Economy
Does a trade deficit mean US wealth is moving into foreign hands?
Summary
- And will tariffs help mitigate that? A senior adviser to President Donald Trump claims the US's overall trade deficit represents a transfer of wealth into foreign hands. Here’s a breakdown of how this works.
Peter Navarro, senior trade adviser to US President Donald Trump, claimed last week that cumulative US trade deficits from 1976 to 2024 had transferred over $20 trillion of American wealth into foreign hands (Financial Times, 8 April). A quick calculation shows that the sum of US trade deficits over this period was, indeed, about $22.2 trillion. But how is this a wealth transfer? If the US imports goods by paying dollars, isn’t it a transaction rather than a transfer?
Mr Navarro’s point is best understood in terms of America’s external balance sheet. To construct it, take all US entities—individuals, government and private enterprises—and add up what they owe (liabilities) and what they own (assets) relative to the rest of the world.
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On this balance sheet, the asset side has foreign assets held by US nationals. Examples include a Nike shoe factory in Vietnam, an investment in Indian government bonds by the California Pension Fund, or an American-owned property in Mexico.
The liability side contains US bonds, stocks and real assets held by foreigners, such as the Japanese-owned Subaru manufacturing plant in Indiana, Apple stock held by Indian investors, or US Treasury debt owned by the Chinese government.
At the end of 2024, the US owned $35 trillion of foreign assets, and foreigners owned $62 trillion of US assets. The negative $26 trillion gap between the two is the US’s net international investment position (NIIP).
A negative NIIP means that the US is a net debtor to the rest of the world, and this indebtedness is worsening at an alarming rate. The Trump administration seems to believe that trade deficits are the root cause, and pruning them will make the US balance sheet strong again.
A global comparison shows countries that run trade deficits are generally net debtors to the rest of the world, and countries with surpluses tend to have positive NIIPs. This is not a coincidence; there is a clear accounting relationship between trade deficits and NIIP.
From trade deficit to weak balance sheet
The US runs a massive goods trade deficit and a small surplus on services, which adds up to a fairly large current account deficit. That represents a net outflow of dollars to the rest of the world, which is financed in two ways. One, by selling American bonds, shares or real assets to foreigners, thereby increasing US international liabilities. Two, by reducing investment in international assets.
Over the past five decades, persistent deficits have resulted in a continuous fall in the stock of foreign assets held by the US and a corresponding rise in American assets owned by foreigners. In other words, the NIIP has become more negative. This is the crux of Navarro’s argument: that the cumulative trade deficit represents a transfer of American wealth to foreigners.
Will tariffs fix this problem? The US administration thinks so. It claims tariffs will reduce trade deficits and generate revenue, which, in turn, will improve NIIP. But there’s an inherent trade-off here. If tariffs reduce imports, the trade deficit will improve, but revenues from tariffs won't be as high. If import demand remains unchanged, tariff revenues will come in as expected but the trade deficit will keep worsening.
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And that's not all—a range of outcomes are possible at this point. Faced with the threat of tariffs, partners may agree to import more from the US or open up their markets to US products (a positive for NIIP). But if some countries (e.g. China) retaliate with matching tariffs, the resulting trade uncertainty would deter US firms from investing overseas (a negative for NIIP). Reshaping of supply chains could raise the cost of production in the US, potentially disincentivising investment into the US (again a positive for NIIP).
Even if tariffs actually reduce the trade deficit, NIIP may not fall in the same proportion. That is because valuation effects due to changing stock prices and exchange rates also play a role in determining NIIP. In recent years, foreigners have invested relatively more in US equity than debt. As a result, US foreign liabilities are increasingly skewed towards equity. When US stock markets outperform, the market value of foreign-owned stock rises, which drags NIIP down.
Also, since foreign liabilities tend to be dollar-denominated, while foreign assets have a foreign currency component, a stronger dollar worsens NIIP by shrinking asset values relative to liabilities. A significant part of balance sheet weakening or strengthening is valuation-driven and immune to trade flows.
Confidence vs current account
The flip side of a trade deficit is a capital account surplus. The fact that foreign investors are happy to bring in funds to finance whopping US trade deficits ($1.2 trillion in fiscal 2024) should not be seen as a wealth transfer; rather, it shows that US assets are attractive to investors.
The US is the world’s top recipient country of foreign direct investments, it issues the global reserve currency and has the world’s deepest and most liquid bond markets. Tariffs risk all this by creating uncertainties about doing business, inflation expectations, and market valuations.
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Already, bond market sell-offs, volatile treasury yields, and dollar weakening suggest some doubt about the safe-haven status of US assets. The underlying strength of the US balance sheet is, finally, measured by the confidence that investors repose in the economy. Tariffs should not endanger that confidence.
The author is an independent writer in economics and finance.
