whatever... will have trade surpluses and everyone else will have trade deficits.

Essentially driving the world's citizens to the economic status of the lowest common denominator. At least, if they want jobs.

As the economies of the first world deteriorate, there will come a point where they cannot provide the perks of the first world, much less security of any kind to themselves or anyone else. Who will protect the shipping lanes then? Somalia? Indonesia? China?

End game: Anarchy... chaos... in the words of Ard in the movie "Heavy Metal", "You die, the girl dies, everybody dies."

Or! Wait for it! The world magically lifts ALL it's citizens to the economic status of the first world! Well, that ain't going to happen. There just aren't enough resources for that.
So you believe Germany to be a third world country? More developed countries produce more developed goods, which less developed countries buy.
The flaw in that reasoning is that Germany has stronger worker rights and environmental protection laws than the USA.

Which would indicate that USA is a lot less efficient than Germany in production and/or the dollar/euro exchange is out of whack.

If you compare with China things don't look that good: Germany imports more from China than it exports there, so if they want to level the trade balance with China they would have to lower standards.
Or! Wait for it! The world magically lifts ALL it's citizens to the economic status of the first world! Well, that ain't going to happen. There just aren't enough resources for that.

Of course Earth has enough resources for every human to live a first world life, we could do that tomorrow if we really wanted to. But that would mean to get rid of the inequality.
Don't see what inequality has to do with it. Inequality of itself doesn't magically create or destroy resources.
I meant income inequality. There is enough wealth in the world that could be redistributed to make sure not a single human has to starve. We just don't want to as a species.

Also about resources: here in Germany we throw away 40% of our food. We could literally feed another 50 million people just by redistributing the food we don't use. Wouldn't even change anyones food bill.

Earth has enough fields to grow stuff, we could just build a combine harvester instead of a tank and get farming.
bryksom says:
Earth has enough fields to grow stuff, we could just build a combine harvester instead of a tank and get farming.

No. This is basic social justice stupidity.

Even if you COULD just magically teleport that harvester to that field, the field would suck, and the people there would just look at it.

If people in the third world could have farmed their own food in quantities to serve a large population, THEY WOULD HAVE DONE THIS ALREADY. All they have to do is work together like civilized people. Shit. How hard can that be? The technology has already been developed... It's not like when Henry Ford first started and no one has ever mass produced a car.

A local parallel is available. The "American Indians." These stone age people were here in America for thousands of years before Europeans showed up, and had nothing to show for it. Sure, there was a period 600 years before Columbus where a brief moment of a FREAKIN' COPPER AGE occurred, but that died out and it went right back to the stone age.

If the founding fathers had your sense of "social justice" the US would still be the original 13 states and 80% of the country would be savages who constantly execute terror attacks. Great.

Civilization. It works.
Oh. And I forgot to respond to this one?

Tobold says:
"So you believe Germany to be a third world country? More developed countries produce more developed goods, which less developed countries buy."

Yes, that's right. I think Germany is a third world country. Seriously? Oh wait... you also said "More developed countries produce more developed goods, which less developed countries buy."

Um. No. That's not really how it works.
Of course that is how it works. China is producing cheap plastic toys, but buys the machines on which to make those toys from Germany.
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