http://www.econ.yale.edu/~ka265/teaching/UndergradFinance/Sp...

Now if there was zero foreign investment, then the U.S. deficit spending a lot (please don't use the word "printing money") would cause demand for foreign goods to rise. You are right about that!

But - does that mean that we buy more foreign goods or that the value of the dollar falls so that the money spent on foreign goods (in dollar terms) is the same as the money spent by foreigners on our goods?

You see, there is another degree of freedom, namely the exchange rate! The exchange rate is all that is needed to clear exports and imports so that there is no trade deficit, and that is true regardless of how much "money printing" happens.

So whether or not you get a (net) trade deficit is going to be determined by (net) foreign investment, which raises the dollar and prevents it from falling enough to equalize imports with exports. The residual is the trade deficit.

Viewed a different way, the demand for the dollar is the demand for american goods + the demand for american assets.

If the demand for assets is zero, then the price of dollars is whatever it needs to be so that our deflated dollar makes our goods sufficiently cheap and foreign goods sufficiently expensive so that the stimulus spending does not cause a trade deficit.

Trade deficits are always and everywhere determined by net capital inflows. That is what the Balance of Payments identity is telling you. They are not caused by deficit spending, declines in productivity, failures of our educational system, etc. It really is just capital inflows.

All the other stuff is important, as it effects the exchange rate, but it's not important for determining trade deficits.