U.S. Deficits: More Wheat Than a World Wants

Each year, the President’s Council of Economic Advisers publishes a modest little paperback volume containing its “annual report.” The very color of the cover bespeaks a document destined for dusty library shelves. This year’s version is maroon. Previous issues have run a daring monochromatic gamut ranging from dark green to slate gray.

As might be expected, the President’s economic advisers ladled out generous dollops of praise for their political master. “The destructive sequence of business cycles . . . has been broken,” they proclaim bravely at one point. But what makes the report fascinating is how frequently its economics overcomes its politics. Particularly if the reader is willing to dip past the opening chapters, the report deals out devastating criticisms of some of the Administration’s more disastrous policies.

The failures of Ronald Reagan’s farm policy shine through the data with excruciating intensity. How to defend a set of programs that paid the crown prince of Liechtenstein a $2-million subsidy from American taxpayers last year--because he was a partner in a Texas rice farm? How to justify paying $12 million to a farmer in California in the name of “saving the family farm”?

After six years of Reagan farm policy, payments to farmers are the fastest-growing item in the federal budget, having increased sixfold since 1980. The current farm price supports are enough to pay every farm family $16,000 per year--and $42,000 for every family running a commercial-sized farm. Government price supports were only 7% of the value of the corn, rice, and wheat crops in 1980. In 1986, they were 57%.

But these enormous payoffs, all designed to hold down excess production, have had utterly perverse results. American surplus food stocks are now at hopelessly high levels. The United States is holding 62% of world wheat stocks for export, most of it owned by the government. Surplus butter stocks have grown by 2 million tons in five years. If all farms were closed tomorrow, it would be a year or more before anyone noticed.

Shifting to trade, the report makes a powerful case linking the nation’s trade deficit with the President’s budget policies. The connections are subtle ones, but the report traces the trade deficit’s origins with admirable clarity.

To start with, the advisers effectively demolish the notion that the trade deficit is caused by a decline in American competitiveness, despite the rousing cheers Reagan received when he called for a “competitiveness policy” in his State of the Union address.

Productivity growth in manufacturing over the past five years has been surprisingly fast. The annual rate of 3.8% is half again as fast as the postwar average of 2.6%, and more than twice as fast as that of the previous decade. At the same time, wage rates have grown slowly or not at all. The result has been that American manufacturing, on a unit labor-cost basis, has sharply improved its competitiveness against major foreign manufacturers.

The total output of U.S. manufacturers has grown steadily for the last 25 years, while manufacturing’s share of total output in a rapidly growing economy has more than held its own--fluctuating between 21% and 23% since 1960, moving up steadily over the past few years.

Manufacturing’s share of total employment has gone down, however, simply because productivity in manufacturing has been growing much faster than in service industries. A constant share of output and faster-than-average productivity growth obviously means a falling share of total jobs.

Then why is there a huge manufacturing trade deficit? The answer is that over the past five years, America is the only industrialized economy where real domestic demand grew faster than gross national product. In most other countries, particularly Germany and Japan, output grew much faster than consumption. The difference between demand and production is basically the foundation for measuring America’s trade deficit. During that time period, the United States exported about as much as ever, despite the strong dollar. But imports went through the roof.

Where did the spending power to finance the excess imports come from? Not surprisingly, the U.S. public sector annual deficits of about $150 billion are almost precisely the same size as the trade deficit. It is government borrowing, in other words, that is putting the money into consumer hands, through Social Security spending or farm supports or defense spending--so that total consumption can outpace production. (Note that the federal deficit is about $210 billion, but it is offset by about $60 billion in state and local government surpluses.)

Next question: How can the government borrow money and give it to consumers without causing inflation or putting a squeeze on the credit markets? The answer: Foreigners, primarily in West Germany and Japan, lent almost precisely the amount needed, or about $150 billion. Germany and Japan, indeed, have followed almost exactly the opposite policies of the United States. The low ratio of consumption to production in those countries isn’t because they have erected trade barriers against American goods. It is because of local rules that restrict consumption, like large down-payment requirements for home purchases and sharp limits on consumer credit. Banks don’t hawk home-equity loans in Japan or West Germany.

Both Germany and Japan have strong currencies, therefore, and big trade surpluses, but they have also suffered from slow growth. In Germany, the unemployment rate is, uncharacteristically, half again as high as in America. In the rest of Europe, which has followed similar export-oriented policies, unemployment is twice as high as in this country.

The trade villain, therefore, as the President’s own economic report makes clear, is the President’s failure to control his budget. So far the consequences have not been catastrophic. Indeed, Reagan’s free spending has probably helped stave off the world recession that would have surely followed if every country over-controlled its budget in the style of Germany and Japan.

But if those countries loosen their economic policies, as Treasury Secretary James A. Baker III wants them to, the United States will have to tighten its belt. Certainly if the dollar continues to fall as rapidly as it has, foreigners will lose interest in lending to America. Then the trade deficit will be cured the hard way, with a thumping recession. The trick will be to tighten up gradually in the United States, as foreign countries give their economies a little more rein.

There is no way to keep politics out of a report by a President’s council of economic advisers. But the professionalism of the council’s staff usually manages to overcome the instincts of the White House publicists. The result, however uncolorful the cover, is a solid contribution to current economic debate.