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The Impacts of a Large Trade Deficit

October 8, 2009

Anthony P. Dedousis published an interesting article in the Crimson today. Although the comments are perhaps not so kind to Mr. Dedousis, I found his article a good analysis of the situation.

I wasn’t aware that China was undervaluing its currency, but obviously all of our interactions with China have a specter lurking over them. Whenever we negotiate with China, there’s a giant elephant in the room. We owe them $2 trillion dollars. As Mr. Dedousis put it, “administration officials are reluctant to challenge the Chinese dragon for fear of being scorched.” Although the recent Chinese tire situation might indicate that the administration is bolder than Dedousis suggests, he is correct that the money that China holds over our heads is also going to limit our ability to work out the best possible policies for the United States.

I also appreciated this point: the current policy “arrangement adversely impacts China’s trade partners. Currency manipulation artificially subsidizes Chinese exports, placing American manufacturers at a major disadvantage and violating World Trade Organization conventions. Furthermore, China’s endless purchase of treasury bonds depresses long-term interest rates in the United States. This diminishes domestic savings, encourages ill-advised lending, and makes it tantalizingly cheap to finance giant budget deficits.”

It’s another reminder of how a simple plan like “let’s borrow a trillion dollars and just pay it off later” can have unforeseen impacts that interfere with our ability to do just that. Often, cautious inaction is better than hasty, half-baked plans for change. It just doesn’t sound as good.

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