Uri Dadush

After thirty years, the fact that Japan’s trade surplus may be turning into a small deficit is, in economic terms, a non-event—even though it plays a large role in the imagination of some pundits and the public at large. It is a non-event because Japan can afford to run large trade deficits. (And it should be noted that this is part a temporary reflection of the earthquake and tsunami). Not only will Japan’s current account, which includes net income on its investments abroad and those of foreigners in Japan, remain in surplus, but Japan is a large net creditor and has ample foreign currency reserves.

Even though the shift to trade deficit is economically insignificant, it is worthy of note because of the message it contains about economic policy in the long run. There are two main messages here: first, expect the demographic profile and speed of development of a country to be reflected in its balance of payments. When Japan’s population was relatively young and the rise in its standard of living was very rapid, Japanese household savings were high. As growth slowed and Japanese people aged, their savings rates declined and so did their trade surplus. Meanwhile, the Japanese built large foreign assets to tide them over in their golden years. This is an example of how integration into a global economy where countries have very diverse age profiles can help manage a major demographic transition. It is also another example of how mercantilists who obsess over trade imbalances have it wrong. Second, expect large and rising government deficits to sooner or later be reflected into trade deficits. Japan’s unsuccessful multiple attempts to use deficit spending to pull out of its growth slump has contributed to one of the world’s largest and most persistent government deficits, and these deficits are no longer supported by adequate household savings.

The lesson for the United States from Japan’s experience is fairly straightforward: worry less about America’s trade deficit, which is an adjustment to broader forces. Worry instead about large U.S. government deficits and why the savings rate in U.S. households is so low despite the fact that the baby boomers are about to retire. In other words, deal with the causes, not the symptoms.