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Trade Deficit Shouldn't Sink GDP Again

Jason Stipp

Jason Stipp: I'm Jason Stipp for Morningstar. We got the government's balance of trade data on Thursday for August. The trade deficit expanded to $46 billion, that's up from $42 billion that we saw in July.

Here with me to talk about what he is looking at in the report and why the report is so important is Morningstar's Bob Johnson. He is director of economic analysis.

Thanks for joining me, Bob.

Bob Johnson: Great to be here.

Stipp: So, give me a little sense of the trend, because we did go up in August from July, but you also have to take into account what was happening before that as well. What's the trend been in the trade deficit for the last few months?

Johnson: We've been in the low $40 billions, kind of $40 billion, $41 billion, $42 billion for several months, and that have been the trend. And then in June, the number really spiked upward dramatically, close to $50 billion deficit in one month. And some of it was from pharmaceuticals, diamonds; some very odd one-time factors. And the number just went sky high at just the wrong time, and then it dipped back in July to $42 billion, which was about where it had been, and now we're back up to $46 billion.

So, it's clearly not as bad as the stunner we had in June, but we did move the wrong direction.

Stipp: Do you think that that move to $46 million could potentially be a new baseline, or do you think we're still working through some anomalies in the data that we've seen over the last few months?

Johnson: Well, I think the number -- the last three month average is magically the same $46 billion we reported [for August]. So I think we've probably set a new baseline. There were some odd things, a few odd things this month, but I think the $46 billion probably does represent a new baseline.

Stipp: Okay, so let's dig in and talk about some of the data from August that that was underlying the headline number. Exports obviously seem to be an important thing for us right now. What was your take on the export number, and where are we there?

Johnson: The trade that was obviously made up two components, the exports and the imports, and the exports were basically flat, and the imports chugged up at the $4.1 billion rate, so almost all the bad news came on the import side of the house. It was up fairly big, and the exports were flat.

Now the interesting thing when you tear into the export number is that, again we were flat, but the airplane part of it was a major part. It was almost $2 billion decline month-to-month. You know the big air shows and a few other things happened, and so anyway we were off considerably in aircraft, but hopefully [that is]  something that reverses itself at some point down the road here.

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Stipp: So it could be a short-term effect. Anything interesting on the import side? Is the mix of what we are bringing in different than what you have seen in the past?

Johnson: I think like we have seen before, the consumer is doing a good part of it. Over half of it comes from either consumer goods or automobiles that consumers purchase. So, unfortunately the consumer is the big driver of that, and then when they are choosing to buy, unfortunately, a lot of it is imported goods.

Stipp: Another key piece of the data that we saw in August was China, and what our deficit has been with China, and I think it grabbed some of the headlines this morning. What's your take on that?

Johnson: We did set a new record with China in terms of the trade deficit. It was $28 billion. That's a new record, and I think bigger than it's ever been with any other country, even going back to the days of Japan. So I think that's a big number.

And frankly the really odd thing that I think puts that in a little perspective: That's three times our trade deficit with OPEC and oil. So it's a big number. It's four times our trade deficit with Mexico and Japan. We always think Japan, the export juggernaut; the deficit that we have with China is four times our deficit with Japan right now. So that's a big number.

Stipp: So the headline number, obviously, is making an impact on the newspapers, potentially. Do you think there is going to be any sort of impact politically or on policy measures, just because we are starting to see how big of a partner we are with China now?

Johnson: I think certainly the people in Congress that want to punish China we'll have a little bit more ammunition from those report, which I suppose is bad news, but I think we do probably have to reset our currencies and rethink our export policy with China, given the size of this deficit, which is huge.

Stipp: Sure. Bob, stepping back and looking at this import/export report in terms of GDP, I know it's an important thing that you've been looking at. The really high deficit that we saw back in June had a big impact on GDP in a negative way. So, tell us how you are thinking about this last few months' reports in terms of the next GDP report that we'll get?

Johnson: You hit it in on the head, because we had in the second quarter an economy that was growing close to 5%, but we were buying a lot of imports to get there. And so it took over 3% off of GDP, so we grew under 2%.

So, this time around, based on the numbers that we've seen so far and if we stay on the same trend, instead of subtracting 3%-3.5% from GDP, the number is probably likely not to be any subtraction or maybe a 1% subtraction in worse case.

Stipp: So certainly a much smaller effect. So, what are you expecting for GDP, then, given that we hopefully won't see that big negative downside from the trade deficit?

Johnson: I had been looking for a 2%-2.5% GDP growth rate in the third quarter, which by the way is an acceleration from where we were in the second quarter, which a lot of people weren't expecting just a few months ago. So, it's good to see the acceleration.

And I think after today's report that maybe that number may be at the high end of that range at 2.5% GDP growth in the third quarter. We'll know a little bit more tomorrow when we get the retail sales report and the inventory reports, which will provide the last pieces of data we'll see before the GDP announcement later this month.

Stipp: Last question for you, Bob, when you're looking ahead at where the deficit might be going, what factors are you looking at that could determine whether that deficit comes down or goes up even further?

Johnson: Short-term there are little play things going on. We talked about the aircraft really hurting us this time around, usually those just bounce back the next month. So, I think that is certainly going to be a positive in the month ahead, and would tend to take the deficit down a little bit.

On the other hand, we're getting in the holiday season. When we tend to import things; things are seasonally adjusted, but we don't always capture all of that.

But what I'm really looking forward to and hopeful for is some of the things going on with the dollar. Recall these are pretty badly lagged numbers. So, these numbers are still hurt a little bit by the dollar actually strengthening, particularly against the euro in the June quarter, and remember everything works with lags, you have to buy things in advance, and so forth, and the euro was very weak, got as low as 1.2 when we go back and look at June.

Stipp: The European sovereign debt crisis, obviously, have a big effect around that time period.

Johnson: Exactly. And now the dollar has gotten weaker by almost 20% versus the euro and now it's at $1.4 to the euro. So, that's a pretty big jump, and that affects things: electrical equipment, where we compete with Siemens; aircraft, wehere we've got Boeing against the European consortium; even some agricultural products. All of those things, the U.S. is now suddenly in less than a month's – less than a quarter's time, 20% more competitive. I think it takes that awhile to seep through, but I think that's going to be very positive in the months ahead.

Stipp: Well, Bob, thanks so much for your insights and perspective on this trade deficit, and your forecast.

Johnson: Thank You.

Stipp: For Morningstar, I'm Jason Stipp. Thanks for watching.