This Administration Cares a Lot About the Wrong Deficit
Policymakers should focus more on the fiscal deficit instead of the trade deficit
It is remarkable that in an era of skyrocketing national debt, Washington remains fixated on the wrong deficit. The trade deficit—often portrayed as evidence of economic decline—is neither a problem nor a measure of a country’s success in global trade. It is merely a reflection of capital flows. The real crisis, the one that threatens U.S. prosperity and economic stability, is the fiscal deficit: the unchecked explosion of government spending that continues to drive up the national debt.
The current administration, like many before it, rails against the trade deficit, treating it as a scorecard for economic nationalism. But trade imbalances are not inherently harmful. They reflect differences in savings and investment between countries. The United States runs persistent trade deficits because it attracts foreign capital, which in turn funds domestic investment and drives growth. Capital inflows from abroad allow U.S. businesses to expand, innovate, and create jobs. This is not a weakness—it is a sign of confidence in the U.S. economy.
As economists Phil Gramm and Don Boudreaux recently noted in The Wall Street Journal, “[F]oreign capital investment creates American jobs and fuels economic growth no less than do foreign purchases of American exports. . . . Trade deficits don’t stifle growth, nor do trade surpluses foster it.”
By contrast, the fiscal deficit is a clear and present danger. The U.S. government is running trillion-dollar deficits far into the future, with no serious efforts to bring spending under control. Debt held by the public is now $29 trillion, and interest payments alone threaten to crowd out private investment and public services. The Congressional Budget Office projects that debt-to-GDP ratios will continue climbing toward unprecedented levels, yet policymakers remain unwilling to confront the underlying causes: runaway entitlement spending that is significantly outpacing the growth of the private sector.
If the administration genuinely wanted to improve America’s economic future, it would focus on reducing the fiscal deficit, not the trade deficit. The path to a sustainable economy does not lie in restricting imports or attempting to “win” at trade through tariffs and protectionism. Reducing the trade deficit is not achieved by forcing foreign competitors to buy more U.S. goods; it requires fostering a higher domestic savings rate, including higher government savings. The only meaningful way to shrink the trade deficit without distorting markets is for the United States to save more and borrow less. This means controlling federal spending, reforming entitlements, deregulating, and moving towards a simplified tax structure with lower rates and broader bases.
The irony is that those most vocal about the trade deficit often advocate for policies that worsen the fiscal deficit. Protectionist measures such as tariffs and subsidies increase government expenditures and distort economic incentives, making the economy less efficient. At the same time, an abundance of economic literature collectively confirms the twin-deficits hypothesis, showing that fiscal deficits generally lead to deteriorations in current account or trade balances, though the strength of this relationship varies depending on interest-rate regimes and economic conditions.1
Worse still, protectionist measures often trigger retaliatory responses from trading partners, leading to reduced export opportunities and slower growth. When the first Trump Administration imposed tariffs on China in 2018, retaliatory tariffs targeted U.S. agriculture, which resulted in the USDA having to disburse tens of billions in aid to farmers.
More recently, President Trump announced 25 percent tariffs on automobiles, pharmaceuticals, and semiconductor imports. These new import taxes are forecasted to reduce real GDP by about 0.3 percentage points and lower real household income by about $1,000. History is clear: The more the U.S. turns inward, the weaker it becomes.
Rather than chasing the phantom of a shrinking trade deficit, the administration could focus on curbing the spending binge that threatens long-term prosperity. Fiscal restraint would not only reduce U.S. reliance on foreign capital but also strengthen its position in the global economy. A government that lives within its means fosters a stable financial environment, one where investment flows are determined by market forces rather than by deficit-induced borrowing.
If policymakers spent half as much time worrying about the national debt as they do about the trade deficit, we might stand a chance of getting our fiscal house in order before the next financial crisis arrives. Until then, the U.S. economy remains a house built on borrowed money, and no amount of trade posturing will change that.
See: Mustafa E. Bilman and Sadık Karaoğlan, “Does the Twin Deficit Hypothesis Hold in the OECD Countries Under Different Real Interest Rate Regimes?” Journal of Policy Modeling 42, no. 1 (2020): 205–15; Davide Furceri and Aleksandra Zdzienicka, “Twin Deficits in Developing Economies,” Open Economies Review 31 (2020): 1–23; António Afonso, Florence Huart, João Tovar Jalles, and Piotr Stanek, “Twin Deficits Revisited: A Role for Fiscal Institutions?” Journal of International Money and Finance 121 (2022).