Does currency manipulation explain US trade deficits?

Romesh Vaitilingam | Jun 28, 2019

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In May, the US Treasury published a report to Congress on the macroeconomic and foreign exchange policies of major trading partners of the United States. As Stanford economist and Chicago Booth distinguished senior fellow John H. Cochrane noted on his blog, this made clear reference to the possibility of currency manipulation:

“Under Section 3004 of the 1988 Act, the Secretary must: ‘consider whether countries manipulate the rate of exchange between their currency and the United States dollar for purposes of preventing effective balance of payments adjustments or gaining unfair competitive advantage in international trade.’”

The Treasury report notes that nine countries are now on a ‘Monitoring List’ of major trading partners that account for a large and disproportionate share of the overall US trade deficit. The list comprises China, Japan, Korea, Germany, Italy, Ireland, Singapore, Malaysia, and Vietnam.

In June, US President Donald Trump followed this up by accusing the president of the European Central Bank of currency manipulation. He tweeted, “Mario Draghi just announced more stimulus could come, which immediately dropped the Euro against the Dollar, making it unfairly easier for them to compete against the USA. They have been getting away with this for years, along with China and others.”

Chicago Booth’s Initiative on Global Markets invited its US panel of economic experts to express their views on whether the trade balances between the United States and other countries are indeed the result of policies designed to maintain lower exchange rates against the dollar or otherwise tilt the playing field of global trade. The experts considered the case of the United States and Mexico specifically, as well as a more general hypothetical scenario.

Mexico-US trade and exchange rate

Weighted by each expert’s confidence in their response, the panelists were unanimous in their disagreement with the statement that Mexico’s trade surplus with the US implies currency manipulation.

In his response, Larry Samuelson of Yale explained a basic principle of trade: “There is no reason to expect bilateral trade balances to match; a surplus may reflect many factors other than an artificially weak currency.” William Nordhaus, also of Yale, noted, “Bilateral balances are irrelevant measures for trade position.”

Aaron Edlin of the University of California at Berkeley and Kenneth Judd of Stanford both made analogies to our day-to-day personal interactions. Edlin said, “Not necessarily. I run a persistent trade surplus with my employer. I want their money but not their goods.” Judd added, “Bilateral trade balances mean nothing. I run a very large trade deficit with Safeway, Apple, Walgreens, and many other entities. So what?”

Maurice Obstfeld of the University of California at Berkeley and Columbia’s Jose Scheinkman focused on Mexico. Obstfeld commented, “On this theory, the peso would be weak against non-USD currencies, too, and they would have big surpluses with everyone. They don’t.” Scheinkman pointed out that “Mexico follows an inflation target. Peso depreciated in part because of Trump’s antics.”

A tilted playing field?

The second statement widened the focus to any bilateral trade relationship and any policies that might seek “unfair competitive advantage in international trade.” Weighted by each expert’s confidence in their response, there was again near unanimity of disagreement.

Christopher Udry of Northwestern wrote, “The more important reason is that there is absolutely no reason that trade should balance between any two countries in a multilateral world.” Obstfeld added, “Bilateral imbalances may simply reflect the international specialization of production activities.”

Stanford’s Robert Hall said, “Wrong—for example, US deficits, aka capital inflows, reflect high investment opportunities here.” And David Autor at MIT revealed the flaw in this kind of thinking about trade balances: “Why does China run persistent surpluses with US but not Germany? Hard to believe currency manipulation can explain both!”

In comments on both questions, Chicago Booth’s Anil Kashyap quoted Nobel laureate and former MIT economist Paul Samuelson: “The one proposition in all of the social sciences which is both true and non-trivial is comparative advantage.”