The trade accounts are among the most pernicious statistics ever collected. It’s long been remarked, for example, that merely by calling something a “deficit” it seems bad even though a current account deficit is matched by a financial account surplus. Put that issue aside, however, because the real problems are much deeper. The international accounts make it appear that individuals, in their ordinary buying and selling, bind us all in a collective endeavor. The accounts take millions of voluntary, mutually beneficial transactions between individuals and firms and repackage them as a relationship between nations—as if “America” were buying from “China” the way Ford buys from a supplier. Many, many experts get this wrong—not just non-economists who are misled by terms like “deficits.”

Don Boudreaux gives a truly excellent example in replying to a reader who asks:

The USA ran trade deficits for 50 years. Those were offset by foreigners’ investments in the USA. Foreigners expect returns on these investments. Doesn’t it mean Americans eventually have to pay those returns to foreigners?

Don’s answer:

No.

The only Americans who are obliged to pay anything to foreigners are Americans who borrowed money from foreigners. (This number includes U.S. citizens-taxpayers whose government borrowed money from foreigners.) But no such obligation exists for other investments that foreigners made in the U.S. – those other investments being equity investments in the U.S. (for example, foreigners buying a restaurant in Houston), purchases of real estate in the U.S., and holding U.S. dollars.
If, for example, the foreign-owned restaurant in Houston goes bankrupt, the loss is fully borne by its foreign owners; no American is obliged to pay anything on that account to foreigners.

Of course, foreigners do expect positive returns on all of their U.S. investments, regardless of form. But with the exception of Americans’ repayment of principal and interest on funds that they borrowed from foreigners, no returns that foreigners earn on their investments in America are paid by Americans. If the foreign-owned restaurant in Houston is profitable, those profits are newly created wealth – wealth that’s created by that restaurant’s foreign owners.

In the international commercial accounts, when the restaurant’s foreign owners realize returns on their restaurant – say, by being paid dividends drawn on that restaurant’s profits – it appears that Americans are paying foreigners. This appearance comes from the fact that dollars flow from the U.S. to abroad, and so are recorded as payments from America to a foreign country or countries. But this appearance is misleading. America, as such, doesn’t pay those returns to the restaurant’s foreign owners. Nor do any flesh-and-blood Americans pay those returns. Those returns, again, are new wealth created by the restaurant’s foreign owners; economically, those returns are paid to the restaurant’s foreign owners by the restaurant’s foreign owners.

But the international commercial accounts mask this economic reality. What appears in the commercial accounts as payments by America to foreign countries are no such thing. This accounting mistakes geography for economic reality. Untold confusion is unleashed by supposing that, just because these dollar-denominated returns are created in the U.S. and then sent abroad to foreigners, these dollar-denominated returns are necessarily paid by Americans to foreigners.

As Don says, the trade accounts commit a kind of category error: they categorize geographic location, a where, and treat it as a who, as if “nations” traded. But nations don’t trade, people trade. This confusion wouldn’t matter too much if the statistics stayed in the back pages of government reports. But they don’t. They land on the front page, they shape policy, and they frame negotiations. When a president claims that “we lost $500 billion” to “crazy trade” with China, he is reading the international accounts as a story about nations in competition. The accounting creates the narrative. the narrative creates the policy. Bad accounting leads to bad policy. We would, in fact, all be better off if the trade accounts simply disappeared.