According to a preliminary estimate of the U.S. Department of Commerce, U.S. gross domeistic product (GDP) grew at a mere 0.2% annual rate in the first quarter of 2015. However, economists now expect that growth was actually negative, thanks to a sharp rise in America's trade deficit in March 2015, from an estimated $35 billion to an actual $51.4 billion.
This is exactly what I had feared would happen. U.S. trade deficits have been slowly erodingAmerican industry, including semiconductors and other high-tech products, ever since 1981. America's policy of free trade usually gets the blame for this deficit. That is why I believe that the United States should have balanced trade with its trading partners.
In a new book, End Unemployment Now: How to Eliminate Poverty, Debt and Joblessness Despite Congress, American economist Professor Ravi Batra argues that the trade deficit actually results from two forces; while the United States follows free trade, China and Japan do not. These nations constantly intervene in the market for foreign exchange and manipulate their exchange rates in order to cheapen their currencies relative to the dollar. A cheap currency means cheaper prices for its goods abroad.
Here's the simple equation:
U.S. imports from China = China's imports from the U.S. + China's purchase of U.S. government bonds
If U.S. imports from China are $100 and China's imports from U.S. are $30 but China spends $70 to buy U.S. government bonds then, of course, China's ownership of U.S. debt will increase. The growing ownership of U.S. debt by China has caused a lot of geo-political tensions. The growing wage-productivity gap in the U.S., caused by its free trade policies, have resulted in waning manufacturing sector in the U.S.
China also has a high wage-productivity gap and the country has avoided any over-production of goods by having an exchange rate with the United States which creates an artificial demand for dollars. In this way, China has strayed from true free trade and avoided depreciation of dollar in spite of rising U.S. trade deficits. However, in this process, the country has become an increasing larger withholder of U.S. national debt.
For the U.S. to eliminate its trade deficits and for manufacturing to make a comeback to the United States, the U.S. needs to follow in China's footsteps. It needs to manage its foreign exchange rate with the help of the Federal reserve which could offer an incentive to Chinese importers to buy more American goods.
Batra explains in his book that this can be made possible by offering a better exchange rate like 4 Yuan for 1 USD or perhaps even 3 Yuan for 1 USD. Let us take an example of an iPhone 6 manufactured in the U.S. Suppose, the cost of an iPhone 6 is approximately $500. With the current exchange rate of 6 Yuan for 1 USD, the cost of iPhone 6 to Chinese importer will be 3000 Yuan. Now, suppose the Fed offers an exchange rate for China as 4 Yuan for 1 USD instead of 6 Yuan for 1 USD. Then, the cost of iPhone 6 to Chinese importer would fall to 2000 Yuan from 3000 Yuan, a staggering 33% price reduction for tje importer. If this does not work, the Fed can offer an exchange rate of 3 Yuan for 1 USD to increase US exports to China.