Monday, 27 March 2017

Losing one’s wits over the trade deficit

At the Cafe Hayek blog Don Boudreaux has been writing wise words to the Wall Street Journal about trade deficits. Boudreaux writes in response to a letter written by Clyde Prestowitz in defense of Peter Navarro’s views on the trade deficit,
First, Prestowitz insists that trade deficits are debts that must be “repaid.” Not so. For example, most of the nearly $7 billion that BMW invested over the past quarter century in its Greer, SC, operations is part of America’s trade deficit, yet none of this investment is debt. It’s equity. Americans are not obliged to repay one cent of these funds.

It’s true that BMW’s owners, as Prestowitz correctly says about investors generally, “expect a return on their investment.” But no equity investors, foreign or domestic, receive returns unless they use their equity productively – that is, unless their equity is used to produce value that would otherwise not exist. Therefore, any returns received by successful foreign equity investors are created by these investors’ own vision, efforts, and risk-taking. Contrary to Prestowitz’s implication, these returns are not resources taken from Americans, for these returns would not exist absent the particular productive uses to which the foreign investments are put.

This misunderstanding is repeated when Prestowitz writes that “At least some of that return is repatriated to the home countries of the investors…. That repatriation constitutes a net outflow of wealth.” Again, the wealth to which Prestowitz refers is created by the foreign investors. It may “flow” out of the U.S., but it exists in the first place only because of the entrepreneurial vision and risk-taking of the foreign investors who earn it.

The second example of Prestowitz’s error arises from his failure to understand what happens when foreigners “repatriate” wealth earned in America. Returns on investments in America are earned in dollars. When BMW repatriates its U.S. returns to Germany, it converts those dollars into euros – and the sellers of euros who accept BMW’s dollars will either spend or invest those dollars in the U.S. Prestowitz’s is mistaken to suggest that repatriation of foreign returns causes a leakage of demand from the U.S. economy.
Both points made by Boudreaux are important, but the second is one I have made several time on this blog (eg here) since it is an idea many people seem to get wrong. Dollars do not leave a country. For example, the only place New Zealand dollars are useful is in New Zealand so if someone takes profits "out of New Zealand" the only way they can do so is by selling those dollars. The only place the buyer of those dollars can use them is New Zealand.

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