Why Trade Deficits Matter

Social media and news channels are flooded with opinions about how awful Trump’s reciprocal trade tariffs are. Many cry that tariffs are simply a “tax” on the American people and should be avoided at all cost. Others vehemently oppose “forcing” American workers to sit in a factory every day for 16 hours making small trinkets.

Some insist that just because other countries impose tariffs isn’t a reason for the U.S. to embrace an “anti-free market” position. Several people conclude that tariffs and Trump’s immigration policy will just result in robots taking away jobs.

These are all short-sighted opinions that fail to acknowledge American history and basic economics. Let’s get this out of the way real quick. Are tariffs a “tax” and “anti-free market?” Yes. But, it’s way more complex than this.

In response to Nancy Pelosi’s concerns about tariffs, let me introduce you to Nancy Pelosi, who provides a far more sensible warning about American jobs and the trade deficit.

...Who is “endorsing the status quo” now?

Say’s Law

Before we dive into the trade deficit, we need to talk about Say’s Law, attributed to Jean Baptise Say. This theory posits that the value of goods and services any group of people can purchase in aggregate is equal to the market value of what they supply in aggregate. In other words, we produce in order to consume.

When we think about trade deficits between individual countries, they really don’t tell us much. It’s like you going to the dentist. Do you pay him/her far more than they pay you for your services? Probably. They are simply better at one particular thing. You likely have a job where you provide value to other people, which allows you to MAKE the money you spend. In this case, both of you are producing and adding value, which benefits society through specialization and innovation.

Globalization is a good thing. People have different cultures and geographies, which makes them better at producing different things. Let’s just look at the U.S. California has great agriculture to produce enormous amounts of fresh fruits and vegetables, but energy resources are limited. Texas’s dry geography isn’t great for growing fruits and vegetables, but they have superior oil and natural gas resources. Free trade amongst neighbors, states, and countries is a good thing. The assumption behind Say’s Law is that you are producing and making money to save, so that you can benefit from this free trade.

Trade Deficits

However, let’s say that you defined your financial success as solely buying as much as possible. What if your “trade deficit” with EVERYONE is substantial? In other words, you aren’t working, and you’re just taking on debt to acquire everyone else’s goods. Is this healthy? Are you succeeding? We’d all think this would be an incredibly insane and entitled position.

This is what’s been happening with the U.S. As we mentioned in Trump’s Tariffs, politicians have been trying to weaponize the dollar to allow America to spend beyond its means. And when we say “its means,” we don’t define the word as some arbitrary standard of living, such as being able to afford certain things. The word represents America’s own production.

At first glance, because America has taken on debt to spend much more than it has produced consistently for decades, one might assume that Say’s Law is invalid. However, after glancing at the dozens of charts at wtfhappenedin1971.com, one might conclude that there’s a massive and hidden cost to these actions, and America HASN’T actually become wealthier. It’s just been selling its wealth to afford short-term consumption.

It would be one thing if debt was used to strategically acquire foreign assets that produce cash flow. However, in many cases, it’s been used to acquire cheaper, disposable items that don’t provide much value when it comes to the cost of living, healthcare, or affordable high-quality food. It’s also worth asking how “cheap” these foreign items would actually be had the Federal Reserve, U.S. government, and banks not printed money, creating artificial demand.

The Cost

Aside from warning about trade deficits in Warren Buffett’s 2003 editorial in Fortune, he also referred to the U.S.’s NIIP (net international investment position), which measures the amount of foreign net assets the U.S. owns vs. the amount of American net assets foreigners own.

His foresight turned out to be brilliant, with the U.S.’s NIIP declining to about -$26T by the beginning of this year. That means foreigners own $26T more in U.S. net assets than what we own of theirs.

Foreigners buy U.S. Treasury securities, which funds our government. While buying in recent years has slowed dramatically, this effectively means that taxpayers are paying foreigners principal PLUS interest for decades. They also buy U.S. equities. All of that buying demand gets recycled back into the American economy, so economists will tell you that’s a great thing. However, the demand pushes stock prices higher, forcing retirees and pension managers to risk capital in overvalued stocks.

Foreigners also buy real estate. It’s incredibly obvious that we have an affordable housing shortage right now. Where might we be if Americans had saved some money, produced goods at home, in which that capital went to local business owners rather than foreigners or the largest corporations who could afford to outsource manufacturing? They also buy farmland. I think most people would tell you it’s almost impossible to eat high-quality food on a regular basis with grocery prices up significantly over the past five years.

So, was Buffett right?

As you can see from the previous chart, our NIIP has declined by $18T since the beginning of 2015. Coincidentally (or not), our national debt had also increased by $18T from the beginning of 2015 through the end of 2024. We’re effectively selling America’s wealth to continue consuming beyond our means.

Conclusion

This isn’t about “getting back at” foreigners who just found out how to play our game. This isn’t about obtaining a certain number of jobs each quarter. This isn’t about achieving some arbitrary GDP number. This is an imperfect, but much needed step towards ending America’s entitlement mentality. We thrived most when we produced and saved, which allowed us to reinvest in growth and consume without crippling debt.

It’s an attempt at reducing aggregate trade deficits so America can begin building real wealth again, allowing people to buy goods and services without using theft (taxes to pay debt) or inflation (hidden taxes that crush purchasing power).

Will there be short-term pain? Yes. You can critique the specific details of the policy all you want, but to sit back and pretend like we aren’t a failing empire that has made the average standard of living much worse for young Americans is incredibly naive. As Nancy Pelosi asks, when are we going to stand up and say, “I will not endorse the status quo?”