How Bad is the U.S. Trade Deficit with China?

San Pedro Harbor
Creative Commons License photo credit: prayitno

According to a new study by Asian Development Bank Institute, some of the U.S. trade deficit with China may be a statistical illusion (pdf).  More specifically, they delve into how the iphone, invented in the U.S., actually makes our trade deficit with China worse.

In a nutshell, China is only an assembler of the iphone, yet, beancounters count the whole value of the finished iphone rather than the value-added by Chinese assemblers.  On a value-added basis, the trade deficit in iphones becomes a trade surplus.  Here is an excerpt from the study:

Being solely an iPhone assembly center, the PRC first imports all components and then re-exports them as the final assembled product to the US. The imported components from other countries greatly inflate the export value. If iPhone exports from the PRC to the US were calculated based on the value-added contributed by PRC workers, i.e., the assembling cost, the value of the PRC’s iPhone exports to the US would be much smaller, at only US$73.5 million. Accordingly, the trade deficit associated with iPhone trade would also drop substantially. As mentioned above, the PRC imported US$121.5 million worth of components from the US companies Broadcom and Numonyx for assembling iPhones. Based on the value added approach, the US would have no deficits but a US$48 million trade surplus with the PRC in iPhones related trade. The sharp contrast between the two different trade deficit measurements indicates that conventional trade statistics are not consistent with the trade where global production networks and production fragmentations determine cross-country flows of parts, components, and final products. Bilateral trade imbalances between a country used as a final assembler and its destination markets are greatly inflated by trade in intermediate products. These statistics provide a distorted picture about bilateral trade imbalances.

While this study is interesting, the Chinese are still sitting on $3 trillion dollars worth of foreign exchange reserves. That is no statistical illusion and someone needs to do something about it . . . paging Donald Trump? Sorry, I just couldn’t resist 🙂

Gross Output V: New 2009 Data

The new Gross Ouput data was released in mid-December, but I’ve just become aware of it now.  The new data is shocking in terms of its revelation into the nature of the “Great Recession.”

As shown in the chart below, just as with the two previous recessions, the drop in Intermediate Inputs (II) was much steeper than Gross Domestic Product (GDP).  As a quick refresher, II represent what businesses buy while GDP represents what consumers buy (with some caveats).

However, unlike the previous two recession, this recession saw a whopping 13.2 percent plunge in II.  GDP, on the other hand, fell by a mere 2.7 percent.  Though both II and GDP fell further than in the last two recessions.

Yet, I think the key to understanding what’s going on the economy in terms of the lack of employment growth is rooted in this II plunge.  If businesses aren’t investing, then they have no need for additional labor.  We know that GDP turned positive in 2010, but its unlikely that II did (though the decrease surely, or hopefully, eased).

Long story short, until II is strongly back into positive territory, I don’t think you will much of positive change in the unemployment rate.  The chart also shows that there is a significant lag between when GDP goes positive and when II goes positive.  Given the large plunge in II, that lag maybe longer than usual as well.  This suggests we won’t see strong employment growth until at least 2012.

It’s too bad we can’t get this data more quickly . . .

The Percent Change in Gross Ouput, Intermediate Inputs and Gross Domestic Product between 1988 and 2009

Gross Output IV

Sorry, this blog has been sitting on the shelf for far too long.  In my previous blog on Gross Output, I fully disaggregated business-to-business (B2B) expenditures versus consumer expenditures.  The chart in that blog showed that B2B expenditures made-up 53.5 percent of Gross Output while consumer expenditures made-up a much lower 38 percent.

In addition to being larger than consumer expenditures, B2B transactions are also more volatile and thus more important when it comes to understanding the ups-and-downs of the business cycle.  As shown in the chart below, B2B expenditures in both of the last two recessions (1991 and 2001) went negative in a big way.  The growth rate for consumer expenditures, on the hand, fell but did not go negative.  In fact,the growth rate for consumer expenditures has not gone negative over the entire 1988 to 2008 time-period . . . things that make you go hhhhmmmmm.

Overall, this initial look at the Gross Output data strongly suggests that B2B expenditures are the most important indicator of economic activity.  This nugget fits an important part of Austrian Business Cycle Theory in which “malinvestment” is an important player.  Put simply, malinvestment represent all of those business plans which crash-and-burn.  When the incidence of malinvestment increases, as it did during the two recent credit-induced manias, then the economy as whole follows it down the rabbit hole.

I think this will be the last blog of this series for awhile for several reasons.  First, the Gross Output data, to the best of my knowledge, is only updated once a year and that doesn’t occur again until the spring of 2011.  Second, I need to dig deeper into the data to see what other types of nuggets may be lying around.  Hopefully, I’ll have more on this important topic in the near future . . .

The percent change in the components of gross output for the years 1988 to 2008

Gross Output III

So, to contest the notion the the “economy is two-thirds consumption,” all of the Business-to-Business (B2B) transactions must be separated from both Gross Output and Gross Domestic Product (GDP).  For Gross Output, B2B transactions consists of all Intermediate Inputs that I’ve discussed previously.

However, GDP contains one element of B2B and that is for the final sale of a good or service and it is known technically as “gross fixed investment”–a final sale would be to the end-user such as a 747 being purchased by American Airlines.  So total “B2B expenditures” are the sum of Intermediate Inputs and Gross Fixed Investment.

At the end of the day, the chart below shows the results of this redefinition.  B2B expenditures make up 53.5 percent of all economic activity as defined by Gross Output.  Personal consumption, on the other hand, falls to 38 percent and “all other” accounts for the remaining 8.4 percent (government expenditures and international trade).

Breakdown of Gross Ouput by Major Component for 2008

Gross Output II

In my previous blog on Gross Output, I discussed how GDP is not the final word when it comes to measuring the economy.  This might be nothing more than an academic point if there wasn’t more to the story.  I believe there is.

The chart below shows the annual percent change in Gross Output, Intermediate Inputs and GDP (in 2008 dollars).  The most important feature to note is that Intermediate Inputs are the most volatile of the three.  They reach the highest highs and lowest lows.  So it seems to better understand the severity and duration of downturns, we also need to better understand what’s going on with intermediate inputs.

Also, note what seems to be happening most recently in 2008.  Unlike the previous two recessions in 1991 and 2001, GDP is falling and Intermediate Inputs are rising.  It’s too early to say what this may be about, it could simply be a data issue that will be revised away.  Or it could be a sign of the unique nature of this recession where consumers were able to retrench faster than, say, home builders.  Time will tell.

Unfortunately, if Intermediate Inputs are more important to determining the business cycle than GDP, we won’t know it until after the fact because this data series from the Bureau of Economic Analysis is not published with nearly the same frequency as GDP.  Not all of it is BEA’s fault, the amount of extra data that must be collected must be astounding.

More to come . . .

Annual Percent Change of Gross Output, Intermediate Inputs and GDP