Trade Wars Are Class Wars: Even More Than Klein And Pettis Say

I have long enjoyed reading Matthew Klein’s columns in the Financial Times and elsewhere. They are invariably insightful and I have learned much from them. I am less familiar with Michael Pettis’ work, but I have liked what I have read. Therefore, I expected a lot from their book, Trade Wars are Class Wars, and I was not disappointed.

The basic point is that the major trade imbalances in the world over the last four decades have been driven by the suppression of wage growth, with income being redistributed from labor to capital. This has led to shortfalls in aggregate demand that countries try to offset by having trade surpluses. The main actors in that picture are China and Germany.

In the Klein-Pettis view, the U.S. has also suffered from this upward redistribution, although it has taken a somewhat different form since the country has run persistent trade deficits over this period. While I largely agree with this framing, I have some minor quibbles with the story they layout and one very large one.

In the minor quibble category, Klein and Pettis (KP) criticize Trump adviser Peter Navarro for focusing on the bilateral trade deficits the United States runs with China and other countries. I have no stake in defending Peter Navarro, but at least some of us who are concerned about the trade deficit with China have argued that the U.S. should be pressing China to raise the value of its currency relative to the dollar.

If the renminbi rose against the dollar, it should mean, other things equal, that China would have a lower trade surplus and therefore fewer savings, and the United States would have a smaller trade deficit, and therefore more savings. This isn’t an issue of a policy being thwarted by the inescapable logic of accounting identities, it is a question of the direction of causation in these identities. And, if we don’t think the U.S. economy is at full employment, more net exports will mean higher GDP and more savings.

I should also mention here that KP make the valid point that the direct trade balance between China and the U.S. does not accurately measure the net flows between the two countries, since much of the price of items exported from China is due to inputs from other countries. Therefore, our imports from China overstate the value of goods produced in China and then exported to the United States.

While this is true, it neglects the flip side, that many of the items we buy from Japan, the European Union, and elsewhere, include inputs from China. If we want to pull out the third country value-added from the goods imported from China, to get a better measure of bilateral trade flows, we also have to add in the Chinese value-added in the items imported from third countries. While KP are not guilty of the one-sided adjustment, other economists are. It is one of the items in the Games Economists Play textbook.  

Another point that is at least under-emphasized in KP, is that real wages soared in China in the period since 2000, in spite of the wage repression measures they describe. Real wages have risen at close to double-digit annual rates over this period. While they would have risen even faster if the country had not maintained an undervalued currency, and other measures to suppress wage growth, it has to be easier politically to maintain a policy of repressing wage growth in a context where wages are rising rapidly than when they are stagnating or falling.

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