- The Washington Times - Sunday, January 16, 2005

The dollar’s continued slide has removed any doubt: Investors and economic leaders around the world fear the U.S. trade deficit has grown dangerously high.

They clearly worry that by buying so much more from other countries than they sell to them, and borrowing so much to pay for this overconsumption, debt-strapped Americans are starting to exhaust their creditors’ appetite for more IOUs at today’s low interest rates.

If nervous lenders stop accepting these IOUs so readily, and if the dollar starts being replaced as an international currency by counterparts that do not keep losing value (like the euro), the U.S. economy could sink into depression or worse, and take with it a world economy heavily dependent on exporting to the United States for its growth.

The dollar’s weakness has revived interest in traditional fixes — e.g., somehow raising the microscopic U.S. savings rate, and somehow stimulating faster growth abroad to suck in more U.S. exports. Yet restoring America’s international finances also requires fundamental changes in U.S. trade policy. In particular, the United States needs to stop focusing so narrowly on signing trade agreements with low-income Third World countries —which make deep U.S. deficits practically inevitable — and focus trade policy on higher-income countries with which better balanced trade is much likelier.

Trade expansion with Third World countries has dominated U.S. globalization policy since the end of the Cold War. Extending the North American Free Trade Agreement to Mexico, granting permanent normal trade status to China, and liberalizing trade with sub-Saharan Africa and the Caribbean Basin are just a few examples. Largely as a result, from 1990 to 2003, developing countries greatly increased their share both of total U.S. goods exports (from 24.75 to 44.88 percent), and of the much greater U.S. goods imports (from 30.47 to 50.82 percent).

Third World trade deals like the Central America Free Trade Agreement and the Free Trade Area of the Americas also dominate the Bush administration’s future trade agenda. Even the current round of world trade talks expressly aims to create the greatest benefits for Third World countries.

By contrast, opening Japanese and European markets, where consumers can actually afford great quantities of U.S.-made goods, has been neglected in Washington for a decade.

Because of their often rapid growth (albeit from low bases), and need for the sophisticated goods in which high-income countries specialize, achieving balanced trade and even surpluses with Third World countries would seem easy for the United States. But because of great recent changes in world trade patterns, exactly the opposite is now true.

As much as half of all international trade in goods today no longer consists of finished consumer goods but of intermediate goods — the component parts of these products, along with the industrial machinery needed to produce them.

This trade reflects the now common tendency of manufacturers to spread different phases of their production processes across the globe, and surging traffic among these internationally dispersed facilities.

Developing countries participate actively in this new form of trade, but not mainly as final consumer markets. After all, their people generally lack the necessary incomes, and Third World income growth will be limited for decades by rapid population growth and high unemployment.

Thanks, however, to the technological and management knowhow eagerly provided by multinational companies, developing countries participate robustly as production sites in world trade. Third World economies import much from wealthy countries like the United States. But their imports are mainly intermediate goods that get resold abroad once turned into final products or more complex parts and components, or capital equipment that goes into building export factories.

Thus, when Washington expands U.S. trade with developing countries, it expands trade with countries whose performance and potential as sellers to the United States greatly exceeds their performance and potential as buyers of American-made products. The inevitable result: high and rising U.S. deficits.

These trade imbalances are compounded by the peculiar openness of the U.S. economy among the industrialized economies. Like U.S. multinational companies, Japanese and European multinational companies supply their home markets from the Third World. But these foreign multinationals also can readily export from Third World countries to the U.S. market. Because of trade barriers, U.S. multinationals have many fewer such options to supply Japan and Europe.

So although America’s trade agreements with low-income countries create many new export opportunities in the United States for Japanese and European multinationals that produce in the Third World, they do not create comparable export opportunities in Japan and Europe for U.S. multinationals.

Better U.S. trade policies can help greatly ease U.S. indebtedness. In particular, by promoting more net domestic job creation in the high-paying industries most exposed to international competition, trade deficit-reducing policies can create government revenue bases and improve federal and state finances. They can enable more Americans to reduce their dependence on government to finance their health care and retirement. And because higher-income earners spend proportionately less of their income, such trade policies can boost the national savings rate.

Numerous realistic trade policy alternatives are available to U.S. leaders. They might, for example, avoid sweeping protective tariffs or a deep, inflationary dollar devaluation by suspending Third World-oriented trade expansion plans until First World trade flows become better balanced.

They could stop current federal subsidies for export-oriented investment in Third World countries — including financial bailouts that aim to restore solvency by promoting export-led growth. They could restrict trade countries like China and Japan, which manipulate their exchange rates to maintain their surpluses with the U.S..

Trade policy purists will cry “protectionism.” But today’s currency turmoil is telling Americans something far more important: If they don’t start cutting the trade deficit in ways they prefer, the falling dollar and the resulting drop in U.S. purchasing power will restrict trade for them —in ways they probably won’t prefer.

Alan Tonelson is a research fellow at the U.S. Business and Industry Council Educational Foundation and author of “The Race to the Bottom” (Westview Press).

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