Trade Deficit

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What is a 'Trade Deficit'

Trade deficit is an economic measure of international trade in which a country's imports exceeds its exports. A trade deficit represents an outflow of domestic currency to foreign markets.

Trade Deficit = Total Value of Imports – Total Value of Exports

Also called a negative balance of trade.

BREAKING DOWN 'Trade Deficit'

Nations of the world trade with each other and keep track of their trades in their balance of payment (BOP) ledgers. One of the primary accounts in the balance of payments is the current account which keeps track of the goods and services leaving (exports) and entering (imports) a country. The current account shows direct transfers such as foreign aid, asset income such as foreign direct investment (FDI), net income i.e. income received by residents minus income paid to foreigners, and the trade balance (BOT).

The trade balance is the largest section of the current account and measures the income that a country receives from its exports and the payment it makes for its imports. A country that exports more than it imports will have a trade surplus since the inflow of currency is greater than the outflow of currency. Most countries will like to bring more money in by exporting more goods and services than they import. However, it is not uncommon to see trade deficits in a country’s current account. A trade deficit occurs when a country has imports that exceed exports. Because the trade balance is the largest section of the current account, a trade deficit (or surplus) usually translates to a current account deficit (or surplus).

A trade deficit usually occurs when a country does not produce enough goods for its residents. Another way to look at a deficit is that a country’s consumers are wealthy enough to purchase more goods than the country produces. When production falls short, importing goods from other nations increases. Economic theory dictates that a trade deficit is not necessarily a bad situation because it often corrects itself over time. An increase in imported goods from other countries decreases the price of consumer goods in the nation as foreign competition increases. The lower prices help to reduce the threat of inflation in the local economy. An increase in imports also increases the variety and options of goods and services available to residents of a country. It is expected that a fast-growing economy would pull in more imports as it expands to allow its residents to consume more than the country can produce. So, in some cases, a trade deficit could signal a growing economy.

In the long run, however, a trade deficit may lead to fewer jobs created. If the country is importing more goods from foreign companies which compete with its domestic companies, the domestic companies may eventually be driven out of business due to the lower prices that ensue. Manufacturing companies are usually hit the hardest when a country imports more than it exports as loss of jobs and incomes for its employees can be traced to the increase in competition from imports. The loss of jobs could lead to even fewer goods being produced in the economy which, in turn, could lead to even more imports and a wider deficit.

However, a deficit has been reported and growing in the United States for the past few decades, which has some economists worried. This means that large amounts of the U.S. dollar are being held by foreign nations, which may decide to sell at any time. A large increase in dollar sales can drive the value of the currency down, making it costlier to purchase imports. In 2016, US exports were $2.2 trillion and imports were $2.7 trillion. The trade deficit was, therefore, about $500 billion – meaning that the US imported $500 billion more than it exported.