Lots to Ponder in July's Trade Gap


By Michael Englund and Rick MacDonald After June's trade whopper -- a record U.S. monthly deficit of $55.8 billion -- any lesser number would have looked good by comparison. And indeed, the Commerce Dept.'s Sept. 10 release of trade figures for July, which showed the gap narrowing to $50.1 billion, below economists' median forecast of $51.5 billion, provided some relief to financial markets after June's shocking report. The lower-than-expected July trade gap was due mostly to both downward revisions in imports in June, and a brisk 1.5% drop in goods imports in July.

July's number is indeed still large, but it reversed much of the deficit surge evident in the now downwardly revised $55 billion gap for June. It was highly probable that the sharp divergence between export and import growth in June would be reversed in July, as we at Action Economics expected. Export growth rebounded 3% in July, to $95.9 billion, with strength led by industrial supplies, capital goods, and vehicles. Imports dropped 1.4%, to $146 billion. Most components declined, led again by industrial supplies.

CAPITAL-GOODS STRENGTH. The 1.4% July import drop that followed the 2.9% June gain left a more sustainable trajectory for imports, and the surprises were concentrated in the goods data, and particularly in the industrial-supplies component, which had previously been reported as posting remarkable 5% gains in both May and June. The export data were actually very close to expectations, with July's 3% rebound following June's 3.9% drop.

It's also noteworthy that capital-goods imports were actually stronger than we had expected in July, implying that domestic equipment spending in the third quarter will actually be better than the robust 9% growth rate that we previously estimated, following a hefty 13.7% growth clip in the second quarter. Equipment imports are important to watch, because the only estimates for U.S. equipment purchases come from equipment production data, and the difference here is reflected in trade.

We now expect revised second-quarter GDP to be bumped up to 3.1% from the 2.8% previous estimate. Our third-quarter preliminary GDP estimate has been increased to 4.5%, with a likely $10 billion to $20 billion boost from net exports that mostly reverses the second quarter's $39 billion subtraction.

THIRD-QUARTER PEAK? Trade will remain a big wild card in August, and the range of possible values for the deficit is still huge. But it now appears that the third quarter will post a "trade recovery" from the hefty $39 billion subtraction from net exports seen in the second quarter.

Overall, while monthly volatility in trade has been considerable this year, the trends reflect the fundamentals of rapid U.S. growth in aggregate demand that's still fueling imports, as the five-year run of extraordinary dollar strength is only now beginning to end. Fast growth in the global economy and a falling dollar bode well for trade through the end of this year and 2005.

But the quarterly trade gap will likely peak in the third quarter rather than the second, as soaring energy prices provide one last upside kick to U.S. imports. Englund is chief economist and MacDonald is director of investment research and analysis for Action Economics


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