Why aren't Trump's tariffs closing the trade deficit?
What gives, Tariff Man?
President Trump, as he recently reminded us, is a "Tariff Man." He's slapped tariffs on America's imports of steel and aluminum from around the globe, and on roughly half of our imports from China. The president's enthusiasm for tariffs is largely driven by his antipathy for America's massive trade deficit, which Trump regularly denounces as evidence that the rest of the world is ripping us off.
But a funny thing happened on the way to Trump's trade war: America's trade deficit actually went up.
The purpose of tariffs is to make imports more expensive. That should discourage Americans from buying from abroad, reduce our imports, and thus bring our imports and exports into closer balance.
Yet despite the president's tariffs having had months to make themselves felt, the gap between what we import and what we export grew to $55.5 billion in October — the highest monthly level in a decade. Our cumulative trade deficit for 2018 was just over $500 billion as of October, which is significantly higher than the cumulative total for the first 10 months of 2016 or 2017.
Well, first off, there's an important difference between placing tariffs on everything coming in from around the globe and placing tariffs on everything coming in from one specific country. Trump's aluminum and steel tariffs are worldwide — or at least close to worldwide — but the rest have focused mainly on China. Even if our imports from China become more expensive, imports from other countries can remain cheaper. So our consumption just shifts from, say, China to South Korea, and our overall trade deficit doesn't change much.
But even if we narrow our focus to just China, the trade gap story is the same. Our monthly trade deficit in goods with China in October reached $43.1 billion — its highest level ever. And once again, 2018's cumulative trade gap with China is on track to match or surpass recent years.
So what gives? If we're taxing half of the stuff China exports to America, why is the trade deficit still so high?
It's all about the fundamental forces of exchange rates and currency policies and global financial flows — and below that, the basic question of global growth.
America's unemployment rate is 3.7 percent. Our economy is growing at a modest but steady rate. That gives America a leg up on much of the rest of the world.
Economic growth in Europe just slowed to a four-year low, strangled by the demented monetary and fiscal policies of the eurozone, which have pitched one country after another into crisis. While China has been booming in recent years, its growth is slowing too, and is now weaker than it's been in a decade. Other emerging economies like Turkey are struggling with their own looming financial crises and economic problems.
Add it all up, and America is just about the world's lone economic bright spot.
A lot of demand is flowing from America out to the rest of the world. We are buying up other nations' exports. But there's not nearly as much demand flowing back to our own shores from abroad. Meanwhile, our growth makes us a comparatively more attractive investment opportunity, driving up demand for U.S. assets and the U.S. dollars necessary to buy them.
The U.S. dollar remains the world's premiere reserve currency. It is used to handle most international exchange, and stockpiled in case of emergencies. (Perversely, the dollar's deep entanglement throughout the global trading web is one of the main things destabilizing emerging economies.) That too drives up demand for U.S. dollars.
The combined effect of all this demand for the U.S. dollar makes it more expensive than other currencies. Which in turn makes our exports more expensive and less competitive, and everyone else's exports cheaper by comparison.
Now, Trump could institute enough tariffs at high enough rates on all trade coming into America to counteract all this. But such duties would be vastly more punitive than anything even Trump has suggested.
Alternatively, Trump could use tariffs as a diplomatic cudgel to bring China and other trading partners to the negotiating table, convince them to draw down their vast reserves of U.S. dollars, and thereby rebalance international exchange rates. But whether the president has either the policy knowledge or the strategic acumen to pull that off is another matter entirely. Then there's the whole question of what ought to replace the U.S. dollar as international trade's preferred medium of exchange — a question that minds far wiser than Trump's have been loath to grapple with.
Beyond that, China, the eurozone, and other nations will decide how to manage their own economies and run their own currency policy — for good or ill. And there's little Trump can do about it other than try to keep up diplomatic pressure.
There's simply not a lot Trump can do to reduce America's trade deficit. In this arena, at least, he remains at the mercy of the rest of the world.