April 28, 2011 11:03AM

Today’s GDP Report Perpetuates Myth That Imports ‘Subtract’ from Growth

The U.S. Commerce Department just released its initial snapshot of first‐​quarter economic growth this morning. The new news is that economic growth slowed to 1.8 percent, a disappointing rate that will do nothing to shrink unemployment. The old news is that the report continues to label rising imports as a “subtraction” from gross domestic product (GDP).

According to the prevalent Keynesian view, rising imports depress economic growth by causing domestic demand to “leak” abroad. Every good or service we import is one less that must be provided by U.S. workers, or so the thinking goes. Note the final, highlighted sentence in this passage from today’s report:

The increase in real GDP in the first quarter primarily reflected positive contributions from personal consumption expenditures (PCE), private inventory investment, exports, and nonresidential fixed investment that were partly offset by negative contributions from federal government spending and state and local government spending. Imports, which are a subtraction in the calculation of GDP, increased.

In Table 2, the Commerce Department calculates that rising imports subtracted 0.72 percentage points from real GDP in the first quarter. This will be widely interpreted as meaning that GDP growth would have been 2.5 percent last quarter if those burdensome imports had not increased.

This is all bunk, as I try to explain in a Cato study released earlier this month, titled, “The Trade‐​Balance Creed: Debunking the Belief that Imports and Trade Deficits Are a ‘Drag on Growth.’”

One source of confusion is the fact that the government estimates GDP, not by measuring what we actually produce each quarter, but by measuring what we spend. The government doesn’t know whether private households, corporations, or the government are spending on a domestically produced good or an imported good, or how much of an exported good is made up of imported components. To avoid over‐​counting, it subtracts total imports from total domestic expenditures to derive what was produced domestically. The subtraction of imports only cancels out the overstatement, not real GDP.

In fact, as I argue in the study, imports contribute to real GDP growth by providing raw materials, parts, and machinery at more affordable prices for a broad swath of U.S. industry. And when consumers save money on imported goods and services, they have more left over to spend on other domestic goods and services. If the money we spend on imports does not come back to buy our exports, it returns to buy U.S. assets, which also contributes to economic growth through lower interest rates and direct investment in our productive capacity.

As a final refutation of the prevailing creed, I present evidence that shows that the U.S. economy consistently performs better during periods when imports and trade deficits are rising as a share of GDP compared to periods when they are decreasing.