The US trade deficit with China often assumes center stage in discussions of the US-China commercial relationship, but the deficit is neither the most important barometer of US economic health nor the best measure of the benefits the US gains from trade. The size of the imbalance is often overstated. In 2000, the US Department of Commerce (USDOC) put the bilateral deficit at $91.3 billion¹ --but economists have argued that a more accurate figure would be $68.8 billion.

THE UNITED STATES REAPS IMPORTANT BENEFITS FROM TWO-WAY TRADE

The United States reaps important benefits from two-way trade. China is one of the United States's fastest-growing export markets. US consumers benefit from the ability to purchase low-cost imports from China. US measures inflate the bilateral trade deficit. USDOC counts entrepot trade through Hong Kong differently for exports and imports. The United States measures exports and imports on different bases. Merchandise trade figures tell only part of the story--they exclude trade in services. Imports from China are not direct substitutes for US-made goods. The relocation of Asian production facilities affects the US deficit

China as an export market China is one of the fastest-growing US export markets. Annual US exports to China have more than tripled since 1990, reaching $16.3 billion in 2000. Major US exports to China include power generation equipment, electrical machinery, fertilizer, and medical equipment. Companies in many US sectors face mature markets at home and look to the Chinese market to grow and remain competitive globally. US services exports to China rose 18.1 percent in 2000, to reach $4.6 billion.

US consumers US consumers benefit from the ability to purchase low-cost imports from China, including footwear, apparel, and, increasingly, electrical machinery and equipment.

US MEASURES INFLATE THE BILATERAL TRADE DEFICIT

Measurements of exports and imports As do other countries, the United States measures exports and imports on different bases. US exports typically are calculated on a free-alongside-ship (FAS) basis and US imports are measured using a cost, insurance, and freight (CIF) basis. The FAS value does not include loading, insurance, and freight costs. US exports thus should be adjusted up by 1 percent, and US imports adjusted down by 10 percent, according to a 1999 report by California-based economists Lawrence Lau and K. C. Fung.

Entrepot trade through Hong Kong USDOC statistics, commonly used in the United States to measure bilateral merchandise trade, overstate the 2000 US bilateral trade deficit with China by roughly 22 percent because of the way entrepot trade through Hong Kong is calculated. (Entrepot trade refers to goods shipped from one economy to another through a third economy for further processing or assembly.) USDOC counts the full value of Chinese goods re-exported by Hong Kong as PRC exports, even though up to 25 percent of the value of the goods originating in China is added in Hong Kong. The United States makes the same error in calculating our own exports to China. All US goods exported to Hong Kong are counted as exports to Hong Kong, even those that are re-exported to China.

Taking Hong Kong trade figures in account allows for a more accurate measure of US imports from China. Hong Kong re-exported $36.4 billion in Chinese goods to the United States in 2000. Subtracting the 25.7 percent value added in Hong Kong of $9.4 billion from the value of US imports from China results in an adjusted figure of $90.7 billion for US imports from China.

In 2000, Hong Kong re-exported $6.1 billion worth of US goods to China. Adding this amount less the value added in Hong Kong ($421 million), to the value of US direct exports to China ($16.3 billion), an adjusted figure for US exports to China of $21.9 billion is derived.

Merchandise trade The bilateral deficit falls further when trade in services is counted because the United States has enjoyed a small but growing surplus in trade in services with China for much of the past decade. US net services exports surged 52.5 percent in 2000, to reach $1.7 billion, more than triple the trade in services surplus with China in 1992. The US services trade surplus is likely to surge as China's World Trade Organization entry generates unprecedented opportunities for US service providers. Services, which already account for 70 percent of the US economy, will account for much of the future economic growth in the United States.

IMPORTS FROM CHINA ARE NOT DIRECT SUBSTITUTES FOR US-MADE GOODS

According to an Institute for International Economics study, 90 percent of US imports from China are substitutes for US imports from other low-wage economies, largely in East and Southeast Asia. Top US imports from China are low-tech electrical machinery, toys, footwear, and apparel. Only 10 percent of imports from China compete directly with US-made goods.

THE RELOCATION OF ASIAN PRODUCTION FACILITIES AFFECTS THE US DEFICIT

PRC trade and investment reforms initiated in the late 1970s made China a more attractive place for foreign investment than neighboring economies such as Taiwan and South Korea. Multinationals thus relocated many of their processing ventures to China, and the bilateral trade deficit with Hong Kong, Singapore, South Korea, and Taiwan declined while the deficit with China climbed. Trends in 2000-01 suggest that a second large-scale shift of production facilities from Taiwan and Japan to China is underway, in fields ranging from appliances to semiconductors. Such developments could further alter the composition of the US trade deficit with countries in the region.

1. This figure represents the bilateral US trade deficit with China based on US exports' FAS (free-alongside-ship) value and US imports' CIF (cost, insurance, and freight) value.