How to get a full picture of trade balance

International trade balance in Bangladesh has always remained in negative territory despite consistent growth in exports of ready made garments and restriction in imports of unproductive items. From a policy-perspective, as long as the deficit remains within a tolerable limit as a percentage of national income, there is no real cause for concern.
Figure 1 above reports export and import of goods and services. As one can see, Bangladesh has never registered a trade surplus - at least not by these nominal measures of trade. These figures are widely used by policy-makers to analyse and report developments in trade in Bangladesh. An implicit assumption in such analysis is that trade balance does not change drastically when measured from alternate approaches. Because if they do change sharply due to differences in formulations, using these figures for economic analysis and policy decisions may do more harm than good.
One such alternate approach involves adjusting for changing price levels. This raises the following policy-relevant questions:
How have real imports and real exports evolved over the years?
Has real trade balance in Bangladesh consistently remained in negative terrains like its nominal counterpart?
PRICE-ADJUSTED TRADE BALANCE: To get measures of real imports and exports, I simply divide nominal export and import with their respective price levels. I use unit value indexes (source: United Nations Conference of Trade and Development) as surrogates for price levels. One may argue that unit value indexes are not true representatives of price levels since their changes represent both price and compositional quantity changes. But according to the "Export and Import Price Index Manual" (2010) prepared by the International Monetary Fund, these indexes are used by most countries as proxies for price levels for various purposes including economic analysis.
As can be seen from figure 2, once adjusted for prices, the trade story is strikingly different. Two major issues need to be pointed out. First, real trade deficit in the 1980s was significantly higher than nominal trade deficit. Unlike nominal trade, where the deficit widened over time, real trade deficit has steadily shrunk since the mid-1990s. Second, and more importantly, Bangladesh registered a trade surplus since 2007. Furthermore, the surplus has actually widened since then till the latest available data (2013) on price levels (from the source mentioned above).
UNDERLYING CAUSE:Conceptually, the discrepancy arises because nominal trade balance is expressed in current price levels. When we express these trade variables in "real" terms, we control for the effect that price changes (relative to a base year) have had on trade values. The fact that, once adjusted for price changes, Bangladesh exports surpass imports implies that import prices have risen much more rapidly over the years relative to export prices. This can be seen by following the trend of Bangladesh's terms of trade - the ratio of price of exports to price of imports.
Terms of trade in Bangladesh has declined over the 1980-2013 period at varying rates. As can be seen from figure 3, this decline is particularly sharp in the last 10 years compared to the 1980s and 1990s. This is intuitively quite reasonable. Bangladesh's rise in exports has mostly been due to the rise in export of ready-made garment products. The main competitive edge of this sector in international markets is its low-priced products, which was made possible due to the economy's abundant supply of low-cost labour.
NEED FOR ASSESSING ALTERNATE MEASURES:Given the sensitivity of trade flows to international price levels, it becomes imperative for macroeconomic policy-makers in Bangladesh to assess alternate measures to get a full picture of trade balance. Apart from this simple price-deflated approach, I outline two other methods from the literature.
Edward Denison (1981) proposed deflating exports, imports and trade balance with the import price deflator. The logic of this approach is that since in the long run, exports pay for imports, what exports are really worth to us is the quantity of imports they will buy. Trade balance then becomes the difference between the quantity of imports that our exports can buy and what we actually do buy (Moore, 1983).Another classical approach was introduced by Solomon Fabricant (1983). His approach suggested that real purchasing power of trade balance is what it would buy in terms of the general level of prices represented by the rest of gross national product. Thus real trade balance could be measured by assessing its purchasing power in terms of the price levels of all goods and services apart from those represented in net exports.
Further extensions of this analysis may involve studying price-adjusted trade balance at the bilateral level. This is especially important for major trade partners of Bangladesh like USA, Germany (from the export side), China and India (from the import side). The difficulty of this task lies in the fact that one needs bilateral price levels. In the absence of such indices, it may be pragmatic to use aggregate price levels. These measures will give policy-makers vital information when formulating trade policy with specific bilateral partners.
The point of this analysis is not to suggest that one measure is better than the other. Rather it is to emphasise the fact that international trade is sensitive to price levels - and thus assessing trade flows from only one measure may not give a comprehensive view of this crucial economic driver. It thus becomes imperative for regulatory economic institutions in Bangladesh to include "real" trade balance in its macroeconomic reports and updates.

The writer is a macro economic research analyst based in Washington D.C. [email protected]