On persistent trade imbalance


According to standard economic theory, a country running a trade surplus will see its own currency appreciated, which drives up its cost until a trade balance is reached. If the exchange rate is fixed by the government, it needs to print extra money to neutralize the inflow of foreign currency. The increased domestic money will drive up its cost until a trade balance is reached. But a more detailed analysis will show that under certain conditions, trade imbalance can persist for a long period.

The appreciation of domestic currency  will increase its purchasing power. Most domestic residents, including labor, will benefit. However, if the trade balance is restored soon, there will be no easy money to be made for the capital. From the perspective of the capital, it would prefer to maintain trade imbalance as long as possible. This can be achieved through the retention of most trade surplus to capital. This will keep the labor cost remain low. In this way, competitive edge is preserved. However, this practice will harm, or at least reduce the benefit of the labor. It can only be achieved in a society where capital is more powerful than labor. By contrast, in a society when labor is more powerful, trade surplus cannot be expected to last, for the benefit of competitiveness is shared by the whole population, which increase labor costs. 

After WWII, US was the dominant force in economic output. It initially had huge trade surplus. However, the rapid rise of workers’ salaries soon caused trade to balance, then to deficit. In China, the trade surplus has persisted for a long time. This is because capital is more powerful in China. Most trade surplus goes to the capital, which parks much of its surplus in US government bonds. 

Jamie Galbraith stated that the persistent trade imbalance is caused by persistent buying of US bonds by foreign entities, such as Chinese government. This is certainly true. The average Chinese is still rather poor and has to work very hard. If ordinary Chinese people as a group are powerful, they will demand the surplus to be directed to domestic causes instead of parking in foreign bonds. The very fact that the Chinese government can spend large sum on US bonds indicates the power of capital, or the lack of power of labor in China. 

Who benefit from such an arrangement? First, it is the capital from China, whose owners structure this system. Second, it is the capital from US, which co-structure the system. Judging from the return of US capital markets and the pay of top executives, the capital from US does very well in last several decades. Third, US consumers, who enjoy low cost on most goods. Some might suggest labor in China also benefit from the system. This is in comparison with an earlier era when majority of Chinese people were slaves. 

In this trade system, Chinese labor input hard work and receive all the pollution, US government pays the products with a piece of paper with a big number on it. Certainly US benefit from such an arrangement, as pointed out by many people. If so, why US government complains about it? Well, it can squeeze even higher margin from such a system. After all, the capital from China has been immensely profitable.