What is the Balance of Trade?
The balance of trade is how much a country sells to other countries (exports) compared to how much it buys from other countries (imports). It looks at both visible things you can see and touch, like cars or clothes, and invisible things you can’t, like services or tourism. The balance of trade is a big part of a country’s balance of payments current account.
Exports and Imports
There are two main types of exports and imports:
Visible Exports and Imports
Visible exports are physical goods a country sells to other countries. Things like computers, toys, cars, and clothes. You can see and touch these.
Visible imports are physical goods a country buys from other countries. Also things you can pick up and hold, like TVs, furniture, and food.
Invisible Exports and Imports
Invisible exports are services a country provides to other countries to make money. Things you can’t hold like banking, insurance, tourism, and shipping.
Invisible imports are services a country buys from other countries. These are also things you can’t pick up, like using another country’s banks, telecommunications, or shipping to move stuff.
Trade Surplus
A trade surplus is when the total value of a country’s exports is more than the total value of its imports.
Let’s say Countryland had $100 billion in visible exports, $50 billion in invisible exports, $70 billion in visible imports, and $40 billion in invisible imports.
Countryland’s total exports would be $100 billion + $50 billion = $150 billion And its total imports would be $70 billion + $40 billion = $110 billion
$150 billion in exports – $110 billion in imports = $40 billion
Countryland has a $40 billion trade surplus. It’s selling $40 billion more to other countries than it’s buying from them. This is generally seen as a good thing.
Benefits of a Trade Surplus
A trade surplus can be really good for a country’s economy. Here are some reasons why:
More Money Coming In
With a surplus, more money is coming into the country than going out to other countries. This can make the country richer overall.
Increased Demand
To have a surplus, other countries must want to buy a lot of things the country makes. This high demand is good for the country’s businesses.
More Jobs
As other countries buy more stuff, the country’s factories and companies have to make more. This often means hiring more workers, which lowers unemployment.
Stronger Currency
With more money coming in, the country’s currency can get stronger compared to other currencies. A strong currency has more buying power.
Trade Deficit
Now a trade deficit is just the opposite – it’s when the total value of a country’s imports is more than its total exports.
Back to Countryland, let’s say one year things change. Now it has:
- $80 billion in visible exports
- $40 billion in invisible exports
- $90 billion in visible imports
- $50 billion in invisible imports
So now the total exports are $80 billion + $40 billion = $120 billion And total imports are $90 billion + $50 billion = $140 billion
$120 billion in exports – $140 billion in imports = -$20 billion
Uh oh, a $20 billion trade deficit. Countryland is buying $20 billion more from other countries than those countries are buying from it. This is usually seen as not so good.
Downsides of a Trade Deficit
Trade deficits can hurt a country’s economy in a few ways:
Money Leaving the Country
More money is going to other countries to buy their stuff than is coming in from them buying the country’s stuff. This can make the country poorer overall.
Lower Demand
With a deficit, other countries aren’t buying as much of what the country makes. Low demand is bad for the country’s businesses.
Potential Job Losses
As demand drops, factories and businesses might make less stuff. This could lead to layoffs and higher unemployment.
Weaker Currency
With more money leaving the country, its currency could get weaker relative to others. A weak currency has less buying power.
Balancing Trade
Countries often take steps to try to balance trade or tilt the balance in their favor. Here are some common tactics:
Import Tariffs
These are special taxes on imports that make foreign goods more expensive. The idea is it will encourage people to buy local products instead. But this can backfire if other countries put tariffs on the country’s exports in response.
Export Subsidies
Here the government gives money to local companies to help them export more. This can give them an edge over foreign competitors. But other countries might cry foul and put in their own subsidies.
Lowering the Currency Value
A country might take steps to lower the value of its currency. This makes its exports cheaper for other countries to buy. But it also makes imports more expensive for its own people to buy.
Trade Agreements
Countries often hammer out special trade agreements to give each other preferable terms. This could mean lowering tariffs and other barriers just for each other.
The balance of trade is always shifting as countries constantly try to get the best deal. It’s an ongoing tug of war. But the goal is usually to sell more than you buy, achieving that sought-after trade surplus. Because at the end of the day, every country wants more money coming in than going out.
