Although he’s no longer a contender for the 2012 Republican nomination, Donald Trump’s short-lived proto-campaign was notable for its extreme China-bashing. Because such mercantilist and xenophobic sentiments may get only worse as the economy slumps along, it’s worthwhile to point out exactly why Trump’s proclamations made little sense and in fact were internally contradictory.
At the height of his popularity among Republican primary voters, Trump appeared on Rush Limbaugh’s radio program. It’s instructive to parse the transcript of his interview to see the views that Trump thought would endear him to American conservatives. (To be fair, Limbaugh himself a day or two later distanced himself from some of Trump’s policy proposals, saying that conservatives were for free trade.)
Right out of the chute, after Limbaugh asked Trump if he ever dreamed he’d be leading the pack of Republican nominees, Trump answered,
I didn’t think it would go this fast, Rush, but to be honest with you — and I don’t even know if it’s me or the message — the fact is I look at what’s happening to this country, I look at the way China is just ripping us off. I look at OPEC the way they are ripping us off with the oil prices. I mean, people are gonna be paying six and seven dollars a gallon for gasoline very, very soon; and you’re gonna be up to $150 a barrel; and they wouldn’t even be there if it weren’t for us. I look at South Korea. What they do to us is unbelievable. Even a smaller country, Colombia, they’re signing a trade packet. We lost last year — let’s call it “lost” — $4 billion with Colombia, fourth-largest country in Latin America, $4 billion. With China this year, Rush, we’re gonna lose $300 billion, and that wouldn’t happen if I was there.
Although he doesn’t spell out exactly what the “losses” consist of, Trump is obviously referring to trade deficits with the respective countries. For example, in the first three months of 2011, the United States exported $26 billion worth of goods to China, while Americans imported $86 billion of goods from China, for a trade deficit (in goods) of $60 billion.
Even at this point, we have to stop and ask: How does this constitute a rip-off of the American people? In what sense did they “lose” $60 billion to China in the first quarter of 2011?
The aggregate trade figures are simply the summation of individual transactions. To say that Americans “lost” $60 billion to the Chinese in the first quarter, is qualitatively as nonsensical as saying that a man “lost” $500 to Best Buy when he purchased a new television set from the store. Of course the man didn’t think he lost the money; in his view, he gained from the transaction, because he valued the television more than the $500. Yet the same is true for every American who imported Chinese goods.
After the above exchange, Limbaugh went on to ask about the danger of the Chinese central bank’s unloading its holding of U.S. Treasury debt. Trump gave a lengthy reply that was internally contradictory:
Rush: What does it tell you that the ChiComs say that they’re gonna start divesting themselves of our T-bills? What does that tell you?
Trump: They won’t divest because we have the power. They don’t have the power, Rush. Rush, if we ever wanted them to stop manipulating their currency, which makes it almost impossible for our companies to compete — and I know because I build buildings, and I have to get so much stuff whether it’s curtain walls or other things from China, and I hate [to] do it. But they manipulate their currency to such an extent that it’s very hard, almost impossible for our companies to compete; and if you ever said to them, “Folks, the game is over.” You know, we’re rebuilding China, Rush. We’re rebuilding China. They’re building bridges like twice the size of the George Washington Bridge.
The George Washington Bridge is like a small bridge. They are building airports, they’re building cities, with our money — and it’s mostly from us because we have leadership that doesn’t know what they’re doing. If you ever said to them, “There’s a 25% tax, a 25% tax on all of your products coming in,” we would, first of all, never really probably have to [impose] the tax because they would come to the table — if you meant it, if you really meant it — so fast. Now, if they didn’t come to the table, we’d make a fortune. We’d take in a lot of money and guess what? Jobs would start going to Alabama and North Carolina and all our places. So when you ask me about the polls, people know — and I made a lot of money with the Chinese, believe me.
Both in terms of selling them very big apartments — I sold one for $33 million recently to a Chinese gentleman — but also in terms of deals. I made a lot of money with the Chinese, and I know the Chinese very well. By the way, they don’t love us. I will tell you that. Just in case anybody has any question. They don’t. When I see Obama having a dinner at the White House, Rush, for the president of China — who’s been screwing us worse than anybody other than OPEC — for years, it’s not the right and appropriate location for a dinner, believe me. So there are ways of handling it, and they need us, Rush. That’s the one thing. They always say, “Oh, but they have our debt.” Think of it; they take our money and then they loan it back to us and we have to pay ’em interest….
Of course, a person’s thoughts always appear less coherent in a radio interview than if he were to compose an essay. Yet even so, Trump is actually contradicting himself with the above sentiments.
If the United States runs what is called a current account deficit (which is a broader concept that includes the more familiar trade deficit) with China, then it must simultaneously run a capital account surplus. This isn’t an economic theory, but an accounting truism. To translate it into more practical terms: If Americans want to spend more by importing goods and services from China than they can pay for in terms of their earnings from Chinese-based assets that they own and from selling exports to people in China, then the difference must be made up: the Chinese must have a net accumulation of dollar-denominated assets.
To put the matter even more succinctly: If the United States as a whole imports more this year from China than its income vis à vis China would justify, then the difference must be made up by either selling assets to China or by borrowing money from them. This is analogous to a household that wants to consume more than its income in a given year. Such a policy is possible, but only if the household either sells off some of its assets (like stocks or real estate) or goes deeper into debt.
Once this truism is understood, Trump’s complaints about the Chinese appear contradictory. If the Chinese did begin divesting themselves of U.S. Treasury debt, it would (other things equal) reduce the U.S. capital account surplus with China and hence lower the trade deficit. In other words, the only way to stop the United States from “losing” so much to the Chinese every year in terms of the trade balance is for the Chinese to stop investing more in American financial assets (such as government IOUs) than Americans invest in Chinese assets.
Trump in spite of himself seems to be vaguely aware of this connection, when he complains of the alleged “currency manipulation” by the Chinese. In practice, the way the Chinese central bank has kept Chinese yuan cheap, relative to the dollar, is by printing yuan with which to buy U.S. Treasuries. The extra yuan chasing dollars on the foreign-exchange markets push up the yuan-price of dollars, which makes the dollar stronger and keeps Chinese goods cheaper for Americans.
China’s “dollar standard”
This is an important point that is worth rephrasing. When people complain that the Chinese are artificially suppressing the exchange rate of the yuan against the dollar, they are not accusing the Chinese government of the crude foreign-exchange controls practiced by some governments, in which traders are threatened with jail or fines if they trade at illegal prices.
No, the actual mechanism by which the supposed manipulation occurs is that the Chinese authorities will rush to buy U.S. assets whenever the yuan rises above the ceiling they have in mind. For many years, the U.S. asset of choice was Treasury debt, and hence the Chinese kept the yuan’s exchange rate fixed against the dollar by expanding or shrinking their stockpile of U.S. Treasuries.
In this respect, the Chinese had a “dollar standard” for their currency, as the United States used to have a gold standard for the dollar.
Since early 2005, the Chinese ironically have allowed their currency to gradually strengthen against the dollar, and the mechanism has been to slow their accumulation of U.S. Treasury debt. So when critics such as Trump excoriate the Chinese for (a) keeping their currency undervalued while (b) threatening to dump their holdings of Treasuries, they are speaking nonsense. However, Trump was at least consistent in the quotation above when he went on to criticize the Chinese practice of lending Americans back the money they “stole” from them — so perhaps Trump really doesn’t want the Chinese government to invest in U.S. assets and was merely being polite with Limbaugh’s initial question.
Trump’s discussion of a 25 percent surcharge on Chinese imports is the epitome of debunked mercantilist fallacies. When he says “we’d make a fortune,” keep in mind that he is talking about money flowing from U.S. citizens into government coffers. It’s true that, depending on what economists call the relative elasticities of supply and demand, some of that tariff revenue would be simply redirected from flowing to Chinese exporters. Still, it’s worth pointing out that a tariff on Chinese products is a tax placed on Americans who have the audacity to spend some of their money on goods made in China.
More generally, and as economists have known for literally centuries, tariffs do not create jobs on net. Rather, they simply rearrange jobs among different sectors and, moreover, reduce productivity on average so that the country is poorer overall.
One of the ways a nation pays for its imports is through its exports. Loosely speaking, if a high tariff reduces the amount of dollars Americans want to spend on Chinese goods, then the Chinese have fewer dollars with which to buy American goods. Thus, trade barriers do not simply work in one direction. The jobs “created” by restricting Chinese imports into the United States would be offset by the jobs “destroyed” in those industries exporting goods to China.
In times of economic hardship, it is natural that people rally around each other and cast blame upon foreigners. Such thinking, though natural, can be very destructive if it influences actual policy decisions. If unemployed Americans want someone to blame, they should look at their fellow citizens in the District of Columbia, not the Chinese.
This article originally appeared in the September 2011 edition of Freedom Daily. Subscribe to the print or email version of Freedom Daily.