America's financial mess: it's time to eliminate the U.S. saving deficiency.

• Author: McKinnon, Ronald I.

Are federal fiscal deficits accelerating deindustrialization in the United States? For four decades, employment in U.S. manufacturing as a share of the labor force has fallen further and faster than in other industrial countries. In the mid-1960s, manufacturing output was 27 percent of GNP and its share of employment was 24 percent. By 2003, these numbers had fallen to about 13.8 percent and 10.5 percent, respectively. Employment in manufacturing remains particularly weak in 2004, with an absolute decline of 18,000 jobs in September shown in the Labor Department's payroll survey.

Moreover, the orgy of tax cutting with major revenue losses continues unabated. On October 6, House and Senate negotiators approved an expansive tax bill that showers corporations and farmers with about $145 billion worth of rate cuts and new loopholes in the tax code--on top of what were already unprecedented fiscal deficits. Ironically, the net result of this new bill, called the "American Jobs Creation Act of 2004," is likely to be further declines in manufacturing employment.

The United States is the world's champion borrower in international markets. Foreign central banks, which hold more than half the outstanding stock of U.S. Treasury bonds, have become the principal source of finance for the federal government's burgeoning fiscal deficits--about 4 percent of GDP in 2004. Besides this massive government dissaving, meager saving by American households forces U.S corporations also to borrow abroad to supplement finance for domestic investment.

The upshot is a current account deficit of more than $600 billion per year, a measure of overall net borrowing from foreigners, and amounting to almost 5.5 percent of U.S. GDP in 2004. Although reaching a crescendo in 2004, heavy foreign borrowing and associated trade deficits really began in earnest in the 1980s. Now America's cumulative net foreign indebtedness is about 30 percent of GDP and rising fast.

But the 2004 election was more about employment and jobs--particularly in manufacturing than about arcane international financial statistics. In the long run, how does America's heavy foreign borrowing impinge on the size of its manufacturing sector?

The transfer of foreign saving to the United States is embodied more in goods than in services. Outsourcing to India aside, most services are not so easily traded internationally. Thus when American spending rises above output (income), the net absorption of foreign...