Who Is Ripping Off Whom?

A week ago I despaired about finding something to write about regarding the fast and furious pace of the new Trump 2.0 administration. Now I have so many things to write about I don’t know if I can cover everything before it all goes stale.

In his pre-Super bowl interview with Brett Baier on Fox, President Trump complained about how other countries are ripping us off because of trade deficits. He said, “because we let all these nations take advantage of us. Same thing like $200 billion with Canada….We have a deficit with Mexico of $350 billion. I'm not gonna do that. I'm not gonna let that happen.”(the actual deficits with Canada and Mexico in 2024 were $78 billion and $172 billion, respectively.)

But there is one thing about foreign trade Mr. Trump and his advisors apparently don’t understand. Foreign trade must balance. When he says we have a trade deficit he means that we have a deficit in goods or services. That must be balanced with a surplus elsewhere. The US has a trade  surplus in the export of money. In the mercantilist era that Mr. Trump harkens back to a trade deficit in goods or services had to be balanced by an export of specie, gold or silver. Countries such as the colonialist powers of the mercantilist era generated big surpluses that translated into massive reserves in gold and silver.

But in the modern era of floating exchange rates deficits translate into changes in exchange rates to rebalance trade relations. The currencies of countries with trade deficits will be devalued making imports more expensive. The currencies of countries with surpluses will strengthen making imported good less expensive. These changes in exchange rates tend to rebalance the deficits and surpluses in trade. Some countries such as China try to control their exchange rate but these efforts usually end up causing economic disruptions worse than a trade surplus or deficit.

These economic realities apply to all the countries of the world – except the United States. Because exporting countries do not want to be paid in the domestic currency of the importer they want to be paid in an international reserve currency, the dollar. They need dollars not just for transactions with the US but for transactions with other countries around the world. But where do they get their dollars?

Countries that have trade surpluses with the US receive dollar credits to balance their trade. But instead of selling their dollars they hold them in order to facilitate transactions with other countries. The US can have all the trade deficits it wants as long as other countries want to hold dollars. The US’s main export to balance our deficits in goods and services is money – fiat money. And we can make all the fiat money we want. So Mr. Trump would be correct that trade deficits are losing if we had to compensate other countries with gold and silver for our deficits. But instead of scarce and precious gold and silver we compensate them with fiat money of which we have a potentially unlimited supply.

The dollar is one of the greatest assets that the United States has as long as it is the world’s reserve currency. Almost all international transactions are paid for in dollars. When the US applies financial sanctions on adversaries it cripples their economies. Sanctions on Russia are crippling its war effort against Ukraine. Iran was near financial collapse due to US sanctions until the Biden administration lifted those sanctions. China and Russia and other autocracies are desperately seeking a way to avoid having to use dollars for their international transactions. To no avail. No reasonable country will endanger their economic well-being by relying on currencies controlled by dictators.

But the only way for the dollar to be the world’s reserve currency is for the United States to run trade deficits. Dollar reserves held by other countries are the monetary system for international trade. Without US deficits global trade would collapse. No other currency will do. The British and Japanese economies are too small to supply currency for global trade. The European economy might be large enough, but the Euro is issued by many countries so there is no way to control the supply of Euros and the Euro denominated bonds issued by those countries have many different credit ratings – some good and some bad. And anyone foolish enough to rely of the Chinese yuan or the Russian ruble will get what they deserve.

But there are some valid reasons why we should try and control our trade deficits. Highly efficient supply lines are also fragile and subject to supply disruptions from natural disasters or malevolent actions. Strategically we need secure supply lines as well as domestic capabilities for strategic materials and military equipment. And while our trade deficit is the international money supply, too much of an increase in the money supply will cause a depreciation of the currency. In other words inflation.

So we need to control that dollar money supply by controlling our trade deficit to protect the dollar as the world’s reserve currency. Not because other countries are ripping us off. Think about it. They are giving us material goods and critical resources and in exchange we are giving them paper. So who is actually getting ripped off? A recent editorial by the WSJ (Trumponomics and Rising Inflation, February 12, 2025) asked, “Does President Trump understand money?” Maybe not. He doesn’t seem to understand how foreign trade works.