[ksrugis]

I’m trying to explain why trade is a good thing to a friend on facebook. He seems to think that buying “locally” is better off for our economy and that any money spent on Chinese goods is better for their economy – worse for ours. So far I think I’m doing a good job with my explanation, but I have one bit that I can’t explain well. What happens to all the dollars China has from us buying their goods? I remember hearing somewhere that China can’t really do anything with those dollars except buy or invest in the US. So over time there is no reason to fear a trade deficit (not sure if that is the right term).

[jmherbener]

Ask your friend what Americans would do with Chinese Renminbi they acquired by selling goods to the Chinese? They would spend them in China or trade them for dollars to someone who then spent them in China.

Even if the Chinese kept dollars, let’s say to make expenditures in the underground economy, it would have no effect on production in America. It would merely make the purchasing power of the dollar higher than otherwise in America. That is, the prices of everything would be lower than otherwise in America. Most people don’t realize that nearly 2/3 of all dollar currency is held overseas. And foreign holding of dollars increased dramatically in the prosperous 1990s.

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