Surpluses & Deficits are Hotly Debated

Debunking economic mythology - Part 1

Emile Woolf, Going Postal

Much has been made of Britain’s trade deficit, which is the amount by which our imports of goods and services exceed our exports. The same phenomenon is evident in many other strong economies, including the USA.

It is a situation that protectionists like Donald Trump feel the need to “do something about”, such as recourse to tariffs in order to redress the gap – but these bring down retaliatory counter-measures in their wake. And so the combat proceeds.

But protectionists overlook the fact that one of the main reasons for exporting is to be able to import, and it is clearly mistaken to think of exports as “good” and imports as “ bad”, especially as we cannot control the conduct of our trading partners.

Every trading nation must honour its debts

While every trading nation has to honour its debts to those with whom it transacts business, it is obvious that at any single point in time there will be an imbalance between imports and exports. Since it is impossible for every trading nation to have a permanent trading surplus, to wish for it is simply wishing to inflict the demon deficit on someone else, which takes us no further.

A country’s “current account deficit” differs from its “trade deficit”. The latter is, of course, the largest component of the current account deficit, which also includes inward investments, capital flows and international borrowing.

A country’s current account deficit is therefore its accumulated foreign debt, which in time must be repaid. If the deficit country is creditworthy the foreign holders of that debt will not be concerned about the risk of non-repayment, especially when those foreign holders are aware that the deficit country is using its borrowings to finance the creation and acquisition of capital assets that will work towards reducing the deficit.

Therefore, despite the panic stirred up about having a deficit, trading with foreigners is in essence no different from trading with locals – and is always just as beneficial from an aggregate economic point of view.

Paying for our imports

When a British importer buys German goods he must pay for them in euros. For that purpose he (or his agent) will acquire euros from a German bank and, after settling the bill the German exporter (or his bank) will now be a holder of British pounds. What will he do with them?

He can use them to buy British goods, or even UK treasury bonds, or he can exchange them for a preferred currency – but if, instead, he does nothing with those pounds and merely sits on them indefinitely, he will, just like the retailer who never cashes your cheque, be handing the importer a free gift!

The only legitimate concern for those whose trading partners use a different currency relates to the relative “strength” of the currencies concerned.

Protecting the currencies

No exporter will accept payment for his goods in a currency that he does not trust because of its volatile, unstable purchasing power, and consequently will not be trusted by his other trading partners either.

At a time when the US dollar was respected for having all the virtues of a “reserve” currency, traders in exporting countries with weaker currencies all over the world would insist that payments for their produce, raw materials and manufactures should be denominated in dollars.

That is changing now, of course, because (i) the Federal Reserve (the USA’s central bank) continues its policy of encouraging ballooning credit in its variety of forms, and (ii) other nations, notably China and Russia, are inclining towards stricter monetary discipline, even to the point of building up their gold reserves at a rate that threatens the worth of all the unanchored “fiat money” that other central banks are so furiously churning out, relative to the yuan and the rouble.

Protecting our currencies is therefore the real issue underlying much of the debate about post-Brexit trading relations. The most important favour that EU trading entities can seek from their own governments and from the European Central Bank is to desist from destroying the value of their currency.

This is now a universal problem – with central banks embarked on a veritable race to the bottom! By their actions they appear to be hell-bent on destroying the yen, the euro, the dollar and the pound. They claim, of course, that their actions were responsible for saving the world’s monetary systems from implosion after the 2008/2009 collapse, but the truth is the very reverse.

Such is the prevailing ignorance that those actions, now staging a repeat performance, are merely setting the scene for another crisis, inevitably more extreme in its scope and reach. Repeats of economic disasters can be averted only by tackling their causes – not by fiddling with symptoms and after-the-event results.

And a brief footnote

Central banks are notorious interventionists in every aspect of monetary and fiscal policy. They even believe that having a weak currency may be good for certain exporters by making their goods and services cheaper for overseas customers, but that advantage is counterbalanced by the disadvantage to non-exporting businesses that require goods and services from overseas.
Furthermore, the deliberate action by a central bank to favour exporters by weakening the currency causes prices in general to rise over time, and this in turn eats into the exporters’ margins – the very people this policy is intended to help!

And so it continues until the next round of currency debasement. Again and again. In this foolhardy seesaw there can be no winners.

© Emile Woolf September 2018 (website)

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