On Trade: It’s the Manufacturing Trade Deficit That Matters
The financial markets are “cheering” the news that US and China have agreed in principle to a “phase 1” trade deal. That’s clearly a positive development as the “smallish” trade deal removes the prospect of new tariffs, while also scaling back some of the existing tariffs.
Yet, the potential growth and earnings benefits from trade deal are narrow and tiny, at best. To be sure, “phase 1” focuses on increased trade in farm products and the US trade imbalance is entirely centered in manufacturing goods.
The US Trade & Production Problem
Trump’s trade negotiators fail to grasp a simple fact about foreign trade; that is, the US trade deficit is structural as the US no longer enjoys the productive manufacturing infrastructure to produce goods the consumers at home or around the world want.
According to the Census Bureau, the US merchandise trade deficit with all countries totaled nearly $900 billion in 2018. The deficit in manufacturing goods exceeded $1 trillion. The US ran a surplus in farm goods and it's unclear whether the “phrase 1” deal will increase the surplus in agricultural products or rearrange it between China and other countries.
Yet, it’s the shortfall in manufacturing capacity that goes to the heart of the US trade imbalance. The US has lost over 85,000 manufacturing establishments---mainly consumer good companies in the production of appliances, furniture and apparel-- in past 20 years. Once the productive capacity is hollowed, abandoned or even transferred offshore new trade deals don’t generate the growth “bang” of years past since the manufacturing capacity to produce is no longer present.
According to the production data from the Federal Reserve the output of US consumer goods industries in 2019 is still below that of 2000. And over the past 20 years the increased purchases of goods by the consumer –which is in the hundred of billions - has been filled by an ever-rising tide of consumer goods imports.
It’s hard to figure out the Trump’s administration long-term trade strategy at this point. The publicity around the trade deal creates the impression that US trade deficit will soon begin to narrow as the US will start to produce and export more. Yet, it’s impossible to export something that you don’t have.
As such, it would be wrong to conclude that “phase 1” trade deal will result in a permanent reduction in trade tensions. It would not be a surprise to see the Trump team use the “hammer” of trade tariffs in future negotiations with China or other countries, especially Europe, since “phase 1” deal does very little to solve the fundamental causes of the US trade imbalance.