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Monday, April 9, 2018

Milton Friedman: The Way We Talk about Trade Confuses the Issue

Once again, the “mercantilist-in-chief” demonstrates his uninformed and “upside-down” thinking about trade and trade deficits.

We’ve heard for years now from Donald Trump about how China has perpetrated one of the “greatest thefts in the history of the world” when it comes to trade with the U.S. His latest Tweets today (above) claim that: a)”We are not in a trade war with China, that war was lost many years ago by the foolish, or incompetent, people who represented the U.S” and b) “When you’re already $500 Billion DOWN, you can’t lose!” Once again, the “mercantilist-in-chief” demonstrates his uninformed and “upside-down” thinking about trade and trade deficits.

As Milton Friedman explained back in the 1970s (italics added):

In the international trade area, the language is almost always about how we must export, and what’s really good is an industry that produces exports, and if we buy from abroad and import, that’s bad. But surely that’s upside-down. What we send abroad, we can’t eat, we can’t wear, we can’t use for our houses. The goods and services we send abroad, are goods and services not available to us. On the other hand, the goods and services we import, they provide us with TV sets we can watch, with automobiles we can drive, with all sorts of nice things for us to use.

The gain from foreign trade is what we import. What we export is a cost of getting those imports. And the proper objective for a nation as Adam Smith put it, is to arrange things so that we get as large a volume of imports as possible, for as small a volume of exports as possible.

This carries over to the terminology we use. When people talk about a favorable balance of trade, what is that term taken to mean? It’s taken to mean that we export more than we import. But from the point of our well-being, that’s an unfavorable balance. That means we’re sending out more goods and getting fewer in. Each of you in your private household would know better than that. You don’t regard it as a favorable balance when you have to send out more goods to get fewer coming in. It’s favorable when you can get more by sending out less.

As Don Boudreaux and Daniel Klein explain (bold added):

President Trump promises Americans “good trade deals.” But isn’t it a good trade deal for Americans to get stuff from abroad, to use and enjoy, in an amount larger than the value of the stuff that Americans give up? That is an in-kind surplus! But Trump and others prefer to call it a trade deficit.

“Trade deficit” is one of those language traps that we’ve sadly fallen into. It is defective language that spawns deficient thinking. Only by recognizing the defectiveness of the term “trade deficit” can we hope to reduce the damage.

As I explained last summer (revised to focus specifically on China):

It’s an important point to realize that if you think about America’s “trade deficit” and look carefully at “who, on net, ends up with the most stuff (goods)” you’d conclude that what is typically and pejoratively called a “trade deficit” by Trump and others is actually a “stuff surplus.” That is, if you look at who ends up with the most stuff from international trade on net, America’s so-called “trade deficit” with China last year of $375 billion was actually, and perhaps more accurately, a $375 billion net inflow of goods or a “goods surplus” (see chart above). Specifically, American companies purchased $506 billion worth of merchandise from Chinese producers, and Chinese firms purchased $130.4 billion worth of goods and services from American producers, leading to a $375.6 billion “goods or merchandise surplus” (or an “in-kind surplus” according to Don and Dan’s terminology above) for the US when measured by who actually ends up with (and enjoying) the stuff.

If anybody is getting “killed,” “raped,” “crushed” or “hosed” by America’s trade with China, our largest goods trading partner, you could make a stronger case that China is the one getting “killed” much more than Americans. After all, China uses its scarce resources and labor to build washing machines, smartphones, TVs, computers, automobiles, furniture, sporting goods, footwear and clothing, but it’s Americans who got to enjoy a $375 billion net inflow of those goods last year that weren’t enjoyed by consumers in China. Over the last decade, we’ve enjoyed a cumulative “stuff surplus” with China of more than $3 trillion, and yet hear Trump incessantly describe America’s accumulation and enjoyment of trillions of dollars in net merchandise from China as “theft”?

Bottom Line: If you correct Trump’s “upside-down thinking” and apply Friedman’s insight that the gain from trade with China is what we import (not export), America enjoyed a large $375 billion annual “stuff surplus” or net inflow of goods from China last year. That is an outcome that should be celebrated, not condemned! Contrary to Trump’s upside-down thinking about trade and speaking in his distorted language, it’s actually the US that has perpetrated the “greatest theft of merchandise in the history of the world” – totaling to more than $3 trillion in accumulated “stuff surpluses” over the last decade representing the amount of goods the US has “stolen” from the Chinese people since 2008!

Reprinted from AEI. 

  • Mark J. Perry is a scholar at the American Enterprise Institute and a professor of economics and finance at the University of Michigan’s Flint campus.