Are We China’s Piggy Bank?

It is sad and disturbing that so many believe Trump the savoir of economic performance. His lack of awareness on markets and division of labor is absolutely astounding for a business person. In Monday night's presidential “debate,” he said “They’re using our country as a piggy bank to rebuild China, and many other countries are doing the same thing.” This is so sadly mistaken. Trump has the direction of economic causality entirely backwards. If there is a trade deficit, China is actually our piggy bank. Trump's personal brand of crazy is just the pre-Adam Smith version of economics: mercantilism.

Are we a Chinese piggy bank?

Mercantilism had a lot to do with the monarch's obsession with accumulating currency. As we know today, increasing the money supply without increasing production leads to inflation. Does Trump even know this? Unlikely.

Trump agrees: we need to “fix” the trade deficit and stop the other countries from taking “our jobs.” I’ll get to the money part shortly.

Fresh commodities from China. Remember: we want these things.

What will the Chinese citizens do with that money? They don’t accept USD in China (although I’ve never been). If they hold USD they have to spend it. They could put it under their mattress but most will be smarter than that. They could put it in a bank and that will make my point too (i.e. the bank will loan it). We already said that they only bought $50 Trillion in goods from the US and there is a trade deficit. So where do they spend it?

Mercantilism was the form of economic governance between the 1500’s and the 1800’s. The main idea was to have a positive balance of trade – meaning more exports than imports – and accumulation of money. Most countries relied on commodity money back then so exporting more than you import meant you would gain gold. Kings love to have extra gold.

Actually a trade deficit implies that China is our piggy banks. Think about it this way:

Imagine US citizens buy $100 Trillion in goods from China.

Imagine Chinese citizens only buy $50 Trillion in goods from the US.

How did the parties pay? The Chinese citizens got $100 Trillion in US currency and the US citizens got $50 Trillion in Chinese currency. The net is that Chinese citizens have $50 Trillion USD left over and the US citizens have 0 RMB. They spent it all. There is clearly a trade deficit.

They buy US investments.

China is the US’s piggy bank because – thanks to the trade deficit – Chinese citizens have extra US money to invest in us. In other words, the trade deficit finances a capital account surplus. China invests more in the US than the US invests in China. This takes the form of Chinese citizens buying American stocks, buying private equity in American businesses, or buying a home for themselves in the US. This is very clearly good for the US citizens because production will expand and asset prices will be bid up. Consumers and workers benefit from expanded production and home owners benefit from higher property values. Whatever the money is spent on, it's clearly not rebuilding China.

If the government tried to engineer higher exports to China, as Hillary Clinton suggested, this would erode the capital account surplus as much as Trump’s tariffs. The trade deficit would fall. But at least that would probably be Keynesian and not so much Mercantilist.

The consequences of ignoring this basic economic insight – that a trade deficit finances a capital account surplus – are many; including reduced investment, reduced production, reduced capital accumulation, higher prices, and lower real incomes. Trump wants to make us poorer so that his economically illiterate followers can have an authoritarian ego boost.