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News Release

Asian Devaluations Add Sharply to United States Trade Deficit

July 21, 1998

Contact:    Marcus Noland    (202) 328-9000

Washington, DC—The Asian financial crisis has led to sizable currency changes that will have major effects on trade balances around the world. They will add $40-50 billion to the US trade deficit in dollar terms and considerably more in real (volume) terms. Much of the increase will come in US trade with Japan and Korea (Table 1). Western Europe will experience an even larger deterioration in its trade balance with Asia.

The impact of the crisis on the United States is felt differentially throughout the economy. The traded-goods sector declines, as just noted. But output of non-traded goods, such as construction and real estate, expand because of lower inflation and lower interest rates. The "housing and construction" sector, for example, expands by 0.7-0.8 percent due to the Asian crisis (Table 2). The entire services sector expands by 0.4 percent.

In Global Economic Effects of the Asian Currency Devaluations, authors Marcus Noland, LiGang Liu, Sherman Robinson, and Zhi Wang examine the impact of the crisis on world trade flows, the prospects for a devaluation of the Chinese currency, and possible trade policy response in the United States. Asian countries will greatly improve their trade balances, primarily by compressing imports but also by increasing exports. Countries outside the region will see their traded-good sectors contract, as they lose export markets and absorb increased imports, while their non-traded goods sectors expand to take up the slack at least partly.

If history is any guide, the response of the United States to the further sharp rise in its trade deficit could be another episode of protection and trade policy unilateralism. The crisis is likely to increase the attention that trade authorities devote to disputes with Asia. It will increase the probability of the US undertaking formal actions that could result in retaliation and, because the Asian countries will become even more dependent on the US market, increase the likelihood that they will succumb to US pressure.

However, the authors also note that the financial crisis aspects of the current episode, and the creation of the World Trade Organization, may mitigate the US policy response. Much may hinge on macroeconomic conditions in the United States. The US political system may shrug off the increase in the US trade deficit if economic growth remains strong. If the US economy falters, though, the result could be an upsurge of protection and trade policy unilateralism that could in turn be emulated around the globe.

An important aspect of the crisis thus far has been the decision by the Chinese authorities to avoid devaluing their currency. The authors estimate that the direct impact of the crisis on China's balance of payments position is relatively modest, especially compared to the more fundamental adjustment problems the Chinese face. A real depreciation of 10 percent or less would restore the Chinese trade surplus to its precrisis level—if everything else were held constant. The problem is that a Chinese devaluation would probably spark another round of financial turbulence and competitive devaluations. In the end, China itself (as well as the rest of the region) might end up worse off. The authors recommend other, more constructive, policies to address the Chinese adjustment problem.

The study also finds that, as a consequence of the large depreciation of the yen, Japan will increase its trade surplus with the other economies of Asia as well as with the United States. Restoration of the yen to its level of a year ago would mean a substantial increase in net exports for the rest of Asia. This underscores the critical importance of Japan to the region's economic revitalization and recovery from the current crisis.

Table 1: Changes in trade balances due to Asian devaluations a
(billions of dollars)

Global of which, with: Japan South Korea China

United States -43 -14 -13 0
Western Europe -55 -11 -8 -1
South Korea 47 9 - 4
Thailand 34 8 0 2
Japan 19 - -9 5

Note: Based on table 2.5 on page 42, which reports results for 12 additional countries and regions.

a. Assumes no Chinese devaluation.

Table 2: Impact of Asian devaluations on US trade and
sectoral production

(with and without 6 percent Chinese devaluation, in percentages)

Change in exports Change in imports Change in production

Without China With China Without China With China Without China With China

Agriculture -5.4 -6.5 -0.4 -0.6 -0.9 -1.1
Processed food -4.3 -5.1 0.7 0.8 0.0 0.0
Forestry and fishery -7.3 -8.2 -2.4 -3.3 -1.4 -1.7
Mining -5.1 -5.6 0.5 0.6 -0.5 -0.6
Energy -3.5 -3.6 1.3 1.5 -0.0 0.0
Textile and apparel -3.6 -4.8 0.9 1.8 -0.6 -1.0
Light manufactures -6.0 -6.9 1.2 1.5 -0.8 -1.2
Intermediate goods -3.2 -3.6 0.6 0.8 -0.7 -0.8
Motor vehicles and parts -2.9 -2.9 3.8 3.8 -1.2 -1.1
Other transportation equipment -8.7 -9.2 6.0 6.9 -1.1 -1.2
Electronics -4.6 -4.9 2.4 2.6 -2.4 -2.5
Machinery -4.9 -5.1 1.1 1.3 -2.6 -2.8
Housing and construction -5.9 -5.8 1.4 1.6 0.7 0.8
Services -3.9 -4.0 1.0 1.2 0.4 0.4
Total -4.4 -4.7 1.5 1.7 -0.1 -0.1