The Persistence of the U.S. Trade Deficit

THE FAILURE of the U.S. trade deficit to show marked improvement after two years of a falling dollar has become a major source of strain in the politics of economic policy.Frustrated with the persistence of the trade deficit, the administration has demanded reflation by unwilling German and Japanese governments.Congressional calls for protectionist measures have become increasingly strident.Also at stake is the credibility of mainstream economists.Since signs of a deterioration in U.S. trade performance became clear-cut in 1982, most economists have argued that the fault lay in the strong dollar, not in other popular villains such as foreign countries' industrial policies.Further, the role of the dollar in causing the trade deficit is a key part of the widely accepted doctrine that links trade deficits to the federal budget deficit.If the trade deficit remains intractable, this doctrine, which has served as a potent defense against nationalistic views of the trade problem, will soon lose its effectiveness.The purpose of this paper is to analyze the puzzling persistence of the trade deficit.We consider and reject several ideas that have recently become popular in explaining that persistence, and conclude that a valid explanation has three main parts.First is the accepted view that there We would like to thank William L. Helkie, of the Federal Reserve Board of Governors, who provided much of our data and also gave invaluable assistance in discussion.Richard Haas, of the International Monetary Fund, also provided both crucial data and valuable discussion.Our thanks also to Peter Hooper and Catherine