Recessions & World Trade

Here is an article in the Economist.

The CPB reckons that volumes shrank by a staggering 13.2% during 2009. They have fallen in only two other years since 1961, when comprehensive data begin. But those declines—by 1.9% in 1975 and 0.9% in 1982—pale in comparison with last year’s huge drop.

One pillar of economic faith is that "Trade Creates Wealth", an idea first expressed by Adam Smith in "On the Wealth of Nations". In my economics classes, this was demonstrated by giving each student a bag of random stuff (pencils, candy, etc.) and then having them assign a monetary value to these things.

The next step was to allow every student to trade with other students. The value of their possessions was then reevaluated. Each student then assigned a monetary value to what their trinkets. Much to their surprise, those that traded ended up with bag which they valued higher.

The reason this was so is because students would not knowingly trade to make themselves worse off, the only trade that occurred was mutually beneficial trade.

Now, the other two times world trade contracted was in 1975 and 1982, both recession years if you will recall. The 1974-1975 recession was due to an oil supply shock, leading to higher inflation, leading to a tighter monetary policy, which decreased investment, which decreased employment. The 1982 recession was at the beginning of Reagan's term when the Fed raised the interest rate to combat inflation.

Now, a 13% decrease is a hell of a lot more than the 1.9 & 0.9% decreases in world trade that occur ed in 1975 & 1982. Even when you consider that exports & imports play a greater role in today's economy, the 13% drop is not justified. Lets take a look at foreign trade in terms of the overall levels of the U.S. economy.

In 1975, (Exports + Imports)/ GDP = 10% of the U.S. Economy
In 1982, (Exports + Imports)/GDP = 11.5% of the U.S. Economy
In 2008 (Exports + Imports)/GDP = 28% of the U.S. Economy
In 2009 (Exports + Imports)/GDP = 25% of the U.S. Economy
*Note: In the income accounts, these two effects, exports & imports cancel each other out. They were added to show the importance of all trade as a % of the U.S. economy.


There is a 9.9% drop in trade % from 2008 to 2009. You have to go back to the 1940's to get a drop greater than this. From 1941 to 1942, trade fell from 6.5% of the economy to 4.3%, a 32% drop due to the start of WWII. From 1945 to 1946 when the war ended, trade increased 44% from 4.7% to 6.8% and has more or less been steadily increasing (except for recessions) ever since then.

In 1976, when the recession ended trade jumped 6%, in 1984 it jumped 9%. Trade is highly elastic, it responds to demand sharply. We are waiting for the jump in 2010, or maybe 2011, or ...

So, my questions are:

If trade creates wealth, does a decrease in trade mean a decrease in wealth? Maybe wealth creates trade, since there is more to sell and buy.

Is the recent run up in world trade justified? Or is this recession just a regression towards the mean? What is a reasonable % for the U.S. economy to be devoted to world trade?