Misrepresentations of Trade: The Short Changing of Services

Last month, Pascal Lamy, Director-General of the World Trade Organization (WTO), wrote a thought-provoking Op-Ed in the Financial Times suggesting the current method of calculating international trade balance is outdated because it fails to take into account the global nature of supply chains.  Mr. Lamy is correct, but the calculation of balance of trade with our global partners, including China, is insufficient for other reasons as well, including its inability to accurately capture the extent of trade in services.

As Mr. Lamy writes, “with trade imbalance causing friction between leading economies, the measures we use can gravely exacerbate geopolitical tensions at a time when co-operation is more vital than ever." The creation of such tensions due to reported trade imbalances is certainly occurring in the United States, where concern over the value of China’s currency has led to what some have called a “currency war." While I will not attempt to argue the legitimacy of concerns that China undervalues its currency, the issue is salient due to our growing reported trade deficit with China, which was $273 billion in 2010 and $227 billion in 2009 according to the U.S. Census Bureau.

Our reported trade deficit would be even larger, if not for the America’s highly competitive service exports. Though services can be difficult to define, they can generally be understood as economic activities that are not related to manufacturing, agriculture, or mining (i.e. lawyers, teachers, bankers and architects are all examples of service providers). The U.S., like many developed economies, excels in providing services. In 2010, the U.S. exported $523 billion of services and reached a record $164 billion services trade surplus.

However, just as our current balance of trade calculation fails to recognize the global nature of supply chains, cross-border calculations of services trade fail to represent the total value of U.S. service exports. The true value of trade in services is undoubtedly much larger than the reported figures.

Though the business transacted by the commercial presence of a foreign company (known as mode 3) is considered international trade under the WTO’s General Agreement on Trade in Services, it is not included in the balance of trade calculation. Likewise, the trade conducted by the temporary movement of a provider (mode 4) and consumption of nationals temporarily abroad (mode 2) are not included in the calculations of trade in services. As a result, the true value of the U.S.’s trade in services – our most competitive sector – is not represented in the U.S.’s national trade statistics and our trade balance appears more lopsided than it is in reality. As Mr. Lamy points out, such misrepresentations of trade balances can, and do, inflame geopolitical tensions and negatively affect global commerce.

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