The U.S. Trade Deficit and Jobs: The Real Story

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On February 20, 2003, the U.S. Department of Commercereported that the U.S. trade deficit reached a new record in 2002.For the calendar year, imports of goods into the United Statesexceeded exports by $484.4 billion. When that figure is combinedwith an overall surplus in services of $49.1 billion, the 2002deficit in goods and services was $435.2 billion, the largest inU.S. history.[1] If the past is any guide, the record deficitwill be misused by opponents of free trade to claim that itdepresses production and destroys jobs in the U.S. economy.The argument of the trade critics is simple but misleading: Ifexports create jobs, then imports must destroy jobs. Thus, a tradedeficit by its very nature causes a net loss of jobs in the U.S.economy, and the bigger the deficit, the more jobs lost.The leading proponent of this sort of analysis is the EconomicPolicy Institute, a pro-union, left-of-center nonprofitorganization in Washington that routinely publishes studiesclaiming to show specific job losses, including state-by-statetotals, as a result of trade deficits. Those numbers are thenrepeated by labor union leaders and trade opponents in Congress towarn against further trade liberalization.As the author of one EPI study explains: "When the United Statesexports 1,000 cars to Germany or Mexico, plants in this countryemploy U.S. workers in their production. If, however, the U.S.imports 1,000 cars from Germany or Mexico rather than building themdomestically, then a similar number of U.S. workers who would haveotherwise been employed in the auto industry will have to findother work. Ignoring imports and counting only exports is likebalancing a checkbook by counting only deposits but notwithdrawals." [2]To determine the number of jobs or potential jobs "eliminated" bythe trade deficit, the EPI model compares actual U.S. employment towhat it would supposedly be if the U.S. trade deficit were zero andthe economy's overall growth rate unchanged. Fewer imported cars,steel slabs, shoes, toys, shirts, and other goods are thentranslated into more domestic production of those items and hencemore jobs if exports equaled imports. In other words, every widgetnot imported translates into a widget produced at home and morewidget workers employed.Within this model, the rising imports and trade deficits of recentyears can only be bad news for output and employment. As EPIconcludes, "The toll on U.S. employment has been heavy: from 1994to 2000, growing trade deficits eliminated a net total of 3.0million actual and potential jobs from the U.S. economy."[3]The attempt to blame trade deficits for a loss of jobs founders intheory and in practice. First, the model ignores the role ofinternational investment flows. The flip side of America's tradedeficit is the net inflow of foreign investment. The extra $435billion that Americans spent on imports over and above exports lastyear was not stuffed into mattresses overseas. Those dollarsquickly returned to the United States to buy U.S. assets, such asstocks, bank deposits, commercial and Treasury bonds, or as directinvestment in factories and real estate. A principal reason why theUnited States runs a trade deficit with the rest of the world yearafter year is that foreign savers continue to find the U.S. economyan attractive place to invest.The EPI model ignores the growth and jobs created by the offsettinginflow of net foreign investment into the U.S. economy that thetrade deficit accommodates. That net surplus of investment capitalbuys new machinery, expands productive capacity, funds new researchand development, and keeps interest rates lower than they wouldotherwise be. EPI counts the jobs supposedly lost when we importcars but ignores the jobs created when BMW or Toyota builds anautomobile factory in the United States that employs thousands ofAmericans in good-paying jobs. So it is the critics of trade whoare guilty of counting the withdrawals but not the deposits in ournational balance of payments account.Second, the central assumption of the EPI model--that risingimports directly displace domestic output--collides headlong withempirical reality. In fact, imports and domestic output typicallyrise together in response to rising domestic demand. During much ofthe 1990s, when imports and trade deficits were both risingrapidly, so too was domestic employment and manufacturing output.Between 1994 and 2000, when deficits supposedly claimed a "heavytoll" on U.S. employment, civilian employment in the U.S. economyrose by a net 12 million[4] and the unemployment rate fell from6.1 percent to 4.0 percent.[5] During that same period, U.S. manufacturingoutput rose by 40 percent[6] even though the volume of imported manufacturedgoods doubled.[7]Manufacturing took a nosedive in 2001-2002, but rising imports werenot the culprit. While manufacturing output was falling 4.1 percentin 2001 from the year before,[8] real imports of manufactured goods werefalling 5.4 percent after four straight years of double-digitincreases.[9] The same domestic recession thatput the kibosh on domestic manufacturing output also curbed demandfor imports.In fact, imports and output have been tightly and positively linkedin recent years. The scatter-plot chart reveals the remarkablecorrelation between the growth of manufacturing imports andmanufacturing output each year since the late 1980s.

U.S. Manufacturing Output and Imports, 1989-2002
In the chart, output growth is measured by the change in theaverage level of output for the year compared to the average levelof output in the previous year. Import growth is measured by thetotal volume of manufactured goods (capital goods, industrialsupplies and materials, automotive vehicles, engines, and parts,and durable and non-durable consumer goods) imported in that yearcompared to the volume imported the previous year. The chartillustrates that the more we import, the more we make ourselves;the more we make, the more we import.Essentially, years fall into one of two categories: high-import,high-output years, or low-import, low-output years. During the late1980s and early 1990s, as the U.S. economy slowed, the growth ofboth manufacturing imports and output slowed. As the expansion ofthe 1990s gained steam, growth of imports and output accelerated.Then the recession of 2001 and the slow recovery in 2002 sawimports and output slide down the scale together.If the trade critics were right, the recent plunge in import growthshould have stimulated an increase in domestic output asU.S. factories sought to fill the gap left by the missing imports.According to the EPI model, in other words, the relation should benegative and the trend line should slope downward and not upward.Once again, reality intrudes on the protectionist story.There is no basis, in theory or experience, for the persistentallegation that trade deficits, and more specifically imports, meanfewer jobs in the U.S. economy. The reality is more nearly theopposite. As a reflection of continued domestic demand and thedesire of foreign investors to acquire U.S. assets, large tradedeficits are typically associated with more output and morejobs.In America today, trade and prosperity are a package deal. The morewe trade, the more we prosper, and the more we prosper, the more wetrade. By seeking to curb imports of manufactured goods, opponentsof trade will only undermine the ability of the U.S. economy toexpand output and create jobs.

[1] U.S.Bureau of the Census, "U.S. International Trade in Goods andServices: December 2002," Report Text, February 20, 2003, p. 3,

[2] Robert E. Scott, "Fast Track to LostJobs: Trade Deficits and Manufacturing Decline are the Legacies ofNAFTA and the WTO," Briefing Paper, Economic Policy Institute,October 2001, p. 2.[3]Ibid., p. 1.[4]Total civilian employment rose from 123.1 million in 1994 to 135.2million in 2000. Council of Economic Advisers (CEA), EconomicReport of the President 2003 (Washington: Government PrintingOffice, February 2003), Table B-36, p. 320.[5]Ibid., Table B-42, p. 326.[6]The Federal Reserve Board's index of U.S. manufacturing output rosefrom 83.7 in 1994 to 117.4 in 2000. Ibid., Table B-51, p.336.[7]Real imports of manufactured goods increased from $541.6 billion in1994 to $1,105.7 billion in 2000. U.S. Department of Commerce,Bureau of Economic Analysis (BEA), "National Income and ProductAccount Tables," Table 4.4. Real Exports and Imports of Goods andServices by Type of Products [Billions of chained (1996) dollars],Revised January 30, 2003,[8]CEA, Table B-51, p. 336.[9] BEA, Table4.4.