SAVINGS, INVESTMENT & THE DEFICITS
Over the past decade, thanks to fracking, the US has approached self-sufficiency in oil. Since 2008 the trade deficit in oil fell from over half of the overall trade deficit to under 10% in 2016.
Surprisingly, however, the massive decline in the oil deficit did not lead to a contraction of the overall trade deficit. Rather, the non-petroleum deficit expanded to offset the improvement in oil. Actually, it should not be a surprise as this is a beautiful example of the standard economic analysis that the current account balance (the trade deficit plus certain capital transactions) equals the gap between domestic savings and investments.
When it first became obvious that the Reagan tax cuts were going to lead to a very large structural federal deficit, main stream economic forecasters started to talk about crowding out. If you look at the US economy as a closed system, domestic investments must equal domestic savings and interest rates are the price that changes to ensure that tat identity holds.
We clearly got a massive increase in the federal deficit as after the Reagan tax cuts the federal deficit exploded from -2% to – 6% of GDP. Moreover, this occurred during the time of very strong economic growth that should have caused the deficit to contract. But interest rates did not rise and the crowding out analysis was discredited. Vice President Cheney even went so far to claim this demonstrated that deficit do not matter.
But according to my friend, who advises on best stocks for beginners, the view that savings must equal investments only holds in a closed economy. In those days virtually everyone looked at the US economy as a closed system and ignored the international aspects of the economy. In an open economy, however, savings does not have to equal investments because foreign capital inflows can finance a gap between savings and investments. In a closed economy, interest rates adjust to ensure this identity. But in an open economy both interest rates and the currency can move to ensure that economic identity prevails.
As the chart shows, the US has sustained a large gap between savings and investments since the 1980s. Initially, the large federal deficit following the Reagan tax cut was accompanied by a massive 50% surge in the dollar. This was generated by foreign investors bidding up the dollar as the demand for dollars exceed the supply. But with a lag, the strong deficit lead to an increase in the current account deficit — the supply of dollars–and the supply and demand for dollars balanced without the dollar rising.. But this analysis brings up another identity that hold in an open economy; the domestic savings-investment gap must equal the current account balance.
As the chart shows, the identity that the savings-investment gap must equal the current account deficit has clearly held over the years. We had crowding out after the Reagan tax cuts, it just worked through the dollar to hurt the economic sectors exposed to foreign competition rather than interest rates to impact the interest sensitive sectors. Moreover, as this analysis shows that the trade deficit is not a function of NAFTA or the other things that President Trump claims. If you look at the US as an open economy it is obvious that the large trade deficit and the loss of many manufacturing jobs has been caused by the Republican tax cuts that produced a structural federal deficit, a large domestic-savings gap and the large current account deficit. Moreover, if Trump is able to implement another round of large tax cuts it will lead to a widening of the domestic-savings gap and the current account –trade — deficits. His tax policies will severely damage the American manufacturing worker that elected him in hopes that he could make America great again.
What I find interesting in your second graph is that a big increase in the deficit during a republican presidency is offset by a decrease in the deficit during a democratic presidency.
Why do people think the republicans are so good for the economy?
It is a deliberate policy, called starve the beast.
They deliberately expand the deficit to keep the democrats from expanding government.
The US imports half of the roughly 20 million barrels per day that it consumes. We are not nearing self sufficiency due to fracking.
If you are going to talk about self sufficiency, you should also look at exports, not only imports.
SW — you need to look at the net oil trade.
For example so far in 2017 oil trade–crude and refined — averaged:
exports 5,462 thousand barrels per day
imports 10, 462 thousand barrels per day
so exports were equal to 54% of imports.
The data on petroleum imports and exports in dollars is from the Census is from the Census monthly imports and exports report.
You might want to look at : EIA: OIL IMPORTS AND EXPORT EXPLAINED
At the above source the EIA says:
The United States is a net exporter of petroleum products, and it also exports some crude oil
Because the United States imports petroleum, it may seem surprising that it also exports petroleum. In 2016, total U.S. petroleum exports averaged about 5.2 MMb/d, which made the United States a net exporter (exports minus imports) of petroleum. The total U.S. petroleum exports includes about 0.5 MMb/d of crude oil, 52% of which went to Canada.
Most U.S. petroleum exports are petroleum liquids and refined products. Because of logistical, regulatory, and quality considerations, exporting some petroleum products is the most economical way to meet the market’s needs. For example, refiners in the U.S. Gulf Coast region frequently find that it makes economic sense to export some of their gasoline to Mexico rather than shipping it to the East Coast of the United States, because lower cost gasoline imports are available to the East Coast from Europe.
“Surprisingly, however, the massive decline in the oil deficit did not lead to a contraction of the overall trade deficit.”
That is not surprising to me at all. Our trade deficit is nothing more than our cumulative willingness to go into debt to buy more good and services then we made. If it’s not petrol, it will be something else.
I do not think self-sufficiency in petrol is really such a Good Thing. I would rather drain the reserves of crazies in the Middle East than our own.
While deficits make more financial assets available, they also increase, in equal amount, dollars spent by govt and therefore available to invest. The overall effect is null.
Most U.S. petroleum exports are petroleum liquids and refined products. Because of logistical, regulatory, and quality considerations, exporting some petroleum products is the most economical way to meet the market’s needs.
Most U.S. petroleum exports are petroleum liquids and refined products. Because of logistical, regulatory, and quality considerations, exporting some petroleum products is the most economical way to meet the market’s needs
We refine products from imported crude oil.
You are talking about dollars not oil.
Yes, there are times when you should use barrels of oil for your analysis, and there are times when you should use dollars.
When you are talking about the balance of trade you should use dollars..
It just would not make sense to talk about barrels of oil and dollars of everything else when talking about the trade deficit. In this case everything should be in the same terms. It is the way you combine crabs and apples to get crab apples.
You are right about most oil imports being crude and most oil exports being refined products. In the chart I pointed out that petroleum included both crude and refined products. Remember, a barrel of gasoline or other refined products is worth more that a barrel of crude and using dollars rather than barrels takes that into account.
“… a barrel of gasoline or other refined products is worth more that a barrel of crude…”
It also takes more than a barrel of oil to make a barrel of refined product.
Shouldn’t “FEDERAL DEFICIT( % OF GDP)” be more accurately labeled “FEDERAL BALANCE (% OF GDP)” OR “FEDERAL SURPLUS (% OF GDP)”
As it is, for example, ~Jan 2010 shows ~-10% deficit/gdp.
That’s a negative deficit, though really should show a negative surplus…
May 20, 2017 1:29 pm
rather drain the reserves of crazies in the Middle East
when purchase price is low…