The Rising U.S. Trade Deficit With Japan: Overview and Policy Options

The U.S. merchandise trade deficit with Japan reached $73.9 billion in 1999. It is the largest bilateral deficit with any U.S. trading partner. In addition to the growing deficit in goods trade (with almost all accounted for by trade in machinery and transportation equipment), the bilateral deficit in investment income also has become unusually large so large that it outweighs the U.S. surplus in services trade with Japan. As a result, the bilateral current account deficit $75 billion in 1998 exceeds the merchandise trade deficit with Japan. Options for dealing with this deficit include letting market forces cope with it, raising the value of the yen, opening export markets in Japan, increasing U.S. investments in Japan, and reducing U.S. imports from Japan. This report will be updated periodically.

Order Code RS20400 Updated March 1, 2000 CRS Report for Congress Received through the CRS Web The Rising U.S. Trade Deficit With Japan: Overview and Policy Options (name redacted) Specialist in Industry and Trade Foreign Affairs, Defense, and Trade Division Summary The U.S. merchandise trade deficit with Japan reached $73.9 billion in 1999. It is the largest bilateral deficit with any U.S. trading partner. In addition to the growing deficit in goods trade (with almost all accounted for by trade in machinery and transportation equipment), the bilateral deficit in investment income also has become unusually large — so large that it outweighs the U.S. surplus in services trade with Japan. As a result, the bilateral current account deficit — $75 billion in 1998 — exceeds the merchandise trade deficit with Japan. Options for dealing with this deficit include letting market forces cope with it, raising the value of the yen, opening export markets in Japan, increasing U.S. investments in Japan, and reducing U.S. imports from Japan. This report will be updated periodically. Trade in Goods The U.S. trade deficit in goods (merchandise) with Japan rose to $73.9 billion in 1999, up from $64.0 billion in 1998. The trade deficit with Japan is the largest that the United States incurs with any of its trading partners – including the $68.7 billion deficit with China. For 1999, the deficit was generated by U.S. imports of goods from Japan of $131.4 billion and U.S. exports to Japan of $57.5 billion. In short, the United States buys more than twice as much in goods from Japan as it sells there. The trade deficit with Japan accounts for about a quarter of the overall U.S. merchandise trade deficit of $347.1 billion. Figure 1 shows U.S. exports to, imports from, and the U.S. trade balance in goods with Japan over the past two decades. As can be seen, the deficit has fluctuated around $50 billion since the mid-1980s and has been growing since the mid-1990s. Changes in the level of the deficit appear to be caused by changes in the yen-dollar exchange rate, in macroeconomic conditions in the two countries, and in competitive conditions in certain industries. In general, a strengthening of the yen (making imports from Japan more expensive) has been followed by a drop in the level of the deficit in ensuing years, while a weakening of the yen has had the opposite effect of increasing the deficit. When the Congressional Research Service ˜ The Library of Congress CRS-2 Figure 1. U.S.-Japan Merchandise Exports, Imports, and Trade Balances, 1978-99 122 115.2 121.7 119.1 107.268 150 100 57.5 57.9 65.5 67.5 53.5 64.3 47.764 47.949001 92.33348.146999 97.181 37.43 44.584 90.43299948.584999 89.802002 26.618999 27.808001 93.585999 81.911003 84.574997 37.743999 20.667999 41.182999 21.6 30.867001 20.684 37.654999 21.641001 0 24.933001 12.85 50 57.134998 23.173 100 68.782997 22.190001 U.S. Imports from Japan 131.4 $Billion 123.6 150 26.396999 17.490999 U.S. economy is growing faster than Japan’s, the bilateral deficit tends to grow, and vice versa. In recent years, Japan’s economy has been in recession, while the U.S. economy has been growing. 50 U.S. Exports to Japan 0 As shown in Figure 2, virtually all -50 -50 the trade deficit with U.S. Deficit Japan can be accounted With Japan -100 -100 for by trade in 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 machinery and Year transportation Source: Data from U.S. Department of Commerce equipment. In 1999, the United States imported $99.4 billion while exporting $24.1 billion of such products to Japan for a sectoral deficit of $75.3 billion. This included trade in motor vehicles, aircraft, and machine tools. There also were deficits of $4.8 billion in miscellaneous manufactured articles and $4.9 billion in manufactured goods classified chiefly by material. On the other hand, the United States ran a $14.8 billion surplus in trade with Japan in food, live animals, beverages, tobacco, and inedible crude materials. Figure 2. U.S. Trade With Japan by Major Commodity Classification, 1999 The U.S. trade imbalance 8.6 0.3 Food & Live Animals 8.3 with Japan arises primarily 2.2 0.1 Beverages & Tobacco from trade in a handful of 2.1 3.6 0.2 products in which imports are Crude Materials 3.4 0.8 exceptionally large. As shown 0.3 Mineral Fuels, Lubricants 0.5 in Table 1, the list of major 5.8 6.5 Chemicals -0.7 U.S. imports from Japan is 2.9 7.8 headed by motor vehicles, Mnf. Goods Class. by Materials -4.9 24.1 office machines, electronic Machinery & Transp. Equipment -75.3 99.4 8 components, and 12.8 Misc. Manufactured Articles -4.8 communications equipment. 1.4 3.9 Other -2.5 These four categories account -100 -50 0 50 100 150 for approximately half of all $billion U.S. imports from that Exports Imports Balance country. Imports of motor vehicles and parts, in Source: U.S. Department of Commerce particular, have been running in excess of $9 billion per quarter and have been rising since early 1997. Despite considerable investment by Japanese automakers in production capacity in the United States, at $39.5 billion in 1999, motor vehicles/parts remain the largest single product imported from Japan. They are followed by computers/ office machines, electronic components and accessories, and communications equipment. Other categories in which imports have been increasing include communication equipment, audio/television CRS-3 equipment, construction machinery, and engines/turbines. Imports have been declining in photographic equipment and special industry machines. Steel mill product imports from Japan rose from $0.508 billion in first quarter 1997 to $0.906 billion in third quarter 1998 and fell to $0.368 billion in fourth quarter 1999 as antidumping duties were imposed on imports of hot rolled sheet and steel plates.1 SIC Table 1. Major U.S. Imports from Japan, by 3-digit SIC Codes Quarterly/Annual, 1997-99, Million Dollars Description 1997 1998 1999 Total 34,747 1st 2nd 3rd 4th 9,906 8,961 9,639 10,964 Total 39,470 OFFICE, COMPUTING, AND ACCOUNTING MACHINES, AND PARTS AND ACCESSORIES 15,351 3,411 3,438 3,348 3,476 13,672 3,275 3,342 3,727 3,813 14,157 367 ELECTRONIC COMPONENTS AND ACCESSORIES 11,502 2,602 2,291 2,286 2,466 9,645 2,355 2,470 2,687 2,983 10,495 366 COMMUNICATION EQUIPMENT AND APPARATUS 3,938 1,106 1,101 1,193 1,203 4,604 1,195 1,418 1,705 386 PHOTOGRAPHIC EQUIPMENT AND SUPPLIES 4,831 1,140 998 1,029 983 4,150 1,008 886 354 METALWORKING MACHINES AND EQUIPMENT, AND PARTS, ACCESSORIES AND ATTACHMENTS 4,059 970 991 1,013 988 3,962 907 2,614 641 700 759 726 2,826 3,006 728 723 742 757 2,948 2,546 713 650 630 621 2,613 371 MOTOR VEHICLES AND MOTOR VEHICLE EQUIPMENT, AND PARTS 357 365 RADIO AND TV RECEIVING SETS; PHONO-GRAPHS; RECORDERS; MICROPHONES; LOUDSPEAKERS; AUDIO AMPLIFIERS; & OTHER AUDIO EQUIPMENT & ACCESSORIES 369 ELECTRICAL MACHINERY, APPARATUS, AND PARTS 382 INSTRUMENTS FOR MEASURING, DETECTING, TESTING, AND/OR CONTROLLING NONELECTRIC QUANTITIES, AND PARTS & ACCESSORIES Total 1st 2nd 3rd 4th 33,484 8,688 8,336 8,477 9,246 1,847 6,165 963 992 3,849 882 835 806 3,429 686 761 841 788 3,075 746 758 846 907 3,257 684 706 767 857 3,014 356 GENERAL INDUSTRIAL MACHINES AND EQUIPMENT, AND PARTS AND ATTACHMENTS 2,359 636 587 540 606 2,369 661 674 752 872 2,959 353 CONSTRUCTION, MINING, AND MATERIALS HANDLING MACHINERY 1,705 538 573 440 438 1,988 620 618 420 377 2,036 394 TOYS AND SPORTING, ATHLETIC, AND GYMNASTIC GOODS, APPLIANCES, APPARATUS OR ACCESSORIES 2,592 371 538 525 1,141 2,575 380 499 722 917 2,517 351 ENGINES AND TURBINES, AND PARTS AND ACCESSORIES 1,265 342 350 352 400 1,444 457 473 502 586 2,018 286 283 362 INDUSTRIAL ORGANIC CHEMICALS 1,933 1,203 1,586 514 359 382 487 396 367 449 369 347 484 337 342 1,934 1,461 1,438 451 366 372 467 447 448 448 524 522 539 500 464 1,905 1,837 1,806 372 355 AIRCRAFT AND PARTS 1,646 2,370 412 591 494 561 485 447 492 424 1,882 2,023 427 448 431 421 449 426 390 491 1,697 1,786 331 BLAST FURNACE, STEEL WORKS, ROLLING MILL, AND FINISHING MILL PRODUCTS 1,807 602 783 906 898 3,189 511 412 411 368 1,702 DRUGS ELECTRICAL APPARATUS INDUSTRIAL SPECIAL INDUSTRY MACHINES AND EQUIPMENT, AND PARTS, ACCESSORIES AND ATTACHMENTS Note: SIC=Standard Industrial Classification. Data are on a Census basis. Source: U.S. Department of Commerce Trade in Services and the Current Account The United States runs a surplus in services trade with Japan, but that surplus amounted to only $16.5 billion in 1998 as contrasted with the $65.3 billion deficit on goods. (Details of services trade and the current account for 1999 are to be announced 1 See: CRS Issue Brief 10023, Steel Imports: Effects on U.S. Industry and Proposed Legislative Remedies, by Gwenell L. Bass. CRS-4 in March 2000.) The combined balance on goods and services totaled $48.7 billion in 1998, up $10 billion from that in 1997, but still below the record $51.7 billion in 1994. Table 2. U.S. Trade and Balances with Japan in Goods, Services, Investment Income and Current Account, 1994-98 (million dollars) U.S. Exports U.S. Imports Balance on Services Bal. on Investment Income Balance on Current Account Year Goods Services Goods Services Balance on Goods 1994 51,813 29,556 119,137 13,920 -67,324 15,637 -11,014 -62,841 1995 63,108 34,376 123,453 15,108 -60,345 19,268 -15,738 -56,939 1996 65,961 34,148 115,171 14,060 -49,210 20,088 -16,214 -45,470 1997 64,599 35,014 121,658 15,470 -57,059 19,544 -25,214 -62,886 1998 58,595 31,737 121,850 15,197 -65,255 16,540 -26,443 -75,354 Source: U.S. Department of Commerce. Survey of Current Business, various issues. Note: Data are on a balance-of-payments basis. The balance on Figure 3. U.S. Balances with Japan in Goods, Services, current account is Investment Income, and Current Account, considered to be a 1994-1998 in billion dollars broader measure of the 40 Services trading relationship 20.1 19.5 19.3 between two countries. 16.5 20 15.6 It includes trade in goods and services as 0 well as unilateral -11 transfers (e.g., -15.7 -16.2 -20 remittances from -25.2 -26.4 immigrants) and the -40 balance on income -45.5 -49.2 from U.S. assets -60 -56.9 -57.1 -60.3 -62.8 -62.9 abroad and foreign-65.3 -67.3 Investment Current owned assets in the -75.4 Income -80 Account Goods United States. As shown in Figure 3, the -100 1994 1995 1996 1997 1998 current account deficit Source: Data from U.S. Department of Commerce with Japan recently has grown larger than the deficit in goods trade. The deficit on current account did decline from $62.8 billion in 1994 to $45.5 billion in 1996 but grew to $75.4 billion in 1998. The expanding negative balance in goods trade, of course, contributed to this increase, but the burgeoning deficit in income from investments also has become significant. This is resulting from the fact that the United States has become a net debtor nation — foreigners, particularly Japanese, have invested more in the U.S. economy than Americans have invested abroad. The net earnings flow from investments, therefore, has grown progressively larger in favor of Japan. Prior to 1997, the U.S. surplus in services outweighed the deficit in investment CRS-5 income and made the current account deficit smaller than the goods trade deficit. Since 1997, this has been reversed. The U.S. deficit in investment income now outweighs the U.S. surplus in services trade with Japan. At the end of 1998, Americans had holdings of $38.2 billion in direct investments (where investors have a controlling interest in the enterprise) in Japan, while Japanese had direct investments of $132.6 billion in the United States. In private holdings of stocks and bonds, Americans had investments of $150.7 billion in Japan while Japanese had $190.4 billion in the United States.2 At the end of 1998, Japanese government and private investors also held $292.6 billion in U.S. Treasury Securities. Policy Options Mainstream economic analysis of international trade flows pays little heed to imbalances with individual trading partners. At any point in time, trade with some countries will be in deficit while trade with others will be in surplus. In the United States and other countries with relatively liberalized trade and capital flows, moreover, trade imbalances tend to be influenced mostly by macroeconomic factors, such as capital flows (resulting from differences in saving rates), exchange rates, and relative growth rates.3 With Japan, however, the bilateral trade deficit is unusually large, chronic, and has at times become a flashpoint for trade friction. The macroeconomic flows, moreover, are influenced greatly by the existing structure of trade. This structure includes protection of certain industries, such as rice farming, in Japan. Changing the trade structure, would change specific trade flows which, in turn, could affect macroeconomic variables such as savings and investment. If Japan allowed more imports of rice, for example, the savings rate of Japanese farmers would probably fall. U.S. trade policy also can affect specific trade flows. In 1998-99, for example, U.S. antidumping duties on Japanese steel cut such imports in half. U.S. exchange rate and monetary policies, moreover, affect the relative value of the yen as well as U.S. growth rates which, in turn, affect trade balances. The policy options dealing with the bilateral trade deficit with Japan primarily would be to: (1) let market forces prevail, (2) raise the value of the yen, (3) open markets in Japan further, (4) increase U.S. investments in Japan, (5) reduce U.S. imports from Japan, and (6) encourage Japan to raise its economic growth rate. The vast majority of the trading transactions between the United States and Japan are governed by market forces. The trade and capital flows are so large that any government intervention into the market, of necessity, would be at the margin. Still some policy options are available. Raising the value of the yen (or not intervening to stop its appreciation) is a policy apparently being pursued by the United States. The value of the yen has risen from 131 yen per dollar in 1998 to about 105 yen per dollar at the end of 1999 and around 109 yen 2 Scholl, Russell B. The International Investment Position of the United States at Yearend 1998. Survey of Current Business, July 1999. p. 45. 3 For discussion of trade deficits, see: CRS Report RS20364, America's Gowing Current Account Deficit: What Does It Mean for the Economy? By (name redacted) and CRS Report 98-693 E, The U.S. Trade Deficit: Trends, Theory, Policy, and Sustainability, by (name redacted). CRS-6 per dollar in February 2000. Part of this appreciation is being caused by capital flowing back into Japan as it recovers from recession. The Japanese government has been actively intervening in foreign exchange markets to counter this appreciation. Its holdings of foreign exchange (obtained by selling yen) have risen from $185 billion at the end of 1995 to $215 billion at the end of 1998 and further to $293 million dollars billion at the end of January 2000. Over the past year, Japan has been weakening the yen by purchasing dollars and other foreign currencies at the rate of about $5 billion per month. Yet it is a stronger yen that is instrumental in reducing Japan’s trade surplus. How effective this intervention has been in weakening the yen is an open question, but it indicates that the Japanese government is taking fairly aggressive action to sustain its trade surplus. Opening markets in Japan to U.S. exports and investment has long been pursued by the United States.4 Although considerable progress has been made, access in some sectors is still in dispute. These include insurance, glass, photo film, and several agricultural products. Japan’s banking crisis and recession has opened the way for more foreign participation in its financial markets, but the combination of past investment barriers and the high cost of entering the market has worked to keep the level of foreign investment in Japan relatively low. This imbalance in investment relations contributes significantly to the deficit in investment income with Japan. Under U.S. trade law, protection of specific U.S. industries from import competition from Japan is possible for three basic purposes: (1) to act against dumping (exporting a product at a lower price than in the home market), (2) to counter the effects of government subsidies, and (3) to take “safeguard” action in response to an injury or threatened injury to a U.S. industry caused by a surge in imports. As of December 1999, the United States had 34 antidumping duty orders in effect on products from Japan. These included hot rolled steel, stainless steel sheet and wire rod, vector supercomputers, forklift trucks, color picture tubes, and drafting machines. Since the late 1970s, the United States has imposed no countervailing duties for subsidies on products from Japan. After the U.S. automobile industry lost its case in the early 1980s, safeguard action has been rarely used in trade with Japan. When the Japanese economy grows faster, it tends to draw in more imports, including products from the United States. Throughout 1997 and 1998, the United States encouraged Japan to pursue more aggressive fiscal and monetary policies and to ease government regulations in order to stimulate its economy. In 1999, the Japanese economy had begun to show signs of recovery, but late in the year dropped into negative growth again. Much of the growth that did occur could be attributed to government spending. 4 For a summary of these trade negotiations see CRS Issue Brief 97015, U.S.-Japan Economic Ties: Status and Outlook, by (name redacted). The Congressional Research Service (CRS) is a federal legislative branch agency, housed inside the Library of Congress, charged with providing the United States Congress non-partisan advice on issues that may come before Congress. republishes CRS reports that are available to all Congressional staff. The reports are not classified, and Members of Congress routinely make individual reports available to the public. Prior to our republication, we redacted names, phone numbers and email addresses of analysts who produced the reports. We also added this page to the report. We have not intentionally made any other changes to any report published on CRS reports, as a work of the United States government, are not subject to copyright protection in the United States. 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