NAFTA, tariffs, and other trade deficit ‘solutions’

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Luis Torres
automobile assembly line

Arguments to solve trade deficits by opposing free trade agreements like NAFTA or imposing steel and aluminum tariffs forget the underlying macroeconomic forces of why countries like the U.S. have trade deficits.

Notes from any “principle of macroeconomics” course show you that when a country has a trade deficit the amount of savings in that country is less than the amount of investment. To finance the difference, a country uses foreign savings (i.e., foreign capital). This means if you want to decrease a trade deficit, you would have to increase savings or decrease investment.
For the U.S. to increase savings, consumption would have to decrease, which would probably cause economic growth to slow in the short run. Think about it. We would postpone current consumption for future consumption. That is what we do when we save. But increasing savings in a country that likes to consume is no easy task.
What if we try decreasing investment instead? Companies would not purchase machinery and equipment, affecting short-run and long-run economic growth.
Let’s say we eliminate NAFTA and impose tariffs on steel and aluminum imports. Would that lead to an increase in U.S. savings? Probably not because the amount of savings depends on incomes and savings rates. Eliminating NAFTA and imposing tariffs would not have a lasting effect on the trade deficit because the underlying cause of the trade deficit is investing more than saving.
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