Global Trade Imbalance: Factors and Remedies

Introduction

The global trade imbalance is the situation that arises when the imports and exports of nations do not match. The balance of trade between nations is contributed by all the economic connections that exist between nations and the trading connections that go on between the people of the different nations in question. An imbalance in global trade will usually result when there are many nations that import too many products than they export. Global trade can also occur when nations export too many products than they import. Such countries usually consume too much than they have or can produce. Therefore they have to borrow so that they can be able to sustain their spending.

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An example of such a country in the United States. The country has been spending a lot of money than they actually have. The result is that they have huge debts with foreign nations. Other countries like China export too many products in comparison to their imports. The result is that there is a creation of a trade surplus. Such countries use the excess funds that they have to make investments to other countries or lend it to countries with trade deficits like the United States. There is fear all over the world that the trade deficit for the United States could result in a financial crisis because of the dependence of so many countries on the United States dollar as a reverse currency (Drysdale 1).

Factors that have contributed to the global trade imbalance

Currency valuation in different economies greatly distorts the balance when trade between different countries is involved. This is because of the relativity and productivity at the exchange rate. If country A relies on country B for agricultural imports, the ideal transaction would be that B holds some negotiating advantage. However, in a case where country A has a higher valued currency as compared to B, the advantage is somewhat neutralized (Issing, 5).

This is because, though the demand is there, the weaker currency value of B will allow A to purchase more using less of their money. In an alternative scenario, where B has a lower currency value and is importing from A. B is faced with an even bigger challenge as it has absolutely no negotiating advantage. As a result, acquiring a similar quantity of purchase as that of A will cost country B a lot more money because of the lower valuation of its currency This is one of the reasons why most productive third world countries face a challenge in international trade (Issing, 5).

The saving rate of people directly influences the state of their economy. The more a nation’s savings are equal to the national production of goods and services the more reduced the level of national consumption. The more the production rises faster than consumption, by definition the savings rate must rise. Countries should ensure that the consumers in their nations have a lot of funds that are made available to them. This aspect can be contributed to moves such as the lowering of lending rates of loans in financial institutions. Such a move would result in more individuals borrowing funds and being more empowered to spend hence reducing the number of funds available for saving (Persienti, 259).

Wages are the primary determinant of savings within an economy. When employment is low, the people have little or no income and as a result, the people have to spend whatever little money they have. However, when unemployment is low and most of the population is earning wages, the status of the people is improved and as a result, savings in the economy will begin to rise. This further proves that consumption growth is highly determined by household income (Drysdale 1).

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The wages that are paid to employees can be ensured to be high through the establishment and implementation of policies that secure high minimum wages for employees. Measures should also be put in place to ensure that the corporate organizations and industries that have employed the employees have the necessary funds to pay those employees as established by the government. Though employment levels can never be perfect, governments of different countries are supposed to try as much as possible to ensure that the employment levels of employees in their countries are as high as possible in order to secure surplus trade balances which would, in turn, contribute to stable global trade balance for countries.

Taxes imposed on imports and exports continue to limit trade between countries; a phenomenon that has been observed for many years. Though beneficial as a source of income in many countries, it has also contributed to the current imbalance of trade. Some countries feel that by imposing high taxes on the commodities that are brought into their country, they will be able to cash in at the expense of other countries.

Some of these countries might charge taxes that are too high in comparison to the taxes that they are being charged when they export their commodities to other countries. The country that is highly taxed might make minimal profits. According to the number of commodities that it imports from other countries and exports to other countries, such a country might highly likely end up with a trade deficit. The country that highly taxes the importing country might in turn have a trade surplus thus contributing to a situation where there is a global trade imbalance (Drysdale 1).

Global trade imbalance might also result in a country whereby a government will often favor economic growth at the expense of cheaper goods and services. Many third world countries, especially in Africa, have excellent and quality agricultural produce. They export them to more developed countries. Some of the exported products are however highly taxed resulting in very high prices of the products in the market (Bernanke, 38).

Such high prices prohibit their purchases by individuals that might have low purchasing power in the community. If the taxes imposed on the exports of these third world countries were lowered or removed, consumers in the developed economies would have access to a better variety of products at very affordable pricing. High taxes mean that most of the consumers cannot purchase such products. An imbalance is created because the country that exported the commodities is charged high costs and their products are not purchased at a high rate as would be expected (RIETI 1).

Therefore, the returns on their products are low in comparison to the high taxes charged that benefits the importing country. The rates of savings made to the number of investments that are made by a country are also a major contributory factor to the global trade imbalance. Most countries that have trade surpluses either have high investment rates or they have high saving rates. However some countries like the United States seem to have neither of these.

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This aspect of the US economy has been attributed to financial policies and federal investment policies in the country. Supposedly, no measures have been put in place to ensure that the amount of investments made by the government, corporate organizations or individuals is sufficient. The US government should establish and implement policies that contribute to less spending by its citizens. More savings reduced imports and increased exports might be the answer to most of the scenarios that have contributed to global trade imbalance (RIETI 1).

Trade Restrictions

Trade restrictions are usually imposed in a country so that the number of commodities that are consumed by the nationals of a country can be reduced. The amount of the particular products to be produced is also targeted for reduction. Most of the products that have trade restrictions imposed on them are consumer goods. One of the arguments given as being the cause of trade restrictions is the protection of young industries and corporate organizations in a country. Most governments feel that they have the obligation to protect industries that are trying to come up. Governments feel that such small industries cannot be able to compete with already established organizations from other countries. The intent of governments is to try as much as possible to ensure that they are self-sufficient especially with the production of consumer goods.

Countries feel that defense products that they need should not be supplied by foreign countries. Countries might develop differences that would interfere with the supply of these sensitive products. Most countries, therefore, feel that even though the cost of production of the defense products could be lower outside their countries, they would still prefer to produce sensitive products such as those used for defense purposes in their own countries.

Governments of countries also impose trade tariffs on such products from other countries that they feel might be inferior to the recommended quality. Some countries might produce inferior quality products and then sell them at such low prices that would drive away competitors in the market. After competitors have exited from the market, such producers might raise the prices of their commodities and become monopolies in the market (RIETI 1).

Such a move might be carried out by leaders that just want to win masses especially if they need political votes of their country while in a real sense such measures might only lead to temporary solutions. In the long run, the major problem that the leaders intended to avoid through the trade tariffs would still impact the country and the people of the nation might have to look for other jobs and for the manufacturers of the products to close their businesses.

Trade restrictions might also be imposed on nations because the leaders in government and those in charge of trade might be shortsighted and think that their measures would help the economies. Trade restrictions might also be imposed through ignorance of the leaders in a nation and lead to an excess of exports to other countries while limiting the number of imports that a country has. Trade restrictions might offer temporary solutions to a country but in the long run, such countries would experience major problems such as loss of jobs and inflation.

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Current Account and US Trade Imbalance

Most of the world economies in the world depend on the United States of America as a measure of how their economies in the world should be. The United States’ current account deficit had widened to $124.1 billion in the financial year ending 2011. This is one of the highest ever recorded balance of trade in the history of current accounts of countries. The negative growth of the deficit grew by as much as 15% from $ 107.6 billion over a period of just one year.

This is much higher than expected. Economic analysts in the United States had forecast the current account deficit would have been around $ 115 billion in the fourth quarter. The increase in the current account deficit could be attributed to the high amount of imports that the United States brought into the country in comparison to the exports balance such as the low number of airline ticket sales made by the country that fell short of the expected amount that the country thought it would deliver to other countries (Issing, 2).

The high deficit translates to lower US export demands by other countries and high imports of goods and services by US nationals. Unfortunately, the current account deficits in the United States are expected to keep on increasing partly because of the global economic crisis that has resulted in less economic spending by countries as more people try and consume as little as they can and save as much as they can.

Governments and economic analysts and policymakers have been warning about the impending global economic crisis that will result if the United States does not correct the current account and US trade imbalance that exists. Many countries and people all over the world heavily depend on the United States to make investments. A looming devaluation of the dollar is also expected all over the world which create even wider gaps of the global trade imbalance especially for those nations that depend on the United States dollar as their trading currency (Issing, 3)

 Showing current account of trade imbalance in the US
Chart 1: Showing current account of trade imbalance in the US. (Piersanti 261)

Trade Imbalance and the Exchange Rate

The exchange rate is the difference at which two currencies are exchanged. When the currency of a country goes lower in relation to other countries’ currencies, the current account of that particular country is expected to shrink which in turn causes the value of its currency to shrink. A high exchange rate is considered favorable for a country as long as that rate remains stable. Most exchange rates keep on fluctuating making them unfavorable in the market.

Exchange Rate Pass-through

The exchange rate pass-through is the level of sensitivity attached to the prices of imports to a 1% difference in exchange rates in the importing country’s currency. The level of exchange rate pass-through has a great impact on the economic policy that is formulated in a country. One of the most important factors that determine the exchange rate pass-through is the number of exports that a country makes and the degree of competition that such a country has to go through when making such exports. When the competition for exporting particular products is high, it might translate to the countries exporting the products having to absorb the cost on the foreign exchange so that they might be able to stay afloat in the market.

When there are many exports into a country that the consumers have to choose from, it means that the suppliers have to try and make their products seem more attractive in relation to other products in the market. One of the ways through which suppliers make their products seem more attractive is through the reduction in prices. If the suppliers of certain products are not many in the market, then the products of the commodities that such companies supply might not have an influence on exchange rates. Such a situation results in lower pricing to market ratio and a higher pass-through.

The higher the economic pass-through rate of a country, the higher and better the balance of trade is. If a country is able to secure a high pass-through rate, then they are highly likely to have a better balance of trade in terms of the high value of exporters to other countries (Piersanti 260). The margin of global trade imbalance is expected to rise when there are many suppliers that export products to a country and the prices of those products have to be lowered in order to stay afloat in the market amid the increasing global competition.

Other aspects of exchange pass-through that affect global trade imbalance include the time period of change of the exchange rate, the size of the change of the exchange rate and the direction that the change in the exchange rate takes. High exchange rates are expected to negatively impact the profit margins for countries hence countries might withdraw from exporting to countries that might negatively affect the exchange rate pass-through relationship.

Exchange rate and global trade imbalance

The exchange rate of a country determines the prices that importers of products into the market get when they import products into those countries. The lower the value of a country’s currency in relation to that of the importing country, the higher the profit margins the importing country would expect. Other factors are expected to contribute to the profit margins such as the number of exporters of the products into the country. The lower the number of exporters of commodities, accompanied by a high difference in the value of the currencies, the higher the values of the profits the exporting nation is likely to make (Nickel 384).

Some countries devalue their currency so that importing to their country can seem more attractive and hence increase the frequency of transactions that are made into the country. Such a move is made in an attempt to increase trade surplus for a country and remain competitive in the global market in terms of trading with diverse nations. Nations that export commodities into other countries might in turn absorb the value of the currency of the nations where they export their products so that they can still have a share of the market. The aspect of attracting and retaining clients for commodities is still applicable even in international trade even with the differences in exchange rates.

Showing account balances in 3 states
Chart 2: Showing account balances in 3 states. (Source) China’s statistics based on China Statistics Summary2009; Statistics for the U.S. and Japan based on the International Monetary Fund’s World Economic Outlook Database, 2009

Measures of reducing the global trade imbalance

A country might try and reduce the number of imports that it brings in the country relative to the exports that it supplies to other countries. Such an action would result in a lower current account deficit and increase the income that a country brings in. A nation might also try and devalue its currency so that its currency remains competitive among traders and therefore increase the number of foreign investments that are made to the country. Foreign direct investment and foreign institutional investors are some of the measures that are used by countries to try and positively increase their current account balances (Nickel 387).

Governments might also try and reduce the amount of money that they borrow from foreign governments or trying to reduce the amount of spending by cutting back on their needs. A government might also try and increase the amount of money that they make available to the domestic suppliers so that the amount of money that is spent outside of the country is as minimal as possible. Foreign assets, treasuries and bonds of a country can also be made to appear as attractive as possible so that foreign investors view the products of the country as being attractive and they can purchase them hence increasing the number of foreign currencies that a country gets from other countries.

Many economic analysts and world leaders have been cited as proposing increased spending of countries that have trade surpluses such as China and Germany. Such a move is cited as being the solution to reducing world trade imbalances that exist. China is especially notorious in its efforts of increasing its exports to other countries while limiting the number of commodities that it brings in to the country. The rate of saving is also high, as is the rate of lending to other countries thus securing debts to other countries such as the United States.

Countries such as the United States should in turn be encouraged to spend within their means so that they do not incur huge debts which they are not able to service on time. The number of exports from the United States also does not seem to equal the number of commodities that are imported into the country. The country should try as much as possible to reduce the number of imports that are brought into the country while increasing the amount and diversity of products exported out of the country. The United States has one of the highest trade deficits in the history of financial debts. To make it worse, the situation does not seem to be getting any better and has not been made any better by the economic crisis that affects all the countries in the world (Issing, 3).

Social safety nets of countries that have trade surpluses should be increased so that nationals of such countries do not feel like they have to spend all their money on savings. In contrast, such individuals would be encouraged to spend their money and hence increase the circulation of money and demand for products in the market. The demand that would be created in the market would no doubt include the demand for imports that are delivered to the country. This would in turn increase the foreign exchange in the country.

Countries with trade surpluses could also be encouraged to reduce the number of subsidies that they offer to corporate organizations so as to increase the amount of money available in circulation. The amount of money that the corporate organizations and industries receive in such countries would also reduce. The amount could be diverted to incomes that are paid to corporate workers and laborers in industries so that they have money to spend hence increasing the amount of money in circulation. However, such measures have been cited as those that would consume too much time to implement. Alternative measures to solve the global trade imbalance problem have been proposed as the inclusion of changes in relative prices.

Most economic analysts however forecast that inflation and deflation will occur due to the high trade deficits and trade surpluses respectively. Financial systems that will result will contribute to the correction of the trade imbalances that exist. Wages available to employees will reduce as the level of unemployment rises. The number of imports that are in demand will be fewer as the number of exports will remain the same or even increase. This will contribute to the reduction of the deficit that exists. The government will also establish and implement strict financial policies. Households will be encouraged to save their earnings instead of spending it thus increasing the amount of money available in such nations relative to the amount that is being spent (Nickel 385).

Conclusion

The paper has successfully looked at various economic principles in relation to global trade imbalance such as current account and US trade imbalance. The global trade imbalance has resulted as a consequence of trade surpluses and trade deficits in different countries. Some countries import too many commodities in comparison to the exports that they make to other countries thus contributing to a deficit such as the United States. In contrast other countries export many commodities and minimal imports into their countries. The high income that they get is invested or given to other countries in the form of a loan. This high current account balance has been attributed to the high amount of imports into the country in comparison to the relatively low amount of imports that are traded out of the country (Pesenti, 254).

Trade restrictions imposed by countries is one of the major factors that lead to trade imbalances in the world. Though not always effective, the restrictions are usually aimed at increasing profit margins, prevention of dumping of low-quality products into a country and shortsightedness of government officials in office who feel that they would contribute to better trade performance of their nations’ relative to competing nations. Exchange rate and exchange rate pass-through have also been looked at and their relation to the global trade imbalance. The exchange rate is the value that is exchanged between two currencies from different countries. The higher the exchange rate for one country in relation to another, the higher the global trade imbalance that is likely to be created.

The exchange rate pass-through is the level of sensitivity attached to prices of imports to a 1% difference in exchange rates in the importing country’s currency. A high exchange rate in favor of country contributes to a high balance of trade resulting in higher income. Other factors that are highly likely to contribute to a global trade imbalance include currency valuation, wages that are paid to people in a nation, the saving rates of those people and increased spending of nations that have trade surpluses. While those countries that have trade deficits are expected to reduce their spending.

Works Cited

Drysdale, Peter. “Fixing global economic imbalances”. EastAsiaForum: Economics, politics and public policy in East Asia and the pacific. (2011). Web.

Issing, Otmar. “Speech on Addressing Global Imbalances: The role of Macroeconomic policy”. Banque de France symposium: Productivity, Competitiveness & Globalization. (2005) Web.

Nickel, Stefan. Household debt, house prices and consumption growth. Bank of England, Quarterly bulletin, autumn. (2004): 383-389. Print.

Piersanti, Giovanni. “Current Account Dynamics and Expected Future Budget Deficits: Some International Evidence”. Journal of International Money and Finance. 19. (2000): 255-271. Print.

RIETI. “Redressing the global imbalance-increasing Chinese savings and US consumption is the key”. Research Institute of Economy, Trade and Industry IAA. (2009) Web.

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NerdyRoo. (2021, October 27). Global Trade Imbalance: Factors and Remedies. Retrieved from https://nerdyroo.com/global-trade-imbalance-factors-and-remedies/

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