$US-$Can Exchange Rate vs Balance of Trade

July 8, 2010

Yesterday we looked at the dollar-yuan exchange rate and found no tendency for a declining dollar to positively impact the balance of trade between the U.S. and China.  But that’s just one piece of data.  Today we’ll examine the effect of exchange rate on trade between the U.S. and Canada.

In this case we have more data available.  The following chart includes the total balance of trade between the U.S. and Canada dating back to 1985, the balance of trade in manufactured goods dating back to 2001 (the data I compiled in researching my book), and the exchange rate dating back to 1990.  Here’s the chart:

$US-$Can Rate vs Balance of Trade

Some observations:

  1. First of all, it’s important to note that, since Canada is America’s largest supplier of imported oil and gas, our balance of trade with Canada is dominated by trade in those categories.  Oil is priced in U.S. dollars.  A falling dollar results in higher oil prices.  Thus, as the dollar declines, one would expect that our balance of trade in oil would worsen.  Economics says that as the price of an imported commodity rises, imports will decline as consumers switch to domestic suppliers.  But that doesn’t work for oil.  Domestic supplies are maxed out and, in fact, declining.  We have no choice but to continue to import at the same rate.
  2. From 1990 through 2002, as the dollar soared in value by 35%, our balance of trade with Canada worsened by 625%, a move in the direction that economists would predict, but the size of the move is beyond what one would expect.  Early in this time frame, NAFTA (the North American Free Trade Agreement) was implemented (on January 1, 1994).  You can see that our trade deficit (again, driven by oil imports) really took off at that point.  Thus, the worsening of our total trade deficit with Canada during that time frame had much more to do with the implementation of NAFTA than it did with the strengthening of the dollar.
  3. From 2003 through 2008, however, our overall balance of trade with Canada continued to worsen in spite of a dramatic decline in the dollar.  This is likely due to the rising price of oil, coupled with rising demand.
  4. Looking at the effect of the exchange rate on trade in manufactured goods from 2001 to 2009, we see what seems to be exactly the relationship that economists would predict – that the falling dollar resulted in an improvement in our balance of trade, improving from a slight deficit to a tidy surplus of over $40 billion in 2009.  But is this really caused by the falling dollar or was it driven by the disparity in population density between the U.S. and Canada?  The U.S. is ten times as densely populated as Canada.  My theory would predict that, upon implementation of free trade between two such countries, the more densely populated will end up with the trade surplus in manufactured products.  And that’s exactly what has happened here. 

So is America’s  rising surplus in manufactured goods due to the falling dollar or due to the population density disparity?  It’s impossible to say with certainty based on just this one data point.  Our experience with China indicates that the falling dollar has no effect.  Our experience with Canada is inconclusive.  My prediction is that, as we examine more exchange rates with other countries, it will become clear that the effect of exchange rates is dwarfed by the effect of population density disparities, if there is any exchange rate effect at all.  Stay tuned.

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Exchange rate data provided by OANDA:  http://www.oanda.com/?srccont=breadcrumb

http://www.oanda.com/?srccont=breadcrumb


January Trade Deficit in Manufactured Goods Rises

March 14, 2009

http://www.census.gov/foreign-trade/Press-Release/current_press_release/ft900.pdf

Buried in all the happy talk about the fact that our trade deficit in goods and services fell in January from $39.9 billion in December to $36.0 billion in January, a bigger drop than economists had expected, is the fact that all of the drop was due to the falling price of oil, from almost $50 per barrel in December to $39.81 per barrel in January.  Don’t get me wrong, that’s certainly good news.  But the bad news is that the non-petroleum deficit in goods (in other words, manufactured products – the part of the trade deficit that costs us jobs) actually rose by $0.1 billion. 

The two biggest culprits in this rise were China and Korea.  Our trade balance with China worsened by $0.7 billion while the deficit with Korea worsened by $0.5 billion.  (It actually improved with most other countries.)

The biggest piece of the deficit in manufactured goods is in the category of vehicles – autos, trucks, buses and parts.  In this category, we have five major trading partners:  Canada, Germany, Japan, Korea and Mexico.  Of these, Canada is our best partner.  From December to January, our balance of trade with Canada in autos and parts swung from a $0.19 billion deficit to a $0.14 billion surplus.  (We basically have a balance of trade with Canada.)  Of the remaining four, with whom we have a deficit in this category, the biggest percentage decline in the deficit from December to January was with Germany, with the deficit falling from $1.46 billion to $0.69 billion.  By far, the most parasitic of these partners is Japan who, in January, exported $2.76 billion worth of autos to the U.S. while importing only $0.07 billion worth of autos from us.  And Korea isn’t much better, exporting $0.86 billion worth of autos while importing only $0.04 billion.  With Mexico, the deficit in this category declined from $1.84 billion to $1.14 billion.  (In January, we imported $1.93 billion in this category from Mexico while they bought $0.79 billion from us.)

It’s very good news that our trade deficit has fallen by over 40% in the last year.  This decline could help limit the depth of the recession.  The bad news is that all of the decline is a function of the recession, including the decline in oil prices, and is not due to any corrective action by the U.S.   This, coupled with the fact that the jobs-destroying component of the deficit has declined very little, will also tend to limit the potential for a real economic recovery.  In fact, as long as the deficit continues, the financial health of the U.S. will continue to deteriorate.  Eventually, interest rates will have to rise to keep attracting money for lending from our foreign creditors.  This is when the economic savvy of Obama’s administration will really be tested – when he’s faced with the choice of accepting a permanent, higher level of unemployment and a lower standard of living for Americans, or taking tough action to restore a balance of trade with nations unwilling to bear the cost of their own overpopulation.