Statistics used to measure trade surpluses and deficits between countries are outdated and not useful in the modern-day economy, leading to exaggerated trade balances that don’t properly reflect how products are manufactured in the 21st century, according to new research from a Tokyo-based economist.

Traditionally, trade balances between countries have been calculated based on the value of the product being exported: French wine provides income to France, for instance, while Italian jewelry benefits Italy and coal mined in Australia aids the Land Down Under.

“Economists are still in the mindset of what I like to call a classic ‘clothes-for-wine’ trade,” said Yuqing Xing, the author of the research, published Jan. 6 in Frontiers of Economics in China, and director of Asian economic policy at the National Graduate Institute for Policy Studies in Tokyo, Japan. “You think, OK, if all the goods come out from a country, then the value added of all goods is simply produced by the worker in that country."

In a global economy where companies can outsource materials, though, that equation doesn’t necessarily work. An iPhone, for example, is assembled in China, but Apple buys parts from South Korea, Japan and other countries.

“Any manufactured products, I think in particular electronic, information and communication technology, basically are made by firms located in very many countries, and all those firms jointly contribute to the value added by China,” Xing said.

“Value added,” or the actual amount that a product’s value is increased by a country, is a better way to measure trade balances, Xing said, because it more accurately captures where each part is coming from.

Using the iPhone X as an example, the import of one phone results in a $332.75 trade deficit for the U.S. when measured in terms of gross value; measured in terms of value added, though, the deficit is $104 per phone.

“It’s much less … simply because there’s a substantial amount of value added and transferred from other countries that have provided components for the iPhone X,” Xing said.

Additionally, Xing noted that consumers don’t buy iPhones, or other products, because they’re made in China — they buy those products because of the brands. On paper, however, an iPhone is listed as a Chinese export, despite the fact that approximately 60% of the iPhone X’s value comes from Apple’s iOS operating system, product design, marketing and retail services and gross profit.

“Why do you buy an iPhone? Because it’s made in China, because it’s assembled in China? No, I think no,” Xing said. 

Other products from American companies follow the same logic — consumers buy computers, shoes and other goods not because they’re made in China but because they like the products themselves.

“Then if you think about this deeply, it is American innovation that has driven the U.S.-China trade surplus,” Xing said.

Trade balances are important to politicians, policymakers and economists because of their significance for a country’s economic health: a trade surplus means the country has positive income, while a trade deficit means the loss of reserve funds.

Currently, however, trade statistics don’t reflect income flow, Xing said.

“When China exports the iPhone X to the U.S., [the] Chinese company Foxconn does not receive $409,” he said. “Why? Because Apple paid directly to the Japanese supplier, Korean supplier and the Taiwanese supplier. Apple only pays Foxconn or the other Chinese for the assembly service they did and the parts they provided.”

Xing said he hopes his research contributes to the reformation of trade statistics to adapt to the development of “a global value chain.” The Organisation for Economic Co-operation and Development and the World Trade Organization have already built databases to track value added in order to use the metric to calculate trade balances, which Xing said is a good first step.

Another issue — and the subject of Xing’s current research — is how to count a company’s value added. For example, when an iPhone is sold in Japan, he said, it counts as a Chinese export because all of Apple’s products are assembled in China.

“But they are Apple products that belong to Apple, and Apple makes most of the money,” Xing said. For each iPhone X sold, Apple pockets at least $590 because of its contributions to the phone, according to Xing’s estimates, but there’s no trade statistic to account for this.

“Basically, in my second paper, I will provide an answer … and that will challenge further the trade statistics fundamentally,” Xing said. “We use very old — 2,000 years old — trade statistics to make our arguments and to decide trade policy, which are inconsistent with what I call value chain-based modern trade.”

The study “How the iPhone Widens the U.S. Trade Deficit with China: The Case of the iPhone X,” published Jan. 6, 2021, in the Frontiers of Economics in China, was authored by Yuqing Xing, National Graduate Institute for Policy Studies.