Is trade deficit bad or good?

PUBLISHED : Monday, 29 October, 2007, 12:00am
UPDATED : Monday, 29 October, 2007, 12:00am

The US trade deficit has slightly declined over the last few months, but the amount of toys exported from China to the US has continued to rise, especially with Halloween and Christmas coming.

But what is a trade deficit? Countries buy from and sell each other raw material, farm products, manufactured goods and services. For example, China manufactures lots of toys; these toys can be sold in China ('consumption') or sold to other countries ('exported' , 'ex' meaning 'out').

China also buys raw material from other countries: in this case, economists talk of 'imports' ('im' being 'in'). The trade balance measures all the ins and the outs. If a country has more exports than imports, it has a trade surplus. If a country buys more foreign products than it sells its own abroad, it has a trade deficit.

Is a trade deficit a bad thing? A trade deficit can show the economy is growing: more people buy, and the country has to import products, but also manufacture more products, which creates more jobs. The money used to import products can also come back as 'investment' as investors look for growth. Growing economies like Hong Kong have trade deficits. But if more people buy goods, it does not always mean they are getting richer: they might buy them on credit. Then the trade deficit starts to become more of an issue: the country's growth does not mean bigger wealth but more debt.

The trade deficit affects how strong the national currency is and how ready foreigners are to invest in the country.

Check and balance

Trade is not free between countries. For centuries, countries have imposed taxes on imported goods. Why? To protect their own industry.

Tax and tariff: Taxing imports make them more expensive and people won't buy them. Is it bad or good? Countries want to make sure imports don't affect jobs. But it can be more efficient to stop making a product, import it instead, and focus on making and selling more expensive products.

Quotas: instead of making the import more expensive, a country decides to only buy a small quantity.

Subventions: a way to make local products artificially as cheap as import. Subventions help national producers or farmers to produce and sell even their products are more expensive. This is another way to sponsor local jobs, and it is often not for the consumers' best interest. Governments will finance subventions through tax . . . that consumers will pay.

Trade agreements: countries negotiate to lower trade barriers; many countries are happy to get lower tariff if it helps them export more. But they are reluctant to lower their tax to imports if it jeopardises local factories and jobs.