Japan ran a merchandise trade deficit in 2011! I missed the news when it was announced in January, and could hardly believe it. Japan running large trade surpluses has been one of the few constants of the last several decades, through good times and bad. Here\’s an illustrative figure from the Daily Yomiuri:
Of course, this event comes with some \”buts\” attached. The trade deficit largely arose from a onetime event: Japan\’s horrendous earthquake and tsunami in March 2011, which led industrial production and exports to fall while imports of natural gas rose. In addition,this trade deficit only involves merchandise trade: if one looks at the overall current account balance, which also includes income from foreign investments, Japan still shows a surplus.
But even if Japan returns to merchandise surpluses in 2012 or 2013, the days of perpetual surpluses in Japan seem numbered. If one squints just a bit at the figure above, one can imagine an overall downward trend in those trade surpluses since the late 1990s. At a fundamental level, a trade surplus means that an economy is producing more than it is consuming–and exporting the rest. But Japan is a rapidly aging society with a low birthrate where the size of the workforce topped out in 1998 and has been shrinking since then. Japan\’s government forecasts that the total population of the country will decline by one-quarter in the next 40 years, while the share of Japan\’s population over age 65 will rise from about 23% now to almost 40% by 2050. With this demographic outlook, it seems likely that Japan will become a country that will start to live off some of its vast accumulated savings, consuming more than it produces and running trade deficits, in the not-too-distant future.
The Doha round of trade talks kicked off in 2001. They now include 153 countries trying to reach agreement across nine areas at a time when the high-income countries are suffering the aftermath of a deep recession and watching a shift in global economic power toward emerging markets. After eleven years of negotiation, maybe it\’s time for the World Trade Organization to focus on something else.
Sure, there\’s a solid case to be made for the merits of the Doha trade round. Will Martin and Aaditya Mattoo edited a Vox e-book published last November called Unfinished Business: The WTO\’s Doha Agenda. In a column describing the main findings of the book, they point out: \”The tariff cuts on the table compare favourably with those achieved in earlier rounds of multilateral negotiations. Even after allowing for flexibilities such as for sensitive and special products, Doha would cut the applied tariffs faced by exporters of agricultural and non-agricultural goods by around 20% … The global real income gains from this market opening alone are conservatively estimated at around $160 billion per year. The agricultural proposals also include the abolition of export subsidies, and sharp reductions in maximum levels of domestic agricultural support in the EU and the US. … A hard-to-quantify but nevertheless significant gain from the negotiations would be greater security of market access.\”
Regional agreements can lead to reduced trade barriers within the group of participating countries, but greater trade barriers between that group and the rest of the world. Thus, their net effect on free trade is not clear. Caroline Evans of the San Francisco Fed points out in a recent newsletter that preferential/regional trade agreements often lead to complex \”rules of origin\” about what share of value-added was made in which country, and also to different tariff rates across countries. She gives an example of U.S. trousers imports:
\”Rules of origin are put in place to eliminate cheating, whereby one country imports a product from a non-partner country and then re-exports it to the free-trade partner. Satisfying rules-of-origin requirements has become increasingly complex, since production processes now stretch across multiple countries. When an assembling country sources inputs from a number of other countries and then exports the finished product to another final market, it becomes difficult to determine exactly where the product originates. Since each PTA has its own rules of origin for particular parties to the agreement, meeting those requirements may become quite complicated.\”
\”Different trade agreements also lead to separate tariff rates on imports from different countries. For example, U.S. imports of a certain kind of men’s trousers from most countries face a duty of $0.61 per kilogram plus 15.8% of the product’s value. However, if the trousers are imported from Bahrain, Canada, Chile, Israel, Jordan, Mexico, Peru, or Singapore, no duty is imposed. Trousers from Australia incur an 8% tariff; from Morocco $0.62 per kilogram plus 1.6%; and from Oman $0.488 per kilogram plus 12.6%. For non-WTO member countries, a $0.772 per kilogram plus 54.5% tariff is imposed. … Rules of origin and the profusion of tariff rates increase the costs of trade, both for businesses involved in cross-border commerce and governments enforcing trade rules. Furthermore, they may distort production decisions as businesses navigate the web of rules and rates to minimize transaction costs.\”
So if the Doha round is becalmed and the alternative of regional trade agreements is imperfect at best, what should the WTO and other friends of free trade be focusing on these days? Last November, the Strategy, Policy and Review Department of the IMF put out a paper called \”The WTO Doha Trade Round–Unlocking the Negotiations and Beyond\” with some suggestions for multilateral steps that could perhaps be debated and even implemented through the WTO mechanism.
Some of the ideas seem potentially useful to me. For example, greater monitoring of protectionist measures, including nontariff barriers and rules that require governments to buy domestically produced goods and services, seems like a step in the right direction. There are concerns that some countries restrict food exports at certain times, which makes other countries unwilling to rely on food imports, and thus leads them to subsidize their own domestic food production. Perhaps this set of issues could be isolated and discussed. And perhaps it might be possible for WTO to negotiate a set of guidelines for the proliferating preferential trade agreements, so that they are more likely to reduce overall trade barriers for the world economy, rather than reducing trade barriers for participants but raising them for everyone else.
On the other side, some of the IMF suggestions seem implausible to me. For example, one suggestion is that WTO should get into climate change issues, which would mean trying to jump-start one set of dead-in-the-water negotiations by getting involved in another set of dead-in-the-water negotiations. Another suggestion is that the WTO might develop an international antitrust policy. I\’m not feeling it.
The power of the World Trade Organization is often highly overstated in public discussions. It\’s not a colossus imposing its own vision of a new world economic order. It\’s an organization with a staff of about 600 people, where decisions are made by consensus of the 153 member nations. But it is useful to have a world meeting-place for hashing out international trade issues, and there\’s a lot of knowledge and experience and skill wrapped up in the WTO apparatus. But if the future of the WTO is wrapped up in the endlessly stalled Doha negotiations, the organization seems likely to marginalize itself into irrelevancy.
1) Start with a quick reminder for readers who last course in world history is lost in the mists of time. What was the Silk Road?
\”The original Silk Road initially developed under the Han Dynasty in China, which ruled from 206BCE to 220CE. For the next 1000 years or so, the Road (or, more accurately, the various routes) linked China with India, Central Asia, Rome (for a while) and, eventually, the Arab Caliphate involving trade in everything from spices and silk through to precious stones, ponies and slaves. The great Eurasian empires that developed during this period became mutually dependent. It all went wrong when the Mongols, under Genghis and Kublai Khan, managed to spread not just total brutality but also bubonic plague across the Eurasian land mass. Connections were severed and the various routes fell into disuse. Later, as the European nations developed their ocean-going fleets, the case for expensive land-based trade across Asia economically collapsed. Unlike the original, the Southern Silk Road won’t only be confined to Asia and Europe. It stems from connections over land, across the sea, through the air and within the electronic ether. And because the costs of transportation and communication have collapsed in recent decades, it is much more geographically diverse, offering the potential to create hitherto-unimaginable linkages between Asia, the Middle East, Africa and Latin America. If it is able to advance, the Southern Silk Road will radically alter the dynamics of the global economy in the years ahead. The economic centre of gravity is about to undergo a major shift.\”
2) On a timeline of U.S. per capita economic growth, China, Mexico and Brazil have about the per capita GDP that the U.S. had in 1940. India has about the per capita GDP that the U.S. had in 1882. Here\’s the figure. (On the vertical axis, GK$ refers to Geary-Khamis dollars, which is a purchasing power parity exchange rate.) However, in the last 10 years, India has caught up with 30 years of U.S. per capita growth, and China has caught up with 50 years of U.S. per capital growth.
3) Foreign direct investment has exploded in size, and the top recipients of inflows of foreign direct investment have changed substantially.
Using the standard UNCTAD data on foreign direct investment, the U.S. economy had the highest inflows in 1980, 1990, 2000, and 2009. But from 1980 to 2000, the level of those FDI inflows to the U.S. economy rose by a multiple of 18–before sagging back in the economic turmoil of 2009. But perhaps more interesting is that if one looks at the top 10 recipients of FDI inflows, one China and Hong Kong don\’t appear in 1980 or 1990. By 2000, China is 9th in FDI inflows and Hong Kong is 7th. By 2009, China is 2nd in FDI inflows and Hong Kong is 4th–and together, they would exceed total FDI inflows to the U.S. economy. Also by 2009, the Russian Federation, Saudi Arabia, and India are all in the top 10 for FDI inflows. Here\’s the table:
4) Predictions for continued long-run growth in China, India, Brazil, and elsewhere have a buried assumption that their growth will become far less dependent on the buying power of high-income countries, and instead far more dependent on growth generated internally or by trading with each other.
King writes: \”Excluding the possibility of trading with Mars or Venus, there are two primary options: either more of each emerging nation’s growth comes from internal sources or more comes from the emerging nations connecting economically with each other. The developed world simply won’t be big enough to accommodate the emerging world’s ambitions and expectations.\”
\”The last time multilateral trade rules were updated, Bill Clinton was in his first term of office, data was shared by airmailing 1.4 megabyte HD floppy disks (few people had email), cell phones looked like bricks and calling costs were measured in dollars per minute. Trade mostly meant selling goods made in a factory in one nation to a customer in another. Simple trade needed simple rules – a fact reflected in both multilateral and regional trade agreements.\”
Baldwin points out that patterns of trade in the 21st century are fundamentally different than the make-it-in-a-factory, ship-it-to-another country trade that prevailed in the late 20th century.
\”The heart of 21st century trade is an intertwining of: 1) trade in goods, 2) international investment in production facilities, training, technology and long-term business relationships, and 3) the use of infrastructure services to coordinate the dispersed production, especially services such as telecoms, internet, express parcel delivery, air cargo, trade-related finance, customs clearance services, etc. This could be called the trade-investment-services nexus. …
\”[T]he nexus entails two elements, each of which generated new demands for more complex international disciplines:
Doing business abroad. When firms set up production facilities abroad – or form long-term ties with foreign suppliers – they typically expose their capital as well as their technical, managerial and marketing know-how to new international risks. Threats to these tangible and intangible property rights became 21st century trade barriers.
Connecting international production facilities. Bringing high-quality, competitively-priced goods to customers in a timely manner requires international coordination of production facilities via the continuous two-way flow of goods, people, ideas and investments. Threats to these flows became 21st century trade barriers.
For an illustration, here\’s a graph of the number of Japanese auto and electrical machinery plants manufacturers in other countries in east Asia, and how they have increased in the last 20 years or so.
The basic role of the World Trade Organization, as with the GATT before it, has been to reduce tariffs gradually over time, and to referee arguments over what trade practices are \”unfair.\” But when thinking about 21st century trade, in which supply chains and ownership stretch across international borders, this focus is inadequate. Baldwin offers some examples of the kinds of international agreements that are needed to facilitate 21st century trade–or to put it another way, the kinds of agreements whose absence will tend to block the development of 21st century trade. Here are his examples:
The sharing of tacit and explicit technology and intellectual property is facilitated by assurances that foreign knowledge-capital owners will be treated fairly and their property rights will be respected.
Foreign investments in the training of workers and managers, physical plant, and the development of long-term business relationships are facilitated by assurances on property rights, rights of establishment, and anticompetitive practices.
Assurances on business related capital flows – ranging from new FDI to profit repatriation – also helped foster the investment part of the trade-investment-services nexus.
Connecting factories often involves time-sensitive shipping, world class telecoms and short-term movement of managers and technicians, so assurances on infrastructure services are also important.
Tariffs and other border measures also matter – just as they mattered in the 20th century but more so since the ratio of value added to value on individual shipment falls as the production chain fragments, even though tariffs are applied to the value of the goods as they cross borders.
In short, tariffs still matter, and non-tariff barriers still matter, but in 21st century trade, they become a much smaller part of the overall trade liberalization agenda. In addition, negotiations over these matters tend to detailed and industry-specific. Baldwin argues that the need for a new kind of trade liberalization has contributed to the near-zero progress in recent years on an overall Doha trade agreement, while at the same time the world economy has seen a \”regionalist\” trade agenda, in which countries negotiate regional trade agreements, bilateral investment treaties, and even take unilateral steps to reassure potential trade partners. This graph shows on the right-hand axis the drop in world tariff rates over time, and on the left-hand axis the explosion of new regional trade agreements.
So far, as Baldwin readily admits, the regionalist trade agenda has not blocked a dramatic expansion in world trade: \”Trade liberalisation has progressed with historically unprecedented speed in the 21st century … As a result, trade volumes have boomed, lifting billions out of dire poverty. Twenty years ago, one could wonder whether regionalism would be a building or stumbling block; now we know there were no stumbling blocks on the road to zero tariffs. The road remained open and the world is driving down it as fast as ever.\”
But on the other side, the notion of global trading rules is being continually eroded. In such a world, the world\’s most powerful economies–which will include the U.S., the nations of Europe, along with rising global trading powers like China, India are Brazil –will write new ad hoc trading rules as they go. Baldwin notes: \”If the RTAs and their power asymmetries take over, there is a risk that the GATT/WTO would go down in future history books as a 70-year experiment where world trade was rules-based instead of power-based. It would, at least for a few more years, be a world where the world\’s rich nations write the new rules-of-the-road in settings marked by vast power asymmetries. This trend should worry all world leaders.\”
How to rethink the world trading rules so that they can focus clearly on the issues of 21st century trade is very much a work in progress. But as world trade rules march steadily toward an ad hoc set of bilateral and regional agreements based on the economic power of the participants, it\’s important to start considering what alternative paths might be viable.
Martin Wolf coined the term \”Chermany\” in one of his Financial Times columns in March 2010. China and Germany have been running the largest trade surpluses in the world for the last few years. Moreover, one of the reasons they both have such large trade surpluses is that the exchange rate of their respective currencies is set at a low enough level vis-a-vis their main trading partners to assure a situation of strong exports and weaker imports. Germany\’s huge trade surpluses are part of the reason that the euro-zone is flailing. Could China\’s huge trade surpluses at some point be part of a broader crisis in the U.S. dollar-denominated world market for trade?
Start with some facts about Chermany\’s trade surpluses, using graphs generated from the World Bank\’s World Development Indicators database. The first graph shows their current account trade surpluses since 1980 expressed as a share of GDP: China in blue, Germany in yellow. The second graphs shows their trade surpluses in U.S. dollars. Notice in particular that the huge trade surpluses for Chermany are a relatively recent phenomenon. China ran only smallish trade surpluses or outright trade deficits up to the early 2000s. Germany ran trade deficits through most of the 1990s. In recent years, China\’s trade surpluses are larger in absolute dollars, but Germany\’s surpluses are larger when measured as a share of GDP.
Those who have trade surpluses, like China and Germany, wear them as a badge of economic virtue. Those with trade deficits, like the United States, like to complain about those trade surpluses as a sign of unfairness, and wear our own trade deficits as a hairshirt of economic shame. In my view, the balance of trade is the most widely misunderstood basic economic statistic.
The economic analysis of trade surpluses starts by pointing out that a trade surplus isn\’t at all the same thing as healthy economic growth. Economic growth is about better-educated and more-experienced workers, using steadily increasing amounts of capital investment, in a market-oriented environment where innovation and productivity are rewarded. Sometimes that is accompanied by trade surpluses; sometimes not.China had rapid growth for several decades before its trade surpluses erupted. Germany has been a high-income country for a long time without running trade surpluses of nearly this magnitude. Japan has been running trade surpluses for decades, with a stagnant economy over the last 20 years. The U.S. economy ran trade deficits almost every year since the 1980, but has had solid economic growth and reasonably low unemployment rates during much of that time.
Instead, think of trade imbalances as creating mirror images. A country like China can only have huge trade surpluses if another country, in this case the United States, has correspondingly large trade deficits. China\’s trade surplus means that it earns U.S. dollars with its exports, doesn\’t use all of those U.S. dollars to purchase imports, and ends up investing those dollars in U.S. Treasury bonds and other financial investments. China\’s trade surpluses and enormous holdings of U.S. dollar assets are the mirror image of U.S. trade deficits and the growing indebtedness of the U.S. economy.
For the European Union as a whole, its exports and imports are fairly close to balance. Thus, if any country like Germany is running huge trade surpluses, it must be balanced out by other EU countries running large trade deficits. Germany\’s trade surpluses mean that it was earning euros selling to other countries within the EU, not using all of those euros to buy from the rest of the EU, and ending up investing the extra euros in debt issued by other EU countries. In short, Germany\’s trade surpluses and build-up of financial holdings are the necessary flip side of the high levels of borrowing by Greece, Italy, Spain, Portugal, and Ireland.
Joshua Aizenman and Rajeswari Sengupta explored the parallels between Germany and China in an essay in October 2010 called: \”Global Imbalances: Is Germany the New China? A sceptical view.\” They carefully mention a number of differences, and emphasize the role of the U.S. economy in global imbalances as well. But they also point out the fundamental parallel that China runs trade surpluses and uses the funds to finance U.S. borrowing. They write: \”Ironically, Germany seems to play the role of China within the Eurozone, de-facto financing deficits of other members.\”
Of course, when loans are at risk of not being repaid, lenders complain. German officials blames the profligacy of the borrowers in other EU countries. Chinese officials like to warn the U.S. that it needs to rectify its overborrowing. But whenever loans go really bad, it\’s fair to put some of the responsibility on the lender, not just the borrowers.
If a currency isn\’t allowed to fluctuate–like the Chinese yen vs. the U.S. dollar, or like Germany\’s euro vs the euros of its EU trading partners–and if the currency is undervalued when compared with wages and productivity in trading partners, then huge and unsustainable trade imbalances will result. And without enormous changes in economic patterns of wages and productivity, as well as in levels of government borrowing, those huge trade imbalances will eventually lead to financial crisis.
A group of 16 prominent economists and central bank officials calling themselves the \”Committee on International Economic Policy and Reform\” wrote a study on \”Rethinking Central Banking\” that was published by the Brookings Institution in September 2011. They point out that most international trade used to be centered on developed countries with floating exchange rates: the U.S., the countries of Europe, and Japan. A number of smaller economies might seek to stabilize or fix their exchange rate, but in the context of the global macroeconomy, their effect was small. There was a sort of loose consensus that when economies became large enough, their currencies would be allowed to move.
But until very recently, China was not letting its foreign exchange rate move vis-a-vis the U.S. dollar. As the Committee points out: \”While a large part of the world economy has adopted this model, some fast-growing emerging markets have not. The coexistence of floaters and fixers therefore remains a characteristic of the world economy. … A prominent instance of the uneasy coexistence of floaters and fixers is the tug of war between US monetary policy and exchange rate policy in emerging market “fixers” such as China.\” The Committee emphasizes that the resulting patterns of huge trade surpluses and corresponding deficits lead to spillover effects around the world economy.
The Brookings report doesn\’t discuss the situation of Germany and the euro, but the economic roots of an immovable exchange rate leading to unsustainable imbalances apply even more strongly to Germany\’s situation inside the euro area.
The world economy needs a solution to its Chermany problem: What adjustments should happen when exchange rates are fixed at levels that lead to unsustainably large levels of trade surpluses for some countries and correspondingly large trade deficits for others? Germany\’s problems with the euro and EU trading system are the headlines right now. Unless some policy changes are made, China\’s parallel problems with the U.S. dollar and the world trading system are not too many years away.
The U.S. International Trade Commission has published the 7th edition of its occasional report: \”The Economic Effects of Significant U.S. Import Restraints.\” The report comes in two main parts. The first part, discussed in an earlier post here, is an overview and status report on the main U.S. barriers. The second part concerns the trend toward longer global supply chains. Here are some highlights (with footnotes and citations expunged for readability throughout):
Description and illustration of a basic global supply chain
\”For example, a domestic firm might provide the R&D and design of a product, and produce the initial intermediate inputs using local raw materials, as in figure 3.1. Then these intermediate inputs would be exported to a second country, where a firm would use them to produce a semifinished product. That firm would then export the semifinished good to a third country, where the final good is assembled and packaged. The third country would then export the good back to the domestic firm, which would oversee the marketing, retailing, and delivery of the product domestically and abroad. Supply chains like these require extensive organizational oversight. They also typically involve heavy reliance on telecommunications to ensure that different stages of the product are made to specification and on logistics to coordinate the movement of material across many firms and countries. As the case studies later in this chapter illustrate, global supply chains can involve complex interconnections between different tasks, as well as between domestic and foreign firms carrying out those tasks. This complexity is managed by lead firms in the chain that oversee production and make other key decisions …
What factors are driving longer global supply chains? A key force behind the widespread development of global supply chains has been technological change. Over time, technological change has allowed more production processes to be fragmented—split into stages or tasks—and those stages or tasks to be carried out in new, often distant locations. For example, in the 1970s some apparel production for the U.S. market was offshored in nearby countries in the Caribbean region. But advances in telecommunications and in transport have allowed the industry to source from distant Asian suppliers and still meet the time-sensitive demands of the industry. … Two other important drivers in the development of global chains are the extensive global trade liberalization (e.g., reduction in tariff and nontariff barriers) and falling transportation costs that have occurred in the past quarter-century. Because goods and services produced by global supply chains typically cross borders multiple times, they pass through multiple customs regimes and are affected by multiple tariffs and nontariff barriers. Thus, the benefits of trade liberalization can also be multiplied for goods and services produced in global supply chains.\”
Expansion of the processing trade
\”Numerous countries have set up programs to encourage processing trade, which allow duty-free imports of components used in products made solely for export. Using data on these programs provides a more direct measure of global supply chain trade, since all of the trade in the components and products affected by the programs moves through a supply chain. China and Mexico are the two largest users of export processing regimes in the developing world, and together account for about 80–85 percent of such exports worldwide. Chinese trade grew by more than 800 percent between 1995 and 2008—and about half of this growth is attributable to Chinese processing trade. Mexico is also heavily reliant on processing trade; processing imports represented over 50 percent of total Mexican imports in 2006.\”
A Cautionary Story for the U.S. in Global Supply Chains: Flat-Panel Display Televisions
There are two key components for FPD [flat-panel display] televisions, the display panel and the chipset, which together account for 94 percent of the costs. The global supply chain for FPD televisions uses glass produced in Japan and Korea; displays incorporating the glass, assembled in Japan, Korea, and Taiwan; and semiconductor chip sets designed in the United States and elsewhere and produced in China, Korea, Singapore, and Taiwan. Assembly occurs principally in China, the world’s largest television producer, although most sets destined for the U.S. market are assembled in Mexico. … U.S. participation in the global supply chain is now limited to the design of chips, some product development, distribution, marketing, and customer service. The last U.S. television factory (owned by Sony) closed in 2009. All televisions sold in the United States now are imported from original equipment manufacturers (OEMs) with factories outside the United States (principally in Mexico) or from contract manufacturers with factories principally in Mexico and China. The sole remaining U.S.-headquartered television brand, Vizio, entered the U.S. market in 2002. Vizio has no factories of its own, but rather uses contract manufacturers in China, Taiwan, and Mexico to produce goods to Vizio’s specifications. Although Vizio builds products that incorporate current technology, it does no R&D; instead, it purchases patents or licenses the technology from other patent owners. Vizio has also acquired other patents, which it licenses to other television manufacturers. The principal suppliers of finished televisions to Vizio are two contract manufacturers in Taiwan, Foxconn and Amtran. These companies are also part owners of Vizio.\”
A U.S. Success in Global Supply Chains: Logistics
U.S. firms are among the leading logistics providers worldwide and hence have become essential participants in global supply chains. Logistics, the coordinated movement of goods and services, encompasses diverse activities that oversee the end-to-end transport of raw, intermediate, and final goods between suppliers, producers, and consumers…. The largest and most diversified U.S. logistics firms are FedEx and UPS, although for both firms, primary revenues are derived from the express delivery of letters and small packages. Some other large U.S.-based logistics firms include C.H. Robinson Worldwide, Expeditors International of Washington, Caterpillar Logistics Services, and Penske Logistics. All of these firms operate globally and typically have hundreds of offices worldwide. Like FedEx and UPS, these firms have added logistics and supply chain capabilities to their main lines of business which, for example, include the transportation of heavy freight (Caterpillar) and the arrangement of transportation services (C.H. Robinson and Expeditors). For all firms, supply chain management is a fast-growing business segment, with U.S. revenues for supply chain services having grown by about 20 percent during 2004–09.
Shifting to a value-added view of trade
When products cross national borders several times, then instead of focusing on the value of what crosses the border, which is \”gross trade,\” it becomes important to understand \”value-added\” trade–that is,what value-added occurred within your country. One approach here is to look at the foreign content in your production. The green line shows that foreign content in U.S. manufacturing has risen from about 10% in the mid-1980s to more than 25% now. Overall foreign content in U.S. exports has risen, but more slowly, from about 8% in the late 1970s to as high as 15% before the recession hit full force in 2008.
Looking at value-added also affects how one sees bilateral trade patterns. Here\’s an explanation: \”China is the final assembler in a large number of global supply chains, and it uses components from many other countries to produce its exports. The figure below shows that the U.S.-China trade deficit on a value-added basis is considerably smaller (by about 40 percent in 2004) than on the commonly reported basis of official gross trade.b By contrast, Japan exports parts and components to countries throughout Asia; many of these components are eventually assembled into final products and exported to the United States. Thus the U.S.-Japan trade balance on a value-added basis is larger than the comparable gross trade deficit. The U.S. value-added tradedeficits with other major trading partners (Canada, Mexico, and the EU-15) differ by smaller amountsfrom their corresponding gross trade deficits.\”
Other ways in which longer global supply chains change thinking about international trade Here are some other changes: \”Modern complex supply chains generate more trade than traditional supply networks in which only raw materials or final goods might be sent across international borders. In the earlier example of a supply chain in which the stages in figure 3.1 were carried out in three countries, the product was exported three times before being sold in final form at home or abroad. Global chains can also generate new patterns of specialization, as firms in a particular country often specialize in a particular stage or task. In electronics, for example, intermediate and semifinished goods are often produced in Japan, Hong Kong, South Korea, and Taiwan, while final assembly activities are often contracted to Chinese firms. Finally, global chains can change the nature of a nation’s trade. As countries become more vertically specialized, their imports and exports are increasingly composed of intermediate goods and services that are moving to the next stage in the chain.\”
I would add two final thoughts here:
1) It will be interesting to see if the growth of global supply chains alters the political economy of trade. In the old view of trade, firms within a certain country made goods like cars or machine tools or computers. That doesn\’t happen so much any more; instead, firms within a country do pieces and parts of the production process. As manufacturers of cars and computers and other goods become less national in scope, will there be less political pressure to protect them from international trade? Or will being more economically intertwined make trade seem like a more frightening and salient issue?
2) The U.S. economy has some large advantages in a world of longer global supply chains: the sheer size of its existing markets; its functional rules of law and finance; its expertise in logistics and marketing; its well-developed communication and transportation facilities; the cultural and personal connections that American has throughout the world economy; its R&D and scientific capabilities; and the flexibility of its workers and firms. There are a lot of clouds in the future economic outlook for the U.S., but one potential bright spot–if we go out and seize it–is the multiplicity of roles that the U.S. can play in the longer supply chains of an evolving global economy.
For more on this subject, and in particular some measures of how foreign content in exports has evolved over recent decades, see my post from August 19 is about an IMF report on Longer Global Supply Chains.
The main message of the first part the report is that the U.S. economy is in general extremely open to imports: \”The United States is one of the world’s most open economies. In 2010, the average U.S. tariff on all goods remained near its historic low of 1.3 percent, on an import-weighted basis, essentially unchanged from the previous update in 2009. Nonetheless, significant restraints on trade remain in certain sectors. The U.S. International Trade Commission (Commission) estimates that U.S. economic welfare, as defined by total public and private consumption, would increase by about $2.6 billion annually by 2015 if the United States unilaterally ended (“liberalized”) all significant restraints quantified in this report. Exports would expand by $9.0 billion and imports by $11.5 billion. These changes would result from removing import barriers in the following sectors: sugar, ethanol, canned tuna, dairy products, tobacco, textiles and apparel, and other high-tariff manufacturing sectors.\”
The single most costly trade barrier concerns rules against importing ethanol. The fact that such rules exist at all, of course, strongly suggests that the key issue in ethanol policy is not how much gasoline we can replace, but instead how much of a subsidy can find a justification for sending to farmers. Here\’s the ITC overview:
\”Because of rapidly increasing quantities of ethanol mandated by the U.S. Renewable Fuel Standard, both U.S. ethanol production and U.S. imports of ethanol are projected to rise markedly by 2015. The projected higher import quantities and the continued moderate restrictiveness of ethanol restraints combine to make these restraints the most costly (in welfare terms) among all sectors considered. The Commission estimates that liberalizing ethanol import restraints would increase welfare by $1.5 billion and increase imports by 45 percent in 2015. Although liberalization would reduce the domestic industry’s output and employment from their projected 2015 levels by 4–5 percent, these changes are minor considering that the ethanol industry employment and output are both projected to more than double between 2005 and 2015, with or without liberalization.\”
One final element of these reports that I always appreciate is that they treat employment issues in the context of the overall economy where over time wages and industries adjust. Thus, while for each trade barrier the report seeks to quantify output and employment changes that would arise if that trade barrier was lifted, the report is also careful to note that as the economy adjusts, an equivalent number of job would arise elsewhere. This message comes through far too seldom in discussions of international trade: barriers to trade, or lifting barriers to trade, aren\’t going to alter the total number of jobs over time, but instead will shift the industries and sectors where those jobs occur.
The Strategy, Policy, and Review Department of the IMF published a paper on \”Changing Patterns of Global Trade\” on June 15. I think students of economics often get a good sense of how international trade can benefit all nations participating, but at least at the intro level, they often get a less good sense of the actual patterns of international trade. One emphasis of the report is on longer global supply chains. Here are a few patterns and facts.
1) The share of foreign content embedded in gross exports is rising. A country can import certain goods or services, use them in production, and then export them again. The share of foreign value-added in exports measures this process, and it has been steadily rising since the 1970s. Here\’s a table combining several studies, showing a rise in foreign value-added in exports from 18% in 1970 to 24% in 1990, 27% in 1995, and 33% by 2005. This is a sign of longer global supply chains and rising global interconnectedness.
2) For some countries, gross exports can be less useful as a measure of what the country produces for export than the domestic value-added content of exports. This figure shows gross exports as the dark line for each country, and domestic value added as the shaded line–the difference between the two is foreign value-added that is re-exported. For a number of countries like Singapore, Malaysia, and Thailand, there\’s a big gap between the two.
3) The rise in foreign value-added in exports varies across countries and across industries. Here\’s a table I compiled out of statistics in the report. In China and Japan, the share of foreign-value added almost doubled from 1995 to 2005–which is a signal of the Asian regional economy becoming much more integrated, with inputs often crossing borders several times at different stages of production. The rise in foreign value-added as a share of total exports is noticeable but lower in the U.S. and Germany. If one looks just at the rise in foreign value-added as a share of exports in the high technology sector, these patterns are even more pronounced.
4) World trade has tripled since the 1950s. \”World trade has grown steadily since World War II, with the expansion accelerating over the past decade. Despite a post-crisis dip, the current level of world gross exports is almost three times that prevailing in the 1950s (Figure 1). With the exception of commodity-price booms in the 1970s and more recently in 2004-2008, commodity trade accounted for a declining share of this growth, with the share of noncommodity trade rising to more than 20 percent of global GDP in 2008.\”
Although the growth in world trade over time looks bumpy but more-or-less continual, the type of trade is changing. The growth in trade in the 1950s and 1960s was often a result of lower tariffs, for example. But in recent years, the growth in trade stems from an increasingly interconnected web of countries, who often are producing increasingly similar products.
5) Trade in higher technology goods has led the rise in international trade. \”The structure of trade has been characterized by a rising share of higher technology goods (Figure 4). The contribution of high-technology and medium-high-technology exports such as machinery and transport equipment increased, whereas that of lower technology products such as textiles declined. Technology intensive export structures generally offer better prospects for future economic growth. Trade in high-technology products tends to grow faster than average, and has larger spillover effects on skills and knowledge-intensive activities. The process of technological absorption is not passive but rather “capability” driven and depends more on the national ability to harness and adapt technologies rather than on factor endowments.\”
They summarize how the iPod affects jobs and wages in this way: \”[W]e analyze the iPod, which is manufactured offshore using mostly foreign-made components. In terms of headcount, we estimate that, in 2006, the iPod supported nearly twice as many jobs offshore as in the United States. Yet the total wages paid in the United States amounted to more than twice as much as those paid overseas. Driving this result is the fact that Apple keeps most of its research and development (R&D) and corporate support functions in the United States, providing thousands of high-paid professional and engineering jobs that can be attributed to the success of the iPod.\”
Here are three tables: 1) \”iPod-related jobs by country and category,\” with the jobs divided into the categories of \”Production,\” \”Retail and other nonprofessional,\” and \”Engineering and other professional. 2) iPod-related wages by country and category, $2006; and 3) Average annual employee earnings by job category.
The U.S. economy has essentially none of the production jobs, but about two-thirds of the jobs created in the other categories. Despite having essentially none of the production jobs, the U.S. has about 70% of the total wages earned.