There is some merit to President Donald Trump’s charge that Germany has used the euro to gain an unfair competitive advantage for its exports. However, one has to question how much thought the administration has given to what should be done about Germany’s very large trade surplus.
The administration may not have considered the economic and political risks of adopting such a high-handed approach to Europe’s cross-country economic imbalances. This is especially the case ahead of Germany’s parliamentary elections, scheduled for September this year.
One should hope that the Trump administration soon backs off from its diatribe against Germany and seeks instead to open a constructive dialogue about the coordination of those two countries’ macroeconomic policies. If not, financial markets should prepare themselves for difficult times as the US and Germany drift toward beggar-thy-neighbour policies.
There is a good case that Germany’s membership of the euro has enormously benefited its export sector. Were it not a part of the monetary union, Germany’s currency would have soared to reflect the large improvements in its labour productivity since the euro’s launch in 1999. In the euro area, Germany has benefited from a cheap currency that has been dragged down by the poor productivity performance of countries like Greece, Italy, and Portugal.
According to the latest data, Germany is running a current account surplus of almost 9% of GDP at a time when the much maligned Chinese economy is running an equivalent surplus of around 2% of GDP. Germany’s very large surplus implies that the rest of the world is boosting the German economy through the purchase of its exports to a much greater degree than Germany is boosting the rest of the world’s economy through imports.
It is one thing to identify that Germany has benefited from a cheap euro which has contributed to this trade imbalance. It is quite another to promote a coherent strategy to address that imbalance. The Trump administration is yet to offer any real solution to this problem other than trying to talk down the dollar.
A crucial point that Trump’s team is choosing to ignore is that Germany does not have a currency of its own and that any move to have Germany leave the euro would almost certainly trigger a major global financial crisis. It would do so by inducing a wave of European sovereign debt defaults, as interest rates in southern Europe would rise substantially in the wake of the euro’s unravelling.
What the US administration chooses to ignore further is that a trade deficit implies an imbalance between savings and investment domestically. This is because in a closed economy, the level of investment is constrained by the level of savings to finance it. On the contrary, trade enables economies to invest beyond their level of domestic savings or utilise excess savings by running a trade deficit or surplus. Had the Trump administration recognised this point, it would be pushing Germany to use its fiscal room to boost the European economy and reduce its excessive degree of saving.
Similarly, if the Trump administration was serious about helping to redress Germany’s large bilateral trade surplus with the US, it would not be proposing a highly expansionary fiscal policy at a time of full employment. Such an approach to US policy is bound to cause a decline in American public savings and a rise in investment. That in turn would only cause the US trade balance to deteriorate.
One must question the timing of the administration’s offensive against Berlin. German politics is showing clear signs of fragmentation, and campaigning has begun for the September parliamentary elections. This leaves Chancellor Angela Merkel politically exposed, with little room for compromise with the US.
Desmond Lachman is a resident fellow at the American Enterprise Institute. He was formerly a Deputy Director in the International Monetary Fund’s Policy Development and Review Department and the chief emerging market economic strategist at Salomon Smith Barney.