Trade and Trade Deficit

Trade and Trade Deficit

The rise in the value of the dollar since 1995 --which is a major cause of the trade deficit -- has discouraged investment in U.S .manufacturing to such an extent that the capital stock of the manufacturing sector was 17% lower in 2004 and new investment in U.S. manufacturing was more than 60% lower in 2004 than they would have been if the dollar had not appreciated. Although the remaining manufacturing capacity is highly efficient, it accounts for a shrinking portion of U.S. employment. Thus, the trade deficit does not simply cause a temporary reduction in output, but also a permanent loss of manufacturing capacity that can have long-lasting negative effects on the country's future productive capabilities.

In fragment, the U.S. economy is effectively more open to imports than many of its trading partners, especially in Asia, in spite of trade agreements like the WTO that create the appearance of mutual market opening. In some cases, other countries have been more willing to use government influence to promote domestic industrial production, rather than to encourage their own companies to move offshore as our government has. In addition, there are very important short-term macroeconomic factors that have caused the trade deficit to balloon in recent years. Other factors include the persistent overvaluation of the dollar and the continued manipulation of exchange rates by China and other East Asian countries, as well as the slow growth in Europe and Japan.

Floating exchange rates are preferable to fixed exchange rates. As floating exchange rates automatically adjust, they enable a country to dampen the impact of shocks and foreign business cycles, and to preempt the possibility of having a balance of payments crisis. However, in certain situations, fixed exchange rates may be preferable for their greater stability and certainty. This may not necessarily be true, considering the results of countries that attempt to keep the prices of their currency "strong" or "high" relative to others, such as the UK or the Southeast Asia countries before the Asian currency crisis. The debate of making a choice between fixed and floating exchange rate regimes is set forth by the Mundell-Fleming model, which argues that an economy cannot simultaneously maintain a fixed exchange rate, free capital movement, and an independent monetary policy. It can choose any two for control, and leave third to the market forces

The exchange rate that one's bank sets will be determined by the total demand from one's customers and from other banks, this exchange rate will tend to be equal to the rate set by other banks. This will always be this way because the exchange rate that you set ultimately depends on demand on both your customers and other banks that your bank trades with. If you are offering fewer dollars per franc than