Should The United States Run A Trade Surplus?

Although standard trade theory predicts that highly advanced economies with sophisticated financial sectors, like the United States, should generally run trade surpluses, the country has run persistent, and often large, trade deficits for five decades. This can only be a consequence of significant global economic distortions.

There is usually a substantial difference between what I write in my newsletter and what I cover in this blog, with the newsletter generally more technical and focused on Chinese and global financial markets. In this post, however, I wanted to excerpt an older newsletter on why the United States runs a trade deficit when it should normally run a surplus. This is a companion piece to my February 7, 2019, blog post, “Why U.S. Debt Must Continue to Rise.”

This essay arose originally from a conversation I had several months ago with Barron’s Matt Klein during his visit to Beijing. Klein is one of the few analysts who understand the ways that changes in trade dynamics in recent decades have made much of the current debate on trade at least partly obsolete. In a discussion with some of my Peking University students, he pointed out that, under standard trade theory, the United States would normally be expected to run trade surpluses, and yet the country instead has run large deficits for nearly five decades. This should be surprising, he argued, and at the very least it strongly suggests the existence of distortions in the global trading system.

He is right, of course, and it occurred to me that working through the reasons might be an interesting way of understanding trade imbalances and their sources. In several recent blog posts, I have addressed this approach to trade from different angles (for example herehere, and here), and there will be overlap between this post with earlier ones. I apologize to my regular readers for this repetition, but the reason for discussing the topic from many different angles is because mainstream economists seem generally to misunderstand current trade dynamics.

For example, as I discussed in a May 2017 post, it is almost an article of faith among economists that the U.S. fiscal deficit contributes substantially to the U.S. trade deficit,1 and perhaps even causes it. But this claim is only true under certain conditions, which unfortunately most economists rarely bother to specify. If they did, they would probably see that these conditions no longer hold; and once we understand that the United States has little control over its domestic savings rate, we will see that the U.S. fiscal deficit is not a cause of the U.S. trade deficit as much as it is a consequence.

This flies so strongly in the face of conventional thinking among mainstream economists that it has to be repeated many times before they will consider it. So with apologies to regular readers for so much repetition, in this post, I want to approach the topic by arguing that the fact that the United States has run large trade deficits for several decades is surprising enough to require some explanation.


Why did Klein think that the United States would run trade surpluses in an open global system in which trade and capital flows are driven mainly by fundamentals? The reason is because investment should normally flow from advanced economies with high levels of capital, technology, and managerial know-how to less developed economies that need these resources, and in fact, this has been the case for much of modern history.

Advanced economies—that is to say, mature, capital-abundant, and slow-growing economies—should have many decades of investment in high-quality capital stock behind them, so their current investment needs are relatively low. What is more, with their high-income levels and sophisticated financial systems, their savings should be relatively high. For these reasons, savings should normally be pulled from these advanced economies into faster-growing developing countries, where capital is relatively scarce, investment more profitable, and institutional and technological resources lacking.

As the largest and most advanced economy in the world, and with by far the most sophisticated financial markets, the United States would normally be a net exporter of capital and technology to less developed economies: it should run on average a capital account deficit and its obverse, a current account surplus. This is just what the UK did in the late nineteenth century, perhaps the closest analog to the United States today. What is more, this tendency to run surpluses should be further exacerbated by the high level of income inequality from which the United States currently suffers—the highest since the late 1920s, when the United States, not coincidentally, ran the largest trade surpluses in history.

Why? Because income inequality at its simplest can be thought of as a distribution of income from low savers to high savers. It causes ordinary and poorer households, who are the high-consuming sectors of the economy, to have a disproportionately low share of total income relative to the rich, who on average consume a lower share of their income. Income inequality, in other words, forces up what economists call the country’s ex-ante savings (the savings that households plan to set aside at the beginning of a period of time) and, as part of the same process, reduces the consumption share.


This isn’t just true about income inequality. Any condition or policy that causes a transfer of income from one sector of an economy to another can affect the economy’s savings and consumption shares. Consider the table below, which divides an economy into six sectors, and describes each sector in terms of what share of its income is saved or consumed (all income is, by definition, either saved or consumed). As income is shifted from one sector to another, the differing tendencies of the two sectors to save or consume their incomes will change the overall savings rate of the economy.

Rich households Consume a small share of their income and save a large share
Ordinary households (older) Consume a large share of their income and save a small share
Ordinary households (younger) Probably consume a larger share of their income than older people and save a smaller share
Businesses Do not consume, but save, all of their income, which is either invested or distributed to their owners
Local Governments Consume a small share on behalf of local citizens and save a large share
Central government Probably consume a smaller share on behalf of citizens and save a larger share

The economy could be further subdivided into additional sectors with different saving propensities, but the above division should be enough to make the point clear: a country’s saving mainly reflects the way in which income is distributed. Notice the implication. Savings in a country usually don’t rise because the citizens of that country decide suddenly to become thriftier, nor do savings decline because citizens suddenly become more profligate. Savings rise and fall mainly as income is shifted among groups and sectors with different saving tendencies.

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