Recently, both the U.S. and China announced policy changes, or campaigns, with 2025 as a target date. Although the date was similar, the substance of each was not, illustrating why the U.S. continually runs trade deficits and China trade surpluses.
In the U.S., for example, Congress recently passed a major overhaul of the tax code, which cut both business and individual taxes. The individual tax cuts, which account for 70% of the total tax reduction according to the Congressional Budget Office (CBO), expires at the end of 2025. 2025 was a forced sunset clause, due to an agreed upon projected revenue loss.
Nevertheless, whether it was by default or design the main purpose of the tax legislation was to boost consumer cash flow and consumption over the next several years. Undoubtedly, this policy change will boost imports since two-thirds of U.S. trade deficit is in consumer goods.
In contrast, "Made in China 2025" is a policy blueprint to enable the country to become self-sufficient in 10 advanced manufacturing industries, which include robotics, aircraft, computer microchips, new energy vehicles, artificial intelligence, biotech and 5G mobile phone communications. China's new policy is intended to move up the value chain in manufacturing and to build a substantial scale in many industries to further increase its dominance in foreign trade, like what they did with other types of manufacturing.
China's prior success in manufacturing and trade was also part of industrial policies that gave established and start-up companies cheap financing, an undervalued currency, export promotion and import protection. In addition, U.S. companies, as well as other foreign companies, that wanted to operate in China were forced to align with a domestic partner and be willing to transfer their intellectual property.
At times, U.S. protested China's "manufacturing thievery" as they often violated or ignored the rules of the World Trade Organization (WTO). Yet, there was a view shared by many that this "co-dependency" offered more benefits than costs to the U.S.
For example, there were more consumers that were able to benefit from lower priced imports than jobs lost in manufacturing; there were more companies that benefited from cheaper input costs and global supply chains than were forced to close plants; and the attendant reduction in inflation from lower priced imports brought about lower interest rates and higher asset values, and more nominal wealth to households.
Yet, the costs of running chronic trade deficits have now produced negative macroeconomic effects for the U.S. that'S hard to ignore any more. To be sure, real GDP growth over the past two business cycles have averaged a little more than 2%, or about one-third less than the historic average. Almost all of the growth under-performance can be explained by anemic growth in the manufacturing sector, which for the first time in the post war period grew less than GDP as foreign produced goods squeezed domestic production.
Also, one of the direct effects of the chronic trade deficits is a major shift in the ownership of U.S. assets. At the end of 2017, the U.S. net international investment position stood at negative $7.8 trillion, a tenfold increase in the last 20 years. Foreign investors own a record $19.5 trillion of U.S. debt securities and equities, or about two-thirds of the direct holdings of U.S. households. Twenty years ago, foreign ownership of U.S. debt and equity assets accounted for only a third of U.S. household holdings.
China trade representatives and the U.S. have just concluded talks following the Trump Administration's threat to impose tariffs on a large amount of imports from China if U.S. companies are not given equal access to the China's domestic market and intellectual property rights are protected as well. The talks ended with China agreeing to increase its purchase of U.S. made goods, although no specific amount was agreed upon.
Regardless of the scale of these new purchases by China, the fundamental problems with trade remain in place. That is, China operates with a multifaceted playbook to promote manufacturing and trade and the U.S. does not. If the U.S. wants to win at trade it needs to act and behave like China and develop an industrial policy. Yesteryear rules on trade no longer apply, since the United States' main competitor (China) does not follow the same rule book. Critics would agree that runs counter to the American way, but there is already massive government involvement in finance, housing, healthcare and agricultural to name a few.
Mr. Herbert Stein once said, "If something cannot go on forever, it will stop". The U.S. has ability to reverse the trends in manufacturing and foreign trade, but does it have a large enough constituency to do it is the big unknown.
By: Joseph G. Carson, former Director of Global Economic Research Alliance Bernstein
Joseph G. Carson joined Alliance Bernstein in 2001. He oversaw the Economic Analysis team for Alliance Bernstein Fixed Income and has primary responsibility for the economic and interest-rate analysis of the US. Previously, Carson was chief economist of the Americas for UBS Warburg, where he was primarily responsible for forecasting the US economy and interest rates. From 1996 to 1999, he was chief US economist at Deutsche Bank. While there, Carson was named to the Institutional Investor All-Star Team for Fixed Income and ranked as one of Best Analysts and Economists by The Global Investor Fixed Income Survey. He began his professional career in 1977 as a staff economist for the chief economist's office in the US Department of Commerce, where he was designated the department's representative at the Council on Wage and Price Stability during President Carter's voluntary wage and price guidelines program.
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