Trade Surplus

The Neverending Story

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“Once upon a time in a magical land called Fantastica….” Source: Reuters

Germany’s outgoing finance minister, Wolfgang Schäuble, came one last time to the annual jamboree of world finance at the International Monetary Fund meeting in Washington, to take his leave from his counterparts around the world and get some well-deserved pats on the back. But the report this week of yet another massive German trade surplus in August raises again the neverending criticism of the country’s export prowess, and forces Mr. Schäuble once again into his neverending defense of it.

It is perhaps fitting for the country that produced the global bestselling fantasy, “The Neverending Story,” to be in this position. As in Michael Ende’s novel, there seems to be two parallel worlds here (leaving open the question which should be labeled Fantastica).

Against a backdrop of US President Donald Trump threatening to pull the plug on the North American Free Trade Agreement and clamp down on what he perceives to be unfair trading practices by the big surplus countries, the stakes in this neverending story are much greater than in a children’s fairy tale.

“One has to fear that the German government is grossly underestimating how politically important it is to the Trump administration to deliver on the president's election promises to bring jobs back to America.”

Desmond Lachman, resident fellow, American Enterprise Institute

“One has to fear that the German government is grossly underestimating how politically important it is to the Trump administration to deliver on the president’s election promises to bring jobs back to America,” economist Desmond Lachman, a former IMF official, wrote in an op-ed last month. In its intransigence, Mr. Lachman wrote, Germany risks provoking the United States into unilateral action that could quickly and uncontrollably escalate into a trade war.

Criticism of the German surplus didn’t originate with the Trump administration. Everyone from the IMF to the OECD to the administration of President Barack Obama has taken Berlin to task over the years for the persistent surplus. It has exceeded the 6 percent of GDP the European Union considers as the limit for financial stability within the EU since 2007.

But even as Mr. Schäuble embarked on his annual ritual of defending the surplus at the IMF meeting, Mr. Trump was explaining to Canadian Prime Minister Justin Trudeau how he wants to dilute NAFTA to keep jobs in the United States. The US president has shown his willingness to upset the international applecart by withdrawing from the Paris climate accord and this week pulling the United States out of UNESCO. His threats to take action on trade must also be taken seriously.

In defending Germany’s stance this time around, Mr. Schäuble can cite a new study his ministry commissioned from the Kiel Institute for the World Economy showing that Germany’s trade surplus – around 8 percent of GDP last year – is structural and there is little government policy can do to reduce it. The Kiel study, a copy of which has been made available to Handelsblatt, says that at the very best, government actions could reduce that surplus by less than a percentage point.

The arguments are familiar. Berlin’s hands are tied because German law now allows the federal government to run a structural deficit of only 0.35 percent of GDP, ruling out any massive deficit stimulus for imports. Similarly, Berlin has no control over interest or currency rates because the joint euro currency is in the hands of the European Central Bank, where Germany is only one voice among 19 member states.

“Because of political or technical restrictions, virtually no single measure could be carried out that would significantly, say by two percentage points, reduce the current account surplus,” the Kiel institute said. (The current account surplus reflects short-term capital flows as well as trade but is roughly parallel.)

Even if the government would run an annual deficit of 1 percent of GDP, or €31 billion, the trade surplus would go down only by 0.7 percentage point next year, and not much more than that in the medium term, the study said. A deficit triple that, around €90 billion, would cut the surplus by only 2 percentage points. A deficit that high would be politically impossible in any case and run up against constitutional limits.

The Kiel researchers ran through other possible remedies – higher wages, liberalization of the country’s restrictive service sector, increased competitiveness in other European countries, and even a surprise conclusion of the transatlantic trade pact currently in limbo. These economists calculate the maximum effect of all these measures at just a 0.2 point reduction in the surplus.

The best possibility would be tax cuts, the researchers said. Tax cuts for individuals, if financed by government debt, would cut only 0.4 points from the surplus, while a corporate tax cut could cut it by 1.2 points by 2021. Still, to shave off 2 percentage points to get to the 6 percent ceiling would require tax relief in the amount of €150 million annually – and that would paralyze government.

Minimize the results as much as they want, however, the Kiel economists beg the question of why Germany doesn’t do what it can, even if it falls short. In his call for “cooler heads” to prevail, Mr. Lachman urges Washington and Berlin to work together to correct the trade imbalances. “The basis for such an approach might be to have Washington commit to more disciplined budget policies in return for Berlin committing to finding a way to use the fiscal space that it now enjoys to pursue a more expansionary fiscal policy,” Mr. Lachman, currently a resident fellow at the American Enterprise Institute in Washington, wrote in his op-ed for US News & World Report.

Perhaps Mr. Schäuble’s successor, whoever that may be, will have an easier time defending Germany’s surplus if the new government takes some action to appease its critics, even if only as a token of good faith. But this story has no end in the foreseeable future.

Handelsblatt reporters Martin Greive, Jan Hildebrand, and Thomas Sigmund reported on the IMF meeting and the Kiel study. Darrell Delamaide, a Washington, DC-based editor for Handelsblatt Global, adapted this report into English. To contact the authors: greive@handelsblatt.com, hildebrand@handelsblatt.com, sigmund@handelsblatt.com, and d.delamaide@extern.handelsblatt.com.

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