2008 April 27 Sunday
Martin Feldstein Foresees Further Dollar Drop

The US dollar has not dropped far enough yet to close the US trade deficit.

The dollar has declined during the past two years against not only the euro but also against most other currencies, including the Japanese yen and the renminbi. On a real trade-weighted basis, the dollar is down about 13% relative to its value in March 2006.

This improved competitiveness of American goods and services is needed to shrink the massive US trade deficit. Even with the dollar’s decline and the resulting 25% rise in US exports over the past two years, the US still had an annualized trade deficit at the end of fourth quarter of 2007 of about $700 billion (5% of GDP). Because US imports are nearly twice as large as US exports, it takes a 20% increase in exports to balance a 10% increase in imports. That means that the dollar must fall substantially further to shrink the trade deficit to a sustainable level.

The dollar has to fall much further because of the rising price of a barrel of oil. Peak Oil will send the cost of oil far higher and the United States and other countries will have to export far more in goods and services in exchange for the oil. In other words, we do not just need to export another 5% of our GDP to close our current trade deficit of 5% of GDP. We also will need to export several percentage points more of our GDP to pay for future oil price increases.

Another doubling in the price of oil will not double our oil import bill because a lot of demand destruction will occur as oil prices go up. But we are going to have to give up a lot more stuff to the rest of the world in order to balance our trade. More for them means less for us.

Given this trend a job in an industry which sells most of its goods and services abroad might be the ticket for job security.

Share |      By Randall Parker at 2008 April 27 02:04 PM  Economics Trade


Comments
lowly said at April 28, 2008 2:27 AM:

Do you really have to remind me of this? It's pathetic that fiscal spending is so out-of-control as to force one forced to invest outside of the US merely to preserve purchasing power. I suspect we're close to a low point in the current oscillation of the dollar, but these waves have been getting larger and larger and I suspect they will eventually become too large to deal with.

It all harks back to abandoning the discipline of the gold standard. That is what made the current situation possible. The ultimate root cause is the misalignment of interests of the legislating bodies with those of the nation as a whole. Alas, the constitution wasn't perfect. Danmn good, just not perfect.

Kenelm Digby said at April 28, 2008 3:48 AM:

As we can see, the oil and commodity price surge is due to strong Chinese demand.
The chinese are also responsible for a huge chunk of the mercantile traded deficit.
n order to close these gaps, a real fall in American living standards is necessary (no 'ifs' , no 'buts', this is the upshot of a depreciating dollar).
And yet, day-in, day-out we are lectured pompously by the hookworms and pubic-lice at 'The Economist' and the WSJ that 'free-trade' 'enriches us all'.

Pete Murphy said at April 28, 2008 6:38 AM:

Most of our trade deficit is in manufactured goods. It is impossible for the falling dollar to have any meaningful effect on this deficit (as we've already seen) because it has nothing to do with the real root cause of the deficit - the gross disparity in population density and per capita consumption between the U.S. and so many of our trade "partners."

Our enormous trade deficit is rightly of growing concern to Americans. Since leading the global drive toward trade liberalization by signing the Global Agreement on Tariffs and Trade in 1947, America has been transformed from the weathiest nation on earth - its preeminent industrial power - into a skid row bum, literally begging the rest of the world for cash to keep us afloat. It's a disgusting spectacle. Our cumulative trade deficit since 1976, financed by a sell-off of American assets, is now approaching $9 trillion. What will happen when those assets are depleted? Today's recession may be just a preview of what's to come.

Why? The American work force is the most productive on earth. Our product quality, though it may have fallen short at one time, is now on a par with the Japanese. Our workers have labored tirelessly to improve our competitiveness. Yet our deficit continues to grow. Our median wages and net worth have declined for decades. Our debt has soared.

Clearly, there is something amiss with "free trade." The concept of free trade is rooted in Ricardo's principle of comparative advantage. In 1817 Ricardo hypothesized that every nation benefits when it trades what it makes best for products made best by other nations. On the surface, it seems to make sense. But is it possible that this theory is flawed in some way? Is there something that Ricardo didn't consider?

At this point, I should introduce myself. I am author of a book titled "Five Short Blasts: A New Economic Theory Exposes The Fatal Flaw in Globalization and Its Consequences for America." To make a long story short, my theory is that, as population density rises beyond some optimum level, per capita consumption begins to decline. This occurs because, as people are forced to crowd together and conserve space, it becomes ever more impractical to own many products. Falling per capita consumption, in the face of rising productivity (per capita output, which always rises), inevitably yields rising unemployment and poverty.

This theory has huge ramifications for U.S. policy toward population management (especially immigration policy) and trade. The implications for population policy may be obvious, but why trade? It's because these effects of an excessive population density - rising unemployment and poverty - are actually imported when we attempt to engage in free trade in manufactured goods with a nation that is much more densely populated. Our economies combine. The work of manufacturing is spread evenly across the combined labor force. But, while the more densely populated nation gets free access to a healthy market, all we get in return is access to a market emaciated by over-crowding and low per capita consumption. The result is an automatic, irreversible trade deficit and loss of jobs, tantamount to economic suicide.

One need look no further than the U.S.'s trade data for proof of this effect. Using 2006 data, an in-depth analysis reveals that, of our top twenty per capita trade deficits in manufactured goods (the trade deficit divided by the population of the country in question), eighteen are with nations much more densely populated than our own. Even more revealing, if the nations of the world are divided equally around the median population density, the U.S. had a trade surplus in manufactured goods of $17 billion with the half of nations below the median population density. With the half above the median, we had a $480 billion deficit!

Our trade deficit with China is getting all of the attention these days. But, when expressed in per capita terms, our deficit with China in manufactured goods is rather unremarkable - nineteenth on the list. Our per capita deficit with other nations such as Japan, Germany, Mexico, Korea and others (all much more densely populated than the U.S.) is worse. In fact, our largest per capita trade deficit in manufactured goods is with Ireland, a nation twice as densely populated as the U.S. Our per capita deficit with Ireland is twenty-five times worse than China's. My point is not that our deficit with China isn't a problem, but rather that it's exactly what we should have expected when we suddenly applied a trade policy that was a proven failure around the world to a country with one sixth of the world's population.

Ricardo's principle of comparative advantage is overly simplistic and flawed because it does not take into consideration this population density effect and what happens when two nations grossly disparate in population density attempt to trade freely in manufactured goods. While free trade in natural resources and free trade in manufactured goods between nations of roughly equal population density is indeed beneficial, just as Ricardo predicts, it’s a sure-fire loser when attempting to trade freely in manufactured goods with a nation with an excessive population density.

If you‘re interested in learning more about this important new economic theory, then I invite you to visit my web site at OpenWindowPublishingCo.com where you can read the preface for free, join in the blog discussion and, of course, buy the book if you like. (It's also available at Amazon.com.)

Please forgive me for the somewhat "spammish" nature of the previous paragraph, but I don't know how else to inject this new theory into the debate about trade without drawing attention to the book that explains the theory.

Pete Murphy
Author, Five Short Blasts

Bob Badour said at April 28, 2008 11:09 AM:

Pete,

With all due respect, did Ricardo not identify the flaws in his own theory when he explained how the theory is predicated on immobility of capital and labour? Modern trans-national corporations do not have the same attachment to a homeland as an 18th or 19th century individual capitalist would have. Likewise, advances in transportation make labour migration much more attractive.

Is the rest of your theory not simply a repeat of Malthus? (I really think someone needs to write a book entitled _Malthus Laughs Last_, btw.)

mike courtman said at April 28, 2008 8:55 PM:

Two other problems with living in overpopulated world: there is little incentive to invent new technology (relative labour scarcity has been a vital factor in the creativity of the West since about 1200, think water wheels, wind mills, deep ploughs etc) and rising food prices. Cheap food depends on lightly populated countries trading food for manufactured goods produced by heavily populated countries. If the lightly populated countries, like Australia, bring in too many immigrants, they won't be able to produce surplus primary products to buy manufactured goods with.

Kenelm Digby said at April 29, 2008 3:22 AM:

Growing up in the England of the 1970s, one article of faith that was universally agrred was that Americans were rich, to the point of being wealthy.
We were regaled with tales of how life, even for a humble laborer was inconceivably good for Americans, how the humblest owned cars, had beautiful homes and ate well every day, and of course the wages were unbelievable compared to those at home.
Today, the wages of the average American fall far short of those obtainable in England.

HellKaiserRyo said at April 29, 2008 5:49 PM:

Thank you for the comment. At least you helped me understand the mindset that help Thatcher become Prime Minister.

Kenelm Digby said at April 30, 2008 3:20 AM:

No, HellkKaiserRyo, the point is that British economic growth post-Thatcher has been modest compared to the previous decades.
The point is that 'free-trade' has had a catastrophic effect on American incomes when measured in dollar-exchange rate terms.


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