Like most economists, I’ve been trained to believe that running a trade deficit is not an indication of economic sin, and running a trade surplus is not an indication of economic virtue. Indeed, I’ve written at various times about the virtue of running a trade deficit, if the foreign borrowing was used to fund investment.
Well, I’ve been changing my views about trade deficits, and the latest European financial crisis just brings me further along those lines. It’s not Greece that troubles me, it’s Spain and Germany. A few years ago, Spain was the darling of investors and economists. Spain was running a trade deficit, yes, but it was vibrant and growing. From 1995 to 2005, real per capita GDP in Spain grew at an excellent 2.8% annual rate.
By contrast, real per capita GDP growth in Germany poked around at an annual 1.2% rate from 1995 to 2005. Wrote one 2006 paper from the Centre for European Policy Studies:
Germany and Italy have been the laggards in terms of growth since the start of EMU in 1999.
However, Germany did have one advantage —it ran trade surpluses where Spain ran trade deficits. In fact, the gap between Germany’s surpluses and Spain’s deficits widened over time, even though Spain had stronger growth.
If it turns out that Spain runs into a financial crisis because of all its external debt–accumulated during the good years–then we will have to go back and ask whether that growth was sustainable and real.
And the same thing goes for the U.S. The U.S. had strong per capita GDP growth and a big trade deficit, and then was hit by a massive financial crisis. Score one for the trade deficit as a more accurate signal.
More to come on this topic.