|Trade Rains on the Jobs Parade|
This article was revised on March 23, 2012.
Earlier this month, the Department of Labor reported that 227,000 new jobs were added to the economy in February, marking the third consecutive month of positive jobs growth. Many observers have taken the news as evidence that the recovery is underway in earnest, helping send the S&P 500 index to the highest level in nearly five years. However, the very same day, the Commerce Department reported that after surging for much of the last year, the U.S. trade deficit increased to $52.6 billion for January - the largest monthly trade gap since October 2008. This second data point should dampen enthusiasm for the first.
From 2005 through mid-2008, those monthly figures almost always topped $50 or $60 billion, setting a monthly record of $67.3 billion in August 2006. But when the housing and credit markets imploded, attention was focused elsewhere. At that time, I was one of the few economists to raise a red flag about the dangers of growing trade deficits. In any event, the faltering economy took a huge bite out of imports, pushing the trade deficit down 45% in 2009. Even those people who were still paying attention to trade assumed that the problem was solving itself.
However, after reaching a monthly low of $35.7 billion in May of 2009, the trade deficit began to grow again, expanding 31% in 2010 and 12% in 2011. While the $52.6 billion deficit in January is still about 10% below the monthly average seen in 2006-2008, if GDP continues to nominally expand, as many assume it will, we may soon find ourselves in the exact same place in terms of trade that we were before the financial crisis began. That's not a good place to be.
If the jobs that we have created over the last few years had been productive, our trade deficit would now be shrinking, not growing. But the opposite is happening. These jobs are being created by the expenditure of borrowed money, and are not helping to forge a newer, more competitive economy. In the years before the real estate crash, our economy created millions of jobs in construction, mortgage finance, and real estate sales. But as soon as the bubble burst, those jobs disappeared. Today's jobs are similarly being built as a consequence of another bubble, this time in government debt. And, likewise, when this bubble bursts they too will vanish.
Throughout much of the last decade, I had continuously warned that the growing trade deficit was an unmistakable sign that the U.S. was on an unsustainable path. To me, monthly gaps of $60 billion simply meant that Americans were going deeper into debt (to the tune of $2,400 per year, per citizen) in order to buy products that we were no longer productive enough to make ourselves. I pointed out that America had become an economic juggernaut in the 19th and 20th centuries on the back of our enormous trade surpluses, which allowed for growing wealth, a stronger currency, and greater economic power abroad. This is exactly what China is doing today. Deficits reverse these benefits. (To learn how China is spending its surplus, see my latest newsletter.)
My critics almost universally dismissed these concerns, typically saying that our trade deficits resulted from our economic strength and that they were a natural consequence of our status at the top of the global food chain. I pointed out that even highly developed, technologically advanced economies still need to pay for their imports with exports of equal value. Instead, all that we have been exporting is debt and inflation.
The financial crisis initiated a painful, but needed, process whereby Americans spent less on imported products while manufacturing more products to send abroad. But the countless government fiscal and monetary stimuli stopped this healing process dead in its tracks. Government borrowing and spending redirected capital back into the unproductive portions of our economy. Health care, education, government, and retail have all expanded in the last few years. But manufacturing has not grown at the pace needed to solve the trade problem. In short, these jobs are creating more consumers and less producers, they are making us poorer rather than richer.
Job creation at home has been like vegetation sprouting along the banks of rivers of stimulus. These artificial channels may help temporarily, but they prevent trees from taking root where they are needed most. Our economy has yet to restructure itself in a healthy manner. The recession should have forced us to address the problem of persistent and enormous trade deficits. We have utterly failed to do this. So while the job numbers look good for now, the pattern is ultimately unsustainable.
The last time the monthly trade deficit was north of $50 billion, the official unemployment rate was under 6% and our labor force was considerably larger. Should this artificial recovery actually return millions of unemployed workers to service-sector employment, our monthly trade deficits could go much higher – perhaps eclipsing the previous records of 2006. It is possible that the annual deficits could top the $1 trillion mark, thereby joining the federal budget deficit in 13-digit territory.
Also, last week, we got news that our fourth quarter current account deficit widened 15% to just over $124 billion. The $500 billion of annual red ink is actually reduced by a $50 billion surplus in investment income (resulting primarily from foreign holdings of low-yielding US Treasuries and mortgage-backed securities – however, when interest rates eventually rise, this surplus will quickly turn into a huge deficit). At anything close to a historic average in employment and interest rates, today's structural imbalances could produce annual current account deficits well north of $1 trillion. As higher interest rates would also swell the federal budget deficit, it is worth asking ourselves how long the world will be willing to finance our multi-trillion dollar deficits?
Back in the late 1980s, when annual trade and budget deficits were but a small fraction of today's levels, the markets were rightly concerned about America's ability to sustain its twin deficits. This anxiety helped lead to the stock market crash of 1987. But with the boom of the '90s, all talk of trade deficits was dropped. Though I spoke out about the danger of having consumption chronically outstripping our productivity, the general feeling of prosperity meant my warnings fell on deaf ears – even as the deficit figures hit all-time record highs. This was a major factor in the economic implosion of 2008. However, even when the imbalance had reared its head, mainstream economics predicted that the economic contraction would slow consumption sufficiently to significantly close the gap. Once again, I took to the airwaves warning that if the government tried to solve the crisis by encouraging consumption instead of production, the trade gap would only get worse – causing a greater crisis in the near future.
The data has proven my point. Just as the prosperity of the '90s and '00s blinded us to the coming crisis in '08, the current talk of recovery is distracting investors, commentators, and even academics from rapidly degrading fundamentals. This course can only lead to a greater crisis, that I have dubbed in my latest book "The Real Crash."
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