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Saturday, March 15, 2008

Trade Deficit and Mortgage Equity Withdrawal

by Calculated Risk on 3/15/2008 05:07:00 PM

The following graph shows an interesting relationship (Caution: correlation doesn't imply causation!). As Mortgage Equity Withdrawal (MEW) rose, so did the trade deficit. Note: both are shown as a percent of GDP.

Now that MEW is falling, the trade deficit is also falling - especially if we exclude petroleum imports.

Trade Deficit as Percent of GDP Click on graph for larger image.

The dashed green line is the Kennedy-Greenspan MEW estimates as a percent of GDP.

Clearly the housing bust led to less MEW, and less MEW might have contributed to the declining trade deficit. (Something I predicted in 2005).

Looking forward, it appears MEW will decline sharply in 2008, as housing prices decline further, lending standards are tightened, especially for HELOCs, and since homeowner percent equity is already at record lows. In other words, the Home ATM is closing.

This suggests that the trade deficit (especially ex-petroleum) might decline sharply too. Part of the decline in the trade deficit is related to the falling dollar and higher U.S. exports (See Krugman's Good news on the dollar)

However, to complete the global rebalancing, two things must happen: both petroleum imports (in dollars) and the deficit with China must decline. The good news is the January trade deficit with China - although still huge at $20.3 billion - was actually less than the $21.3 billion in January 2007. The bad news is oil imports (in dollars) were at record levels.

Unless we see these key components of the trade deficit start to decline (oil and China), other exporters to the U.S. will have to bear the burden of the possibly sharp rebalancing of global trade.

The Economist: KAL's Cartoon
Added: On oil, here is a KAL's cartoon from the Economist:

Click on image to see cartoon at The Economist.