Protectionists of all stripes often rail about trade deficits. An unfavorable balance of trade. One of the catch phrases of these people, because at some level they realize the value of trade, is that they want "fair trade." That's just protectionism under the guise of being pro-free trade.
One of Donald Trump's bugaboos is trade with China. On the Trump website it says "for free trade to bring prosperity to America, it must also be fair trade. Our goal is not protectionism but accountability."
And Hillary Clinton, in her nomination speech at the DNC, said “we should say ‘no’ to unfair trade deals... we should stand up to China.”
Those dastardly Chinese just don't play fair!
Alleged currency manipulation is part of his objection to the Chinese. The Chinese renminbi was pegged to the dollar until 2005. There was considerable hue and cry in the States that the Chinese currency was overvalued. It was alleged that this created a trade imbalance.
The idea that trade has to be balanced, that the amount of imports and the amount of exports should match is, on the face of it, a load of malarkey.
The Trump website goes further. "In a system of truly free trade and floating exchange rates like a Trump administration would support, America's massive trade deficit with China would not persist."
Balance of trade! That old bugaboo.
What specifically does Trump propose with respect to trade? During the primary debates he argued for a 45% tariff on imported goods and scuttling NAFTA. Those dastardly Mexicans are as unfair as the Chinese with their cheap car production.
Ironically, proponents of free trade often make the same mistaken argument. They support free trade because they believe that their country will be a winner. They will win the "trade wars" and have a favorable balance of trade. The country's exports will exceed its imports which will be good for everyone.
But the idea that trade has to be balanced, that the amount of imports and the amount of exports should match is, on the face of it, a load of malarkey.
"He believes and loudly proclaims that if France gives ten in order to receive fifteen, it loses five."
Frederic Bastiat vs. the Protectionists
Nobody has explained this fallacy better than Frederic Bastiat, the brilliant 19th century French economist and polemicist. Bastiat's forte is the reductio ad absurdum. He takes the position of the protectionists and draws it out to its logical conclusion. His petition of the "Manufacturers of Candles, Tapers, Lanterns, Candlesticks, Street lams, Snuffers and Extinguishers, and the Producers of Tallow, Oil, Resin, Alcohol, and Generally of Everything Connected with Lighting" against the competition of the sun is a classic. His proposal of a "negative railroad" skewers his opponents mercilessly.
His attack on the notion of a balance of trade is equally devastating and equally hilarious. It made me laugh out loud when I read it. Speaking of one of the protectionists, a Monsieur Lestiboudois, he says, "he believes and loudly proclaims that if France gives ten in order to receive fifteen, it loses five." In other words, if France exports say, ten million francs of goods and imports fifteen million, France is out five million francs.
He quotes this trade critic at length with the conclusion that when trade is not balanced, the deficit is money that is given away. "Every year we give away 200 million francs to foreigners.
The Trade Balance and the Businessman
The theories of the free traders are attacked as valid only in theory by the protectionists, but, asks Bastiat, "do you think the account books of businessmen are valid in practice?"
If there's anyone who understands profit and loss, surely it is the businessman. So, says Bastiat, consider the case of one of his businessman friends who he refers to by his initials, M.T.. Let's compare M.T.'s accounting to that of the customhouse.
"M.T. despatched a ship from Le Havre to the United States with a cargo of French goods, chiefly those known as specialties of French fashion, totalling 200,000 francs. This was the amount declared at the custom house."
Now after arriving at New Orleans, paying the shipping charge and an American tariff, M.T. still manages to sell the French fashions for a profit of twenty per cent or 40,000 francs. The return of his original investment, the shipping costs, the tariff and his profit nets him 320,000 francs which he uses to buy cotton.
In addition, M.T. had to pay for shipping the cotton back to France, commissions, insurance and so forth bringing the cost of the cotton to 352,000 francs. And that is what the customhouse entered into its books as the value of the imported cotton.
M.T. sells the cotton and nets another 70,400 francs in profit. M.T. is up 40,000 francs on the sale of French fashions to the Americans and 70,400 francs on the sale of American cotton to domestic French consumers. He has profited to the tune of 110,400 francs! Not a bad business trip!
But in the accounts of the French customhouse, France has exported 200,000 francs and imported 352,000 francs. Oh my god! It's a trade deficit! France just got snookered out of 152,000 francs! Or as Bastiat puts it, the esteemed trade critic must conclude that France "has consumed and dissipated the proceeds of previous savings, that it has impoverished and is on the way to ruining itself, that it has given away 152,000 francs of its capital to foreigners!" (italics in the original).
Throw it into the sea!
But Bastiat is not done yet! It seems M.T. despatched another ship shortly thereafter with another 200,000 francs of goods. Sadly, the ship sank and M.T. had no choice but to enter into his accounts a loss of 200,000 francs.
The good gentleman at the customhouse, however, entered the shipment as 200,000 francs in the export ledger before the ship sailed. But because it sank, there will never be anything entered in the import ledger to counter it. "It follows," says Bastiat, "that M. Lestidoubois and the Chamber will view this shipwreck as a clear net profit of 200,000 francs for France!"
Trade exists because the parties to the trade see an advantage to doing so, not because it is "good for the country.
But wait! Bastiat is still not done! "There is still a further conclusion to be drawn from all this, namely, that, according to the theory of the balance of trade, France has a quite simple means of doubling her capital at any moment. It suffices merely to pass its products through the customhouse, and then throw them into the sea. In that case the exports will equal the amount of her capital; imports will be non-existent and even impossible, and we shall gain all that the ocean has swallowed up."
Indeed, when someone sells something, whether to a domestic or foreign consumer, he does so to make a profit or he wouldn't make the trade. Conversely, when someone buys something, whether from a domestic or foreign consumer, he does so because he sees it as advantageous. Trade exists because the parties to the trade see an advantage to doing so, not because it is "good for the country.
Indeed, we could go further and argue that if we need a balance of trade between countries, why not between the states? Why shouldn't New York insist that the value of movies it imports from Hollywood be balanced out by an equal value of manufactured goods exported to California? To ask the question is to see its absurdity.