Larry Putnam

U.S. Trade Deficit - Good News or Bad News?

The recent government announcement of the record-breaking June 2000 U.S. trade deficit of $30.62 billion was, for me, both good news and bad news.

On the "good news" side, the dear spouse and I own a small chunk of Exxon-Mobil stock. The dear spouse's father was a chemist at an Exxon oil refinery (do you remember when Exxon's corporate name was Enco? If so, you qualify as a Baby Boomer) and after her parents passed away, we inherited a few shares of XON (now XOM). In the recent trade-deficit announcement, the Department of Commerce blamed much of the June increase on high oil prices and heavy U.S. imports of oil. This summer, oil prices have hovered near $30 per barrel, the highest oil prices in 10 years.

Source: NYMEX closing price for WTI, courtesey of Berry Petrolium Online

My selfish, immediate reaction to news of the record June trade deficit caused by rising oil prices was: This is great news for our Exxon stock! Why should the dear spouse and I care about big trade deficits as long as oil prices are moving up and XOM's stock price is rising? Maybe the dear spouse and I can even retire early, I thought.

But then, along with a lot of nervous economists, I started to think about the bad news contained in those high June trade deficit numbers.

In June, U.S. imports were $30 billion more per month than exports, which illustrates a recent trend - the monthly gap between imports and exports has widened in recent months. Unless it slows down, this monthly trade imbalance will add .3 to .4 percentage points to annual U.S. Gross Domestic Product (GDP) growth. This means the U.S. economy is probably rocketing along at a 5½ percent (or perhaps higher) annual growth rate. Moderate economic growth is good, but fast economic growth - and Federal Reserve Chairman Alan Greenspan may feel 5½ percent GDP growth is pretty fast - is not so good.

Source: U.S. Department of Commerce

Fast GDP growth can trigger inflation and Fed Chairman Greenspan , a.k.a #1-Inflation-Fighter-of-All-Time, will certainly react to any signs of inflation in the economy by bumping up interest rates, slowing down overall economic growth, and depressing the overall value of our index funds and stocks (except Exxon, of course). That's part of the bad news, and it's pretty depressing.

Another piece of potential trade deficit bad news involves our worldwide trading partners - Canada, China, Japan and Europe. In order for the U.S. to balance its books when exports outnumber imports, foreign trading partners need to invest heavily in U.S. stocks and bonds. If U.S. stock or bond markets suffer some sort of "wildcard" event that drives prices significantly downward, foreign investors could pull out and unload dollar-denominated investments. This could cause a downward spiral with decreased confidence by foreign investors in buying and holding U.S. stocks, resulting in the dollar taking a nosedive. Although the chance of this "downward spiral" scenario playing out is slim, hefty monthly trade deficits certainly increase the risk.

Peter Morici, economist and trade deficit expert, adds more bad news to the trade deficit discussion. Morici - Senior Fellow at the Economic Strategy Institute, a Washington D.C. think tank - is definitely in the "nervous economist" camp when it comes to the trade deficit.

"This is a very important issue. It matters a lot," says Morici. "The trade deficit reduces the quality of jobs and decreases the amount of research and development by corporations."

Depending on who you are, the June trade deficit numbers could fill the heart with dread or be music to the ears. If you hold Exxon stock or are employed in the oil industry, the trade deficit news is good. If you work in the computer industry, the trade deficit news is also good (the U.S. exported $90.56 billion worth of computers in June). But for most people, the increasing monthly trade deficit is bad news that increases the risk of a devalued dollar, inflation, an over-heated economy, higher interest rates, and a worldwide slowdown in economic activity.

Keep the monthly trade deficit number on your radar screen. Whether the trade deficit trend is up or down can impact your personal economic health (especially if you own any Exxon stock), as well as the health of the U.S. economy.