Do Low Wages Cause Trade Deficits?

May 29, 2014

In recent posts we’ve examined the effect of population density upon the U.S. balance of trade in manufactured goods and found a strong correlation.  But when establishing a new cause for some phenomenon, it’s equally important to disprove the previously hypothesized explanations.  Economists are fond of blaming trade deficits on two primary scapegoats – currency valuations (often claimed to be manipulated to favor the offending trading partner) and low wages.

In my last post, we proved that currency valuations actually have no effect whatsoever.  Stronger currencies were no more likely to help America’s trade balance than they were to make it worse, and vice versa.  That’s not to say that currency valuations won’t impact the profitability of companies.  If the dollar gains strength, American companies make less money on exports.  But their reaction is to cut costs and become more competitive.  Have you ever heard of an American company throwing in the towel, closing up shop and moving overseas because of a fluctuation in the value of the dollar?  Of course not.  They stay and compete.

But what about low wages?  On the surface, that sounds like a more plausible explanation for shifting manufacturing off-shore.  Why make widgets here when I could move the factory to China, pay a fraction of the wages, and then import the products and sell them at the same price?  Almost sounds like a no-brainer.  But it’s not that simple.  There are other factors involved – huge factors – like logistics.

So let’s spend a little time examining some hard data on the subject.  While gathering trade data country-by-country for 2012, I also used the CIA World Fact Book to determine “purchasing power parity” (PPP)for each country (analagous to wages paid in each country), and used the “Index Mundi” web site to track how each nation’s  PPP has changed over the years.  Using that data, we can chart America’s balance of trade in manufactured goods relative to the wealth of each nation.

In this first chart, I simply took the 164 nations included in the study and divided them into quintiles – five groups with the same number of nations in each group.  If indeed wages (wealth) play a role in trade, what we should see are small deficits (or even surpluses) with wealthy nations, and progressively larger deficits with poorer nations.  Now, look at the chart:  with nations by quintile.

There is little evidence of any trend or consistency in this chart.  We actually have a relatively large trade deficit with the very wealthiest of nations which include virtually all of Europe, Japan, Taiwan and South Korea, nations which also happen to be very densely populated.  We actually have a small surplus with the 2nd quintile of nations which includes many South American nations and relatively few densely populated nations.  We have a very large deficit with the 3rd quintile of nations for one reason – China is included in this group.  With the 4th quintile – those nations ranked in the bottom 20-40% of wage earners, we have a small trade deficit.  And finally, among the very poorest of nations, heavily represented by African nations – seemingly fertile ground for taking advantage of low wages – the U.S. actually has a small surplus of trade.  To reiterate, among the bottom 40% of wage earners in the world who represent 3.1 billion people – almost half of the world’s population – the U.S. trade deficit is actually quite small.

This flies in the  face of the claim that low wages cause trade deficits.  Why don’t we manufacture more in Africa, where wages are dwarfed by those in China?  And China, not exactly awash in natural resources, actually turns to Africa for its supply of raw materials!  How inefficient is that?  Wouldn’t it make much more sense to build the factories in Africa, close to the supply of raw materials and an even shorter ship ride from the western coast of Africa to the eastern shore of the U.S.?  Something about this claim of low wages causing trade deficits already smells.

But let’s look at things another way.  Dividing countries into quintiles may be a little misleading.  We should actually divide the population of the world into quintiles by wealth, since that’s what we’re actually measuring here.  Otherwise, some nations in one quintile may have huge populations while another quintile of nations may be small and sparesely populated.  So take a look at this chart:  with people by quintile.

I will tell you that even I was blown away when I plotted these results.  Now the data shows a clear trend, but one that is precisely the opposite of what economists claim.  Our biggest trade deficits are with the wealthier people of the world, steadily declining as people become poorer.  How can this be?  The explanation lies in what really causes trade deficits in the first place.  Trade deficits are caused by disparities in per capita consumption, driven by disparities in population density, and nothing else.  And trade surpluses make people wealthier, not poorer.  By running huge trade deficits with nations like Germany, Japan, Korea, Taiwan, China and a host of others, we’re making them richer day-by-day as the U.S. grows poorer.

In fact, from 2001-2o12, of the 164 nations studied, the U.S. ranked near the bottom in terms of growth in PPP.  134 nations experienced growth in PPP that outstripped the U.S.  Only 30 nations lagged the U.S.

In that respect, globalization works.  It’s doing an excellent job of redistributing American wealth to other nations so heavily burdened by overpopulation that their economies would be destabilized if allowed to continue without our assistance.  That’s the goal of globalization – stabilization through spreading the pain, unemployment and poverty of overpopulation.  They cause the problems.  You pay the price.  And yet, the push for more growth – fueled largely by population growth – goes on.  Without that, income inequality would also begin to stabilize and we certainly can’t have that!



Currency Valuations and Trade, 2001-2012

May 23, 2014

Economists claim that, when the dollar strengthens vs. other currencies, our trade deficit will worsen as our exports become more expensive for other nations and as our dollar goes further toward the purchase of imports.  Our large trade deficit with China is often blamed on the Chinese manipulating their currency to keep it artificially low in value in order to protect their trade surplus with the U.S.

In my previous post, in which we examined the effects of changes in curency valuation from 2011 to 2012 – just one year’s worth of data – we concluded that any such evidence in support of economists predictions was pretty sketchy at best.  We concluded that tracking the data over a longer time frame was necessary.

So, in this post, we’ll examine changes in currency valuations and America’s imbalances in trade in manufactured goods from 2001 to 2012.  Surely, this should be enough time for long-term changes in valuations to have their effect on trade imbalances if, indeed, there is any effect at all.

Here’s a scatter chart that plots the change in currency valuation vs. the change in America’s trade imbalance in manufactured goods over this twelve-year time frame:  2001-2012 Change.  One thing jumps out right away – that most of the data points lie to the left of the y-axis, indicating that most nations’ currencies fell in value relative to the dollar.  This would seem to suggest that America’s trade imbalance should have worsened over this time frame.

It depends on how you look at it.  In fact, America’s trade imbalance actually worsened dramatically during that time frame.  But if you simply average the change for each country, without weighting them for our trade volume (in other words, for example, tiny Cameroon is counted the same as China) the average change in America’s trade imbalance is a big improvement of 286%, in spite of an average decrease in exchange rate (or strengthening of the dollar) of 11.1%.  You have to look at the individual data points to understand this large discrepancy.

There were many very large swings in our trade imbalances over this 12-year time frame.  For example, we experienced a worsening imbalance of more than 1000% with three nations:  Estonia (-7,732%), Nicaragua (-1,388%) and Vietnam (-1,000%).  On the other hand, we experienced an improvement in our balance of trade of more than 1,000% with 15 nations.  They are Malawi (4,827%), Iraq (4,815%), Iran (3,770%), Ethiopia (3,416%), Sudan (2,624%), Guinea-Bissau (2,033%), Benin (1,48%), Papua New Guinea (1,868%),  Suriname (1,856%), North Korea (1,732%), Mozambique (1,597%), Russia (1,345%), Tajikistan (1,231%), United Arab Emirates (1,170%) and Togo (1,101%).

The U.S. experienced an improvement in its trade balance in manufactured goods of between 500% and 1,000% with fifteen other nations, but let’s stop right here.  An examination of the above list of 15 nations makes it apparent that there is much more at play here than population density or currency valuations to explain such huge increases.  There’s politics at play.  You’ll notice many African nations on this list.  It’s no secret that, as China’s influence in Africa has grown as Africa has become a major source of resources and raw materials for China’s economic expansion, the U.S. has tried to counter China’s growing influence there with big increases in foreign aid.  And all aid is counted as exports at book value.  Iraq and Tajikistan?  Huge influxes of military equipment and supplies to prosecute the wars in Iraq and Afghanistan.  Iran (until recently) an attempt to curry favor with the more moderate regime that has taken hold there.

So averaging all these countries together is yielding a very distorted picture.  As we did in my previous post, let’s simply break it down by country – which ones’ currencies increased or decreased in value, and how did our trade imbalance with them respond?  Of the 164 nations studied, 67 experience a weakening of their currency.  Our trade imbalance weakened with 21 of them.  (Economists would predict that our trade imbalance would have worsened with a majority of them, not by only 31%.)

The currencies of 76 nations rose in value.  Of these, our trade imbalance improved with 52 of them.  This is more in line with what economists would predict.  In seven cases, currency valuations were unchanged.  Our balance of trade weakened with one of them.  (There was no currency data available for 14 nations.)  So, all total, our trade imbalance responded as predicted in 73 of 156 cases – a little less than half.  What this tells us is that changes in our trade imbalance as a result of currency valuation changes was completely random.  There is no relationship whatsoever.

And what if we focus on just America’s top 15 trade partners who account for 95% of all of America’s trade?  What we find is that the currencies of eleven of them rose from 2001-2012 relative to the dollar.  In response, our balance of trade improved with only three of them – Canada, Brazil and the Netherlands.  Three others experienced weakening currencies – Mexico, India and Venezuela.  Our balance of trade worsened with all but Venezuela.  Saudi Arabia’s currency was flat (since it’s tied to the dollar).  Our balance of trade improved with them.  So, when it comes to our top trade partners, our balance of trade responded over a 12-year period as economists would suggest  in only four cases – exactly the opposite of what economists would predict.


This results of this twelve-year study prove that there is absolutely no merit to economists’ claims that currency valuations plays a  role  in driving trade imbalances.  Blaming other nations for manipulating currency valuations to gain unfair trade advantages is a complete waste of time.

Another of economists’ popular scapegoats for trade imbalances is the lure of low wages in foreign countries.  We’ll explore the validity of this claim in an upcoming post.

Currency Valuations & Trade in 2012, Part 1

May 18, 2014

While compiling the trade data for 2012 that’s been the subject of recent posts, I also gathered currency valuation data (from the OANDA web site) for  each trading partner.  In the past, I’ve done this with America’s largest trading partners and the data seemed to indicate that currency valuation plays no role in driving trade imbalances and that, if anything, the relationship between currency valuation and trade imbalance is the opposite of what economists suggest – that changes in currency valuation are actually the result of trade imbalances, not the cause.  It’s an intriguing finding, one that merits a more exhaustive study.  So I expanded it to include every country.

Effect of Changes in Currency Valuations, 2011-2012

Let’s begin with the changes in trade balances in 2012 from the previous year.  Here’s a scatter chart that plots change in currency valuation vs. the change in the balance of trade in manufactured goods from 2011 to 2012:  2011-2012 Change.  As you can see, this chart shows no correlation whatsoever.  Most of the data points lie to the left of the zero line of the x-axis,  meaning that most currencies of the world weakened relative to the dollar in 2012.  Economists would predict that, therefore, most of the data points would lie below the zero line of the y-axis, indicating that our trade imbalance worsened in response.  In fact, of the 110 nations who experienced a decline in their currency relative to the dollar, our trade imbalance worsened with 67 of them.  It improved with 43 of them.  That seems to provide some weak evidence that economists may be right.

But, wait.  Not so fast.  There are other indications that just the opposite may be true.  For example, on average, other nations’ currencies declined vs. the dollar in 2012 by 8%.  Yet, on average, our trade imbalance in manufactured goods actually improved by 14%.  This seems to contradict the fact that, overall, our trade imbalance actually worsened in 2012.  The reason for the contradiction is that these figures aren’t weighted according to nations’ sizes.

And if we look at the 20 nations with the biggest declines in their currencies, we find that our trade imbalance weakened with only nine of them.

Furthermore, although most nations’ currencies declined in 2012, not all of them did.  Twenty-two nations’ currencies actually rose.  Of these, our balance of trade improved, as economists would predict, in only eleven cases – exactly half.

The currencies of twenty nations experienced no change at all vs. the dollar.  Our trade imbalance improved with sixteen of them.

There was no currency data available for eleven nations.

If we narrow our focus to our fifteen largest trading partners, who account for 95% of America’s trade volume, we find that ten of them experienced a decline in the value of their currency.  Our balance of trade weakened with all of them but one – France.  However, it should also be noted that, of these ten countries, eight of them are more densely populated than the U.S., and our trade imbalance worsened with every one of them.  Of the remaining five nations, three experienced an increase in the value of their currency – China, Japan and India.  Yet, our trade imbalanced worsened with all three, who also happen to be much more densely populated than the U.S.

Two of the fifteen had a stable currency valuation in 2012 – Saudia Arabia and Venezuela – both big oil exporters.  Our balance of trade improved with both of them in 2012.

It’s difficult to separate the effect of currency valuation from the effect of population density on our trade imbalance in manufactured goods.  But, while the effect of population density is clear – that trading with nations much more densely populated virtually assures a worsening trade imbalance – the effect of currency valuation is sketchy at best.  Of the 132 nations who experienced a change in currency valuation in 2012, our trade imbalance responded as economists would predict in only 78 of those situations – 59% of the time.

2012 was a year in which the dollar rose relative to most currencies.  And it was a year in which our trade imbalance worsened.  Was it because we continue to pursue free trade with badly overpopulated nations or was it because of currency valuation?  Maybe it would help to take a longer-term perspective.  Stay tuned for the next post on this subject.


Obama Administration Issues Dire Warning about Climate Change

May 8, 2014

I just couldn’t let this story pass without a brief comment.  The Obama administration yesterday issued an 800 page report that contains dire warnings about the effects of climate change that are happening right now.  (A link to the story is provided above.)  President Obama urges action to prevent the worst of the effects.

This begs the question:  if the Obama administration is sincere about this, wouldn’t it make sense to take the one action (which it could do immediately with the stroke of the executive pen)  that would do more to slow U.S. carbon emissions than anything else – stop importing a million new carbon emitters each year?  It’s hard to take the president seriously if he isn’t willing to curtail immigration and stop supporting global population growth by using the United States as a relief valve.

Of course, his response (and economists would support him) would be that we can do both – grow our population and stop greenhouse gas emissions if only we do this, that and a bunch of other things that will never get done.  It’s kind of like economists’ position that population growth increases the chances that a genius will be born who can solve our problems.

March Trade Deficit in Manufactured Goods Hovers near Record

May 7, 2014

The trade deficit in manufactured goods came in at $43.6 billion in March, down only $0.1 billion from the record set one month earlier.  Here’s a chart of manufactured imports and exports:  Manf’d exports vs. goal.

As you can see, manufactured exports also lagged the president’s goal for doubling exports in five years (a goal set in January, 2010) for the 32nd consecutive month.  But manufactured exports did rise by $3.3 billion in March.  The shortfall from the president’s goal dropped $1.5 billion from the record set one month earlier.

For the 2nd month in a row, the shortfall in manufactured exports from the president’s goal exceeded the entire trade deficit, meaning that the president can no longer share the blame for the deficit with previous presidents from the past four decades.  His failed approach to trade is now directly responsible for the overall trade deficit.


First Quarter Per Capita GDP Declines 0.5%

May 1, 2014

Yesterday the Bureau of Economic Analysis released its first estimate of GDP (gross domestic product) for the first quarter of 2014.  Economists expected a low number – like 1.1% growth – but what we got was even lower – 0.1%.  Annualized GDP was $17.15 trillion, barely beating last quarter’s figure of $17.09 trillion.

But that’s just the size of the pie – the only thing macro-economists are interested in.  They give no consideration to how many people are sitting down at the table, and whether everyone’s slice has gotten smaller.  Thanks to population growth during the first quarter – another half million people gathered around that pie – everyone’s slice (on average) shrank at an annualized rate of 0.5%.   Here’s a chart of GDP growth, by quarter, since 2005:  Change in Real Per Capita GDP.

For macro-economists, if the pie gets smaller, they call that a recession.  For you and me – real people – if our slice gets smaller, then it’s a real recession for us, whether economists make that call or not.

Undoubtedly, bad weather in the first quarter played a role in this decline, but I’m skeptical that it was as significant as economists would have us believe.  With an average household income of around $50,000, most Americans are doing well to merely put food on the table, clothes on their backs and a roof over their heads.  Those things don’t stop because of bad weather.  And their utility bills (which are included in GDP) skyrocketed.  For wealthier Americans, the bad weather provides incentive to travel south.

And lately I’ve begun having even more doubts about how GDP is calculated and whether it’s a decent gauge of the health of our economy.  Consider housing.  If I spend $1,000 a month for a mortgage on a 2,000 square foot home with a yard in the ‘burbs, and someone else spends $1,000 a month for an apartment a quarter of that size – with no yard – in the big city, do we both contribute equally to the economy?  Macro-economists who calculate GDP say yes.  But the money spent on a single-family home clearly generates more economic activity in the construction, furnishing and maintenance of that home than the same money spent on a small apartment.

Or consider transportation.  If I spend $200 a month to own, drive and maintain a car, haven’t I contributed more toward job-creation than someone who spends $200 a month on bus fare?

My point is this:  as society becomes more densely populated and per capita consumption declines as the population becomes more urban – moving from homes into apartments, eschewing cars for mass transit, and over-paying for services in densely populated urban jungles – GDP simply measures the money spent and not whether it was spent on products and services that are more labor intensive, thus generating more jobs.

Also, real GDP (which is what the government reports) is adjusted for inflation.  But what is inflation?  If ten people live in 500 ft2 apartments and ten live in 2000 ft2 single-family homes today (each paying $1,000 a month), while ten years from now those figures have changed to fifteen in apartments and five in single family homes (thanks to population growth and more crowding), and the price of each has remained the same, then the government still says no inflation has taken place.  However, in reality, the average price per square foot of dwelling space that these twenty people are paying has risen by 43%.  A true measure of the job-generating economic activity would reflect that decline, but GDP doesn’t.  It stays the same.

In this scenario, on average, the people have gotten poorer, even though their incomes may have held steady, because they’re getting less dwelling space for their money.  But macro-economists who measure nothing but money spent, say that we’re just as rich as we were before because we’re spending the same amount of money, and rent and home prices have held steady.

So these tiny increases in GDP completely obscure the fact that we really are getting poorer and our quality of life is declining as more and more of us trade an uncrowded life in suburban and rural America for more crowded conditions in the cities.  It’s a hidden cost of worsening overpopulation.