The Trade Balance: A Timeline from Mercantilism to Global Imbalances
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1600s-1700s: Mercantilism and the Bullion Obsession
Early modern European statecraft treated a trade surplus as the definition of national success. Writers such as Thomas Mun, whose England’s Treasure by Forraign Trade was published in 1664, argued that the kingdom should “sell more to strangers yearly than wee consume of theirs in value,” because the difference arrived as gold and silver. Policy followed the theory: export bounties, import prohibitions, chartered monopolies, and colonial trade restrictions. The logic contained an unexamined assumption — that specie accumulation was itself wealth, rather than a claim on goods. Dismantling that assumption occupied the classical economists for the better part of a century and produced the modern understanding of the balance of payments.
1752: Hume’s Price-Specie-Flow Mechanism
In his essay “Of the Balance of Trade” (1752), David Hume demonstrated that a permanent trade surplus was self-defeating under a metallic standard. Gold flowing into a surplus country expands its money supply, raising domestic prices; the deficit country’s money supply contracts and its prices fall. The surplus country’s goods become expensive, the deficit country’s cheap, and the flow reverses automatically. This price-specie-flow mechanism showed that trade balances tend toward equilibrium without government direction, and that hoarding bullion simply inflated prices. It is one of the earliest rigorous arguments in economics and it undercut mercantilism on its own terms, twenty-four years before Adam Smith attacked it more broadly.
1870s-1914: The Classical Gold Standard
By the 1870s most major economies had tied their currencies to gold at fixed parities, creating something close to a single international monetary system. Exchange rates were effectively fixed, capital moved with unusual freedom, and adjustment of trade imbalances was supposed to run through Hume’s mechanism, assisted by central bank interest rate changes that attracted or repelled short-term capital. The period is remembered for a rapid expansion of world trade and for large, sustained capital flows from Britain to the Americas and elsewhere. It also demonstrated the system’s cost: with the exchange rate fixed, domestic prices and employment had to do the adjusting. The First World War broke the arrangement.
1944-1971: Bretton Woods and the Triffin Dilemma
Delegates from forty-four nations met at Bretton Woods, New Hampshire, in July 1944 and built a system of adjustable pegs: member currencies were fixed against the U.S. dollar, and the dollar was convertible into gold at $35 per ounce. The conference also created the International Monetary Fund to lend to countries with balance-of-payments difficulties. In 1960 the economist Robert Triffin identified the flaw: the world needed a growing supply of dollars for reserves and trade, but every additional dollar abroad weakened confidence that the United States could still redeem them all for gold. On August 15, 1971, President Richard Nixon suspended dollar-gold convertibility, and by 1973 the major currencies were floating.
1973-2001: Floating Rates and Persistent Imbalances
Floating exchange rates were expected to keep trade balances near zero automatically. They did not. The United States moved into sustained current account deficits, and by the mid-1980s it had shifted from a net creditor to a net debtor position internationally. In September 1985 the Plaza Accord saw the United States, Japan, West Germany, France, and the United Kingdom coordinate to bring the dollar down; the 1987 Louvre Accord tried to halt the subsequent fall. Large surpluses accumulated in Japan, later in Germany and China, and China’s accession to the World Trade Organization in 2001 intensified the debate over what economists came to call global imbalances.