Why Does a Trade Deficit Weaken the Currency and Make the Country Poor?

Currently, the US economy consists of approximately 77% services, which contributes to major imbalances to their economic system and not to mention a massif trade deficit (imports exceeds exports ). The picture below depicts dark countries with trade deficits and greener countries with trade surpluses.

File:Cumulative Current Account Balance.png

The US trade deficit was over 550 Billion in 2011, the highest in the world. China, Japan, Russia, Saudi and Germany on the other hand had the highest trade surpluses in 2011.Its today’s reality, the production of goods is coming from the East for the West to consume. How long can the US continue to have a massif trade deficit?

How Did this Happen?

Their trade deficit which started during the early 80’s, coincidentally at the same time of the latest wave of globalization (late 70’s early 80’s with the aid of the Breton Woods Agreement after WW2). At this time, US private corporations were being faced with higher regulation and standards from labor unions, peak membership of private sector labor unions in the US was in 1979 . In order for US private corporation to maintain their competitive advantage they outsourced their production to developing nations where the production was carried out at a fraction of the cost. This was facilitated with the help of the world trade organization WTO, created by the members of the Breton Woods Agreement.

How Does This Impact The US?

When more money flows out of the country then in, someone must be financing the difference (trade gap). This financing comes from foreigners which have allowed the trade deficit to continue. As long as foreigners continue to buy US IOU’s (US treasury notes) to finance the trade deficit, The US can continue to consume and not produce much. Much of this financing from foreigners was allowed to take place as the US Dollar was known as “Good as Gold” as pre-Breton Woods Agreement it was linked to gold.  However, since 1971 the gold link was broken and the US became a fiat currency. To maintain an unjustifiable continual need of the US dollars, US Dollar then became the PetroDollar where it was used to trade barrels of oil around the world. Now, nations needed the US Dollar as it was used to purchase oil, the blood of today’s economic system. This is one of the main reasons why the developing world continued to accept perpetual debt from the US and maintain their trade deficit.

However, once the debt reaches an unsustainable level, like I mentioned in my previous article “US Debt grows at 10Million a minute foreigners become reluctant to lend money (just like a bank will with a over indebted person) and the US Dollar must lose significant value to decrease the trade deficit (exports>imports) and restore the trade balance. When and not if the Petrodollar Collapse takes place, all the imbalances and distortions of our economic system will have to be corrected and will hopefully transform our world into a more sustainable future.

A Nation Must Produce More than What it Consumes to be Wealthy

There is no secret recipe on how a nation becomes rich. It must produce more than what they consume, in essence a healthy surplus. However, inorder for that to take place a country needs low restrictions and freedom to be competitive against other markets. As stated in the article “Mo Government is Mo Problems” we try to help you understand that high regulations and taxes hurt businesses and benefit the rich much more than the poor.

Post your thoughts Below and if you have any questions.

 


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