Question

The United States has run persistent trade deficits since the late 1970s, while Germany has had trade surpluses since the 1990s. Is either position inherently good or bad? Explain.

Answer 1

According to economic theory, the trade deficit is detrimental to a country and trade surplus is a good sign and it suggests that country is doing well. But economists have diverged views about trade deficit as some thinks that higher imports mean public of importing country will have access to quality products, and it will also increase competitiveness and improvement of quality in the domestic market.

So, we will analyze various economic factors and how trade imbalance affects them.

1. Unemployment: It can be said that higher imports will lead to job loss for the importing country. If a country is importing instead of producing the goods in the domestic market, then there is less job situation.

How these two countries have fared against this factor-

USA: Even though the US has a trade deficit for a long time, they have been able to manage the unemployment level at the manageable situation. So the US is apparently defying the theory that trade deficit will lead to higher unemployment

Germany: Germany has shown trade surplus for many years, and it has been able to keep unemployment level at a lower level, it follows the theory and has a lower level as compared to the USA for many years.

2.Interest rates: If a country has a trade deficit then it should ideally let the currency depreciate or devalue it to make exports attractive. So, this situation will lead to higher inflation as the value of the currency is lesser and this will force the central banks to raise the interest rates.

USA: The US has again defied this theory and show a lower level of interest rates for a longer period.

Germany: Germany as well as other European countries have lower rates and follow this theory.

3.Exchange rate: Ideally counties having trade deficit should exhibit depreciation of currency and trade surplus countries should have a higher value of the currency. So according to this theory, the US should have a lower value of the currency, but that is not the case as the dollar has strengthened and remained relatively stable over a more extended period.

It can be said that inherently trade surplus is better as compared to trade deficit situation but as we have seen that the US has defied this theory, but not all country can show similar characteristics. The USD is the most important currency, and this is also helping in many ways.

So, In conclusion, we can say that trade imbalance (deficit or surplus) can be country-specific.