War, Banking, or Cooked Books? Just How is the US Trade Deficit Sustainable?

The United States of America has been running habitual trade deficits for decades. The last trade surplus was in 1975! Lately, trade deficits have been on the order of a half trillion dollars per year.

How is this sustainable?

If we had a hard currency, the arrangement would be clearly unsustainable. We would run low on gold. Locally made goods and services would suffer extreme deflation as there would be less currency chasing the same level of productive capacity. Foreign goods, on the other hand, would become premium items, as US consumers would have diminishing gold with which to pay for imports.

Here in the real world, we see Wal Mart shelves filled with cheap imports while domestic goods and services like housing, education, medical care, and local government, are exploding in price.

It appears that the Federal Reserve is cranking out funny money faster than we are spending it on imports. And yet, the foreign factories happily sell us useful goods in return for green pieces of paper with dead US Presidents printed thereon. True, Andrew Jackson was a badass with rockstar looks, but this is taking fandom to ridiculous extremes. And who would trade valuable bicycles and blue jeans for pictures of Benjamin Franklin??

Snark aside, what is the explanation?

A Plunder Economy?

The older government buildings in Washington DC resemble those of ancient Rome, and today our economy resembles that of the late Roman Republic. When the Romans deposed their kings, they set up a republic with a set of complicated checks and balances, a republic which had enough popular support that it could field large armies. These armies conquered all the lands along the Mediterranean Sea, and brought home mass quantities of plunder and slaves. The result was lavish lifestyles for the noble families – and a working class reduced to welfare handouts and violent entertainment.

Sound familiar? Conservative and libertarian writers have warned of such parallels for generations. (Have a look at a recent example by the ever witty Doug Casey.) Indeed, such warnings used to be part of our grammar school curricula, back when we taught world history. (Today, we don’t even teach grammar that much.)

There is a puzzle to the parallel: while we have maintained a mighty army since World War II, and our troops are stationed all over the world, we rule few of the places we occupy, and those places are a mess. Having troops in Afghanistan has not exactly been profitable.

And why is China effectively paying us tribute? While we did help defend China back in World War II, that was for a completely different Chinese government, and we doubt that Chinese generosity these days is out of gratitude, or fear.

Petrodollars, Anyone?

The US does export quite a bit of expensive military hardware, and a major purchaser is Saudi Arabia. Furthermore, Saudi Arabia, Kuwait, and the United Arab Emirates are rather dependent on US military might to protect their immense underground treasures from neighboring countries with much larger populations.

Maybe military protection is our main export. The Oil Sheikhs sell their oil for US dollars. Industrial powerhouses like China and Japan need oil. They thus need dollars. Maybe our currency is backed by oil, and our military provides that backing.

Many conspiracy theorists think so. They point out instances where OPEC nations tried to sell their oil for other currencies and found themselves attacked by the US soon thereafter. As conspiracy theories go, this one is more credible than most. All you need are a few players near the top of our intelligence agencies making the case to the current President for an attack. And maybe you need some more players in the loop to fake the data for the public reason for said attacks. The total number of insiders is small, and they are sworn to secrecy with their oaths enforced by law.

The case for conspiracy is not iron clad, however. OPEC nations which switched currencies probably did so because they were hostile to the US.

So, we leave it as an exercise for the reader to decide if the Petrodollar Theory is a correct explanation for our endless stream of booty. But note that there are other possible explanations. See below.

A Subtle War Against the US?

Perhaps our rivals see cheap exports to the US as a means to weaken us, to make us fat and dumb, to con us into studying law, gender studies, and postmodernism instead of how to build things.

Or maybe they are buying our intellectual capital in return for mass quantities of merchandise. And physical capital as well. Witness the purchases of Smithfield Pork, GE Appliances, and IBM’s personal computer division.

Both explanations are long term strategies, which are benevolent and generous to us – in the short term.

Switzerland with Nukes?

Stable government and rule of law are valuable, especially if you have vast sums of wealth to store. The US is a safe place to be super rich. Our government dates back to 1787 (with a short hiatus in the southern states in the mid-1800s). Our legal system stretches back to English common law.

While our taxes seem high to libertarians, they are low by First World standards. And thanks to our perpetual budget deficits, rates of return on investments are subsidized.

Our inflation rates may horrify gold bugs, but compared to many developing nation currencies, the dollar is as good as gold. The dollar is oft used as a reserve currency.

Maybe the US earns foreign goods by serving as a gigantic bank – protected by nuclear weapons.

If so, the arrangement may not be sustainable much longer. We have Marxists marching in the streets, educating our youth, and winning high offices as Democrats. And with the COVID-19 crisis, the Federal Reserve is cranking out the funny money at a banana republic pace.

Or Perhaps the Trade Deficit is an Illusion

Are these enormous trade deficits even real?

Part of these deficits are definitely not real. US based multinational corporations have huge incentives to move their profits abroad using accounting magic.

The game is exposed in the book America, Who Really Pays the Taxes, by Donald L. Barlett and James B. Steele. This is a difficult book for freedom lovers to read, for the authors yearn for the days of astronomical top income tax brackets. But if you want to keep the top brackets reasonable while balancing the budget, you need to know where the loopholes are, and this book exposes some big ones. The Multinational Profit Shell Game is a doozie.

The game has several variants. One trick is to develop a product here and book the development expenses here. Then make the product abroad. Have a third subsidiary located in a tax haven buy the manufactured items at cost or a very low markup. Then have the tax haven subsidiary sell said items at a high markup to the US subsidiary. The two subsidiaries in high tax countries show little if any profit. All the profits go to the subsidiary located in the tax haven. Those sheltered profits show up as part of the trade deficit.

Trump and the Republicans have recently lowered the corporate income tax rates to make this game less profitable. But these reforms have led to trillion-dollar budget deficits in times of plenty. This is not a sustainable solution.

A more sustainable solution would be to set tariffs at the top corporate income tax rate. Then the game goes away entirely.

And so does the game of gutting the US industrial base with cheap foreign goodies. Or the need to enforce the Petrodollar.

If we bring enough jobs back home, the Democrats can go back to being the pesky labor union party instead of the full on Marxist intellectual party. And our republic gets a shot at lasting another century.