Effects of the Trade Balance to the Economies of China and the U.S.

The high trade deficit that the U.S. maintains with respect to China bears adverse economic outcomes on aspects such as employment, wage, and inflation levels in the country. With respect to employment levels, increasing imports could destroy available jobs if they not matched with equivalent levels of imports. Such imports for instance compete with the domestic entities for domestic market thus reducing the market share of domestic firms (Elwell, Labonte & Morrison, 2007). In response to the reduced market share, the domestic firms lower their production levels thus resulting into job cuts to avoid substantial losses. A net job loss in the economy may however fail to arise, if aspects such as monetary policies instituted by the government, result in adequate job creation in other sectors to offset the reductions in sectors affected by increased imports (Elwell, Labonte & Morrison, 2007). Adverse employment effects of imports from China in the U.S. are readily evident in the manufacturing sector where cheaper Chinese alternatives reduce the market share for goods manufactured in the U.S. greatly (Elwell, Labonte & Morrison, 2007).

A second impact of increasing deficit arises with respect to wage levels. As the population turns to cheap imports thus increasing the level of imports relative to exports, entities seek areas from where they can manufacture goods at lower costs. Such a scenario has led to U.S. entities (e.g. Nike) locating their manufacturing plants in low-wage countries such as China or outsourcing such operations from independent contractors in such low-wage countries (Elwell, Labonte & Morrison, 2007). Subsequently, such a transition in search for lower labor costs puts pressure on wage levels existing in the U.S. Lower wage levels and increased unemployment reduce household incomes thus reducing the demand required to sustain economic growth.

A third effect of large deficit is creating vulnerability of the U.S economy to crises. Such aspect arises out of increased capital inflows from China (large-surplus country) to the U.S. (large-deficit country). Whereas foreign direct investment (FDI) would boost employment and output, Morrison (2011) notes that Chinese investment in the U.S. is largely comprised of government securities rather than FDI. Such investment provides inexpensive sources of capital in the market thus pressurizing  interest rates to remain low, which, in turn, promote imprudent lending practices (Astley, Giese, Hume and Kubelec, 2009; Kenc & Dibooglu, 2010).  Easy availability to credit increases demand for various commodities thus creating an inflationary trend in the economy. Go to part 3 here.

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