There is a lot that is misunderstood about imports and exports. So here comes Smiling Dave to lay it all out in simple language.

The Old Days.
In the old days, the prevailing understanding was that exports are wonderful, imports are terrible. This was because of the underlying assumption, called Mercantilism, that the wealth of a nation is, by definition, how much gold it has. So if you dump your potatoes on some fool country and get their gold in exchange, you are the big winner.

It seems ridiculous to us today, for after all you cannot eat gold, but you can eat potatoes.

Normal times.
A good way to understand the basics of exports and imports is to consider a farmer. He works his fields, grows a crop of potatoes, and takes them to market to sell. His selling those potatoes is exactly the same as exporting them out of his realm. With the money he earns from the sale of his potatoes, he buys all kinds of goodies that he wants. Which is exactly the same as importing them into his realm.

We see clearly now that exporting is a means to an end, the desired end being importing what you want and need. Exporting is the hard work you do; importing is the reward.

As Mises wrote in Marxism Unmasked:

Imports must be paid for by exports and exports have no other purpose than to pay for imports.

Enter Money.
We now have the requisite background to understand what is going on when a country exports more than it imports, or vice versa.Once again, we look at our simple farmer. If one year he sells $10,000 worth of potatoes, but only buys $8,000 worth of eggs and cheese and clothing at the market, that is exactly the same as being a net exporter. Is this good? In a sense it is indeed good, because he has some cash left over. Of course he cannot eat the cash, but sooner or later he will spend it on something and thus live well.

So too, a country that exports more than in imports is left with extra cash in its wallet. What can it do with that cash? Let us look at China, for example. It sells us plenty of things, exporting to us more than it imports from us. China get paid in the only money we have, dollars. What can China do with dollars? Only one thing, spend them in the USA. So that, just like the farmer, sooner or later they will spend that cash, buying American products and living well.

And what of a country that imports more than it exports in a given year? That is like the farmer who bought more than he can pay for with his potatoes. Someone agreed to be paid later, so the farmer can have a good time today. Of course, he eventually has to come up with more potatoes, to pay off the debts he incurred.

So too, a country that imports more than it exports is living well in the present, enjoying all those imports. The USA, for example, is importing more from China than it is exporting. Just like the farmer, who didn’t sell enough potatoes to cover his purchases, and had to hand out IOUs, so too the USA is handing out IOUs to China. These IOUs look exactly like dollar bills, because that’s what they are. A dollar in the hand of a Chinaman is an IOU presented to him, which he can redeem whenever he finds something worthwhile to buy from America.

Is That a Problem? Not in Theory.
In theory, whether your exports are more than your imports or vice versa should not be a very big deal. After all, what happened is that one country is holding some money of the other country, and will someday spend it in the other country. So whether exports or imports are more on any given day doesn’t mean much, because it will all balance out in the end.

Nor in Practice.
In practice, it looks pretty good, too, at first glance. What is happening with China is that the US is importing way more than it is exporting to China. This has been going on every single day for years, averaging over a billion dollars a day more in imports. So the Chinese have a lot of our dollars, waiting to spend them. No big deal, right?

Until now they have been content with lending the money right back to us, thus getting even more dollars from the interest. Again, so what, right?

The only problem left: the future. And it’s getting very near.
To understand the problem, let’s go back to the potato farmer who has not been able to sell very many potatoes, but has found people willing to give him their products in return for IOUs. He also won’t have any problems, unless he borrows much more than he can ever repay. Then he is big trouble. Because one day people will want their money back. If they can take it away, he will lose his very farm. And if they can’t take it away, they will realize they have been suckered and will stop selling him things on credit, not to throw good money after bad.

That’s our situation with China. The time will come when they decide to spend all those dollars. Right now they have enough to buy everything being sold on the New York Stock Exchange. In other words, they can just buy up the whole country. And if the govt imposes laws stopping them, which is quite likely, they will go to Plan B.

Meaning they will look at their huge pile of dollars, realize they have nothing to spend it on, and decide to cut their losses. Their motto will be “We won’t get fooled again”. They will just stop selling us stuff. The Walmart shelves will empty. There will be no American flags waving on the Fourth of July, as they are all made in China.

That is the problem with a huge trade deficit. It shows, by definition almost, that you are living beyond your means. Because you have to pay for your lovely imports with exports, and if you don’t make enough exports, one day your imports will be cut off.

As Peter Schiff put it, we are totally dependent on global charity. And what he means is that the rest of the world is giving us their stuff and asking for nothing but paper money in return. And they aren’t spending that paper money in the USA, which would deprive us of whatever they buy. In other words, they are, at least temporarily, giving us charity.

OK, so we will have to be self sufficient, so what?
The way things are now, we cannot be self sufficient. Taxes and regulations and unions have made it difficult to impossible to produce things in the US. Why do you think we import everything?

Summing it all up.
Exporting is like a storekeeper selling his wares to another storekeeper, and getting paid in coupons that allow him to buy things in that other store. Importing is when he cashes in those coupons.

With that picture in mind, we see that the purpose of exporting is to import. It would be foolish for a storekeeper to just amass coupons from other stores and never redeem them.That is just giving his stuff away for free. Which is exactly where the mercantilists are wrong when they talk about exporting as if it is the be all and end all. Sure, it’s OK economically if your exports are more than your imports, for a while and in small amounts. But you aren’t getting any benefits from your exports until you redeem your coupons and import that fancy French wine and those delicious Cuban cigars.

We also see that you better export to a country that has things you want, or you will be stuck with their coupons. This is the mistake China is making. They are going to be stuck with our coupons [=dollars].

Another thing we can learn is that it’s OK to buy on credit from other stores on a small scale, or even on a large scale, if you have the means to pay your bills. Which is why it’s OK if for a while your imports are more than your exports, but not if it’s a chronic condition and in vast amounts. Which is where the US is now, sadly.

Just as Dave went off to eat a good lunch, pleased with his excellent new article, Devil’s Advocate strolled in.

DA: Dave, this whole article shows you don’t know the most basic economics, I’m sorry. Voluntary trade is always beneficial to both parties. And if China sells us what they make, that is good for China and the USA both. It’s called the Law of Comparative Advantage. They make what they make best, we make what we make best, we trade, and everyone wins. Look it up in Wikipedia, Dave.

SD: The Law of Comparative Advantage is talking about when  both sides are trading useful objects, not when one side is giving the other paper money that cannot buy anything in exchange for actual useful stuff. Only one sides benefits then.

DA: But our paper money is great. You can buy all kinds of stuff that is made in the USA with it.

SD: The thing is, we give them so much paper money there is not enough for them to buy here. It’s as if Mr A has a salary of $100 a week. He then borrows $10,000 every week, assuring the lender his salary will be collateral. I mean, really.