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Strategic Global Intelligence Brief for February 21, 2020

By Chris Kuehl, Ph.D., NACM Economist—

Short Items of Interest—US Economy

Another Rough Year Ahead for Farmers
The latest outlook from the Department of Agriculture is a depressing one. The expectation is that 2020 will be another hard one for the farming sector. The prices for the most commonly produced commodities are still down and expected to fall further. The levels of debt will be getting worse, and the number of bankruptcies will continue to expand. There was a 25% increase in bankruptcies in 2019, and that pace will be exceeded this year. Farm debt is up to $425 billion, and that is a record. The issue is demand. The coronavirus has all killed demand in China, and that has eliminated the boost that might have come from the trade deal and China's pledge to buy more from the U.S. On top of the lowered demand, there has been better production numbers coming from rival farm nations.

Would Democrats Improve Relations with China?
Don't look now, but there is real consensus between the Trump White House and the leaders of the Democratic party on at least one issue. In recent statements, it has been impossible to distinguish between Nancy Pelosi, Donald Trump, Bernie Sanders and Mike Pompeo. Each of them have engaged in spirited China bashing and in many ways the position of the Democrats could be considered even more hard line. Trump is not out to force China to change its government: He focuses on trade and their economic influence while the Democrats are engaged in demands over human rights, China's actions against the Uighurs and Tibetans and their environmental policies. Trump is transactional, and China can actually meet those demands if it chooses to–the demands from the Democrats would be impossible to adhere to without a revolution.

Where Will Coronavirus Hit in the US?
Practically speaking, the coronavirus will not affect the health of the average U.S. citizen very much. The disease is deadly, but no more so than other maladies such as the fly, and the U.S. has the medical system to limit the damage. The impact on the U.S. will be economic and will result from what might be described as an excess of caution. There has already been significant decline in the desire to travel, and that is expected to become more pronounced–affecting everything from cruise ships to air travel and even attendance at events that feature crowds.

Short Items of Interest–Global Economy

Iran's Hardliners Will Make Big Gains
The first elections in Iran to take place after the conflict with the U.S.–the killing of the Iranian military leader and expanded sanctions–takes place this weekend, and the reform element in Iran is likely to be utterly crushed as the hardliners sweep to even greater power. This means Iran will be even more aggressive in the region than before–continued support for the Houthi in Yemen, Shiite movements in general in Iraq and continued development of nuclear capability. The expected counterattack did not come from Iran as of yet, but analysts are convinced it is only a matter of time.

German Terror Attack
Germans are not accustomed to mass shootings, and they have only recently had to cope with terrorism from the right. The gunman who killed 10 people in a shooting rampage was connected to the right, and that has immediately had an impact on politics. The right has blamed the decisions that allowed so many migrants in and the left has blamed the government for not cracking down on the extremists. This will soon play a huge role in the contest to govern Germany.

IMF Demands Debt Restructuring in Argentina
Once again, those that bought Argentine debt will be expected to take big losses. The government can't handle the debt and the return of the Peronist leaders that ran that debt up guarantees they do not even want to try. The IMF sees no way out other than to demand that creditors take another major hit. This all but guarantees that only the most-foolhardy will ever agree to buy bonds from the Argentine government.

Trade War or Trade Truce with India
In the coming days there is to be a summit between Trump and India's Narendra Modi, and analysts are deeply divided regarding an expected outcome. At the moment both leaders are expressing confidence and suggesting there will be some sort of trade deal established, but the actions of both leaders for the past year belie that confidence. The Trump policy toward India has been more hostile than not, and India has not hesitated to respond in kind. Moreover, there is not much wiggle room for either leader given domestic political realities. Trump is in no mood to give much away in an election year, and Modi has been losing popularity as far as the business community is concerned. Both of these leaders are dependent on their nationalist bases and neither have shown any great skills as diplomatic negotiators. The Trump team has not been as determined to attack India as they have China, and there are fewer geopolitical issues at stake. But at the same time, there are no pressing reasons to expand relations between the two.

Analysis: India is interested in pursuing much the same strategy as China has employed over the last few decades, and much of India's economic policy has been based on the China model. India works at expanding its export presence with all manner of state support and subsidies, while at the same time, working to insulate its domestic economy with an extensive network of tariffs and regulations. It is a highly protected economy and remains dominated by state-run operations. The government depends on the business sector to keep people employed, and there is resistance to anything that compromises that task.

The U.S. has already restricted India's exports by stripping the nation of its status as a low tariff trade partner as the U.S. claimed the Indians discriminated against U.S. companies. The Indian government responded with tariffs on U.S. exports. The fact is that India does discriminate against foreign imports–from the U.S. and elsewhere. This has been justified on the ground that India is a developing economy and needs these protections. The challenge is that India has become more like China every day with an economy that is both developed and developing. There are sectors that are fully capable of open competition and sectors that are decades behind.

The talks between Modi and Trump are not expected to yield much unless the two nations decide their best course of action is to essentially gang up on China. That would mean the U.S. would seek to replace China as a source of imports with India and India would take steps to give U.S. companies some preferential treatment.

Fed Looks Upbeat

At least for the moment, the Federal Reserve is looking ahead with some sense of confidence. The minutes revealed two fairly important trends. The first is that there was near unanimity among the members rather than the hawk versus dove split that had been the case in earlier meetings. The consensus is that the economy is doing pretty well and needs nothing from the Fed at this moment. There is no pressure from the doves to lower rates and no pressure from the hawks to raise them. The other observation is that there is ongoing concern regarding the factors that might weigh heavy on the economy later in the year.

Analysis: At the top of the list of unknowns is the coronavirus threat. It was not seen as an imminent threat when the Fed last met, and of course the outbreak has been far more serious than first assumed. The Fed attitude was that it had yet to affect the business community, but we now know there has been negative impact for companies like Apple that import from China and also sell there. The second issue of concern is the dependence on the consumer for economic growth. This has always been the case in a country that relies on the consumer sector for over 80% of GDP as well as employment but with business investment trending down the Fed is nervous about the potential for a consumer slowdown and the resulting impact on economic growth. At the moment these remain distant threats but according to the Fed minutes–they bear watching.

Shift in Consumer Tastes?
The assumption among most retailers has been that consumers want choice–the more the better. This has driven the majority of retailers to stock as much variety as possible so that every conceivable preference could be addressed. There is mounting evidence that all this choice is actually confusing the consumer and reducing sales. The "paralysis of analysis" plays a role in shopping, or so it would seem. Some retailers have been reducing options to perhaps two or three and have found that sales have climbed in that category.

Analysis: This observation reminds me of a story told by a colleague back in the Cold War days. His grandmother had managed to emigrate from the old Soviet Union and was now living with his family. They were excited to show her all the advantages of her new home and took her to a grocery store. She had known nothing but the near empty shelves of the average Soviet shop, and they just knew she would be impressed. As she walked down the cereal aisle, she stopped and started to weep. She was not impressed–she was overwhelmed by the choice. What was she supposed to buy? As she was reaching for a box of one cereal her granddaughter had told her that was for kids and then she reached for another and was told that was for people who were dieting. She ran from the store, unable to cope with all the decisions she was being forced to make and afraid she would make the wrong one. Is that what inhibits some consumers now–the fear they will make the wrong choice?

Is the Chinese Century Already at an End?
It is a little hard to remember, but at the time of the recession that decked the U.S. and the world as a whole at the start of this century, there was China, a nation that appeared at the time to be somewhat immune to all that. There was a great deal of talk regarding the ability of the BRIC (Brazil, Russia, India and China) nations to form their own semi-independent economic world and no longer dependent on what was happening in the traditional industrialized states of the U.S., Europe and Japan. Today the whole notion seems more than a little laughable as it soon became obvious that without those nations suffering from the downturn, the Chinese had nowhere to sell its goods. The BRICs look awfully crumbled these days, but China managed to escape the worst of it and emerged stronger than ever and a rival to the U.S. Is China still in that category, or are we starting to see the real decline of China starting? Is it safe to refer to China as the "sick man of Asia"?

Analysis: It is likely premature to declare the end of China as a world economic and geopolitical power. They are still the second-largest economy behind the U.S. and still function as the factory to the world. Its manufacturing sector long ago transcended its origins as a producer of cheap consumer goods and now has companies that dominate in some of the cutting-edge technologies of the age. China has massive political clout and a massive military with global ambitions and reach. China is most certainly not fading into insignificance, but its days of rapid and unfettered growth seem to have come to an end. The question is for how long this will be the case. A corollary question is whether there is another nation that can take China's place. The U.S. is doing OK, but 2% growth is not enough to pull the rest of the world along. The European Union is in deep economic funk and shows signs of coming apart politically while Japan remains mired in deflation and formal recession.

What has created the decline in China? It can be argued that it has been massive miscalculation and mistakes made by Beijing leaders. The trade and tariff war with the U.S. may have been somewhat inevitable once Trump came to power given his attitude but the truth is that China has had ample opportunity to learn to play by the global rules and seemed to go out of its way to antagonize the very nations whose markets it needs. It is not just the U.S. which grew tired of China's behavior and manipulation. This was the result of China's own version of swaggering nationalism. Now China is dealing with the coronavirus and not doing a very good job of it. It is now apparent that local authorities in Wuhan hid what was happening until it overwhelmed them. The central government stepped in but was unprepared, and the virus has escaped containment over and over. Now the economy of the nation is being hammered. The lasting damage that all this has done will be seen in the coming months and years. The trade fight and the outbreak have led many western and Asian companies to develop alternative supply chains. There are three potential scenarios that will now play out. The first is that China gets a handle on this and the supply chains return to normal. Option two is that these new supply chains are maintained as alternatives while many return to China as well. The third–and worst for China–is that these new supply chains replace China permanently, and this is clearly the aim of the nations that are exploiting China's weakness at the moment.

Will ECB Change its Tune?
At the January meeting of the European Central Bank there was a sense of cautious optimism and the statements indicated there was a recovery expected by the end of the year–not a dazzling one to be sure, but a rebound that would allow the region to grow by perhaps as much as 1.5% with gathering strength by the end of the year. This optimism was expressed prior to the outbreak of the coronavirus in China. Thus far there have been very few reports of the virus in Europe and as with the U.S., the threat from the flu is far greater. Each year there are 50 million reported cases of the flu in the EU nations and between 15,000 and 70,000 die from it each year.

Analysis: As with the U.S., the scary part of the coronavirus in Europe is that too little is known about it and there is no vaccine as yet. The fear factor is what compromises business and travel and Europe is as dependent on trade with China as anywhere in the world. The prevailing assumption is that growth could be reduced by as much as half a percentage point and in a region where many expect growth to be less than 1% that would be enough to tip the EU into recession. Add in the uncertainty that surrounds Brexit and the continued trade threats issued by Trump and the Europeans have some cause for concern. The health system in Europe is thought to be robust enough to handle the outbreak, but it will be expensive regardless of its effectiveness and there is not really enough money in the budget. It will be interesting to see what the next ECB report indicates.

Tipping
I caught a short little treatise on the proper etiquette for tipping recently, and although it wasn't exactly a shock, I found some aspects somewhat puzzling. I already understood that 20% had become the norm for tipping wait staff, and I knew about the suggestions regarding the tips one is to provide to Uber drivers and cabbies, hotel staff and so on. I was a little shocked that I was expected to tip people in a fast food joint who handed me a bag of food. The most puzzling part of the whole discussion was the fact no mention was made of what the tip was ostensibly for.

When I purchase a meal or check into a room or get a ride, I expect the price I pay to be sufficient to pay for adequate service. I expect the wait staff to get to my table within at least 10 minutes, take my order and get the food to me. If that is all that happens, I feel no need to tip. The tip is for EXTRA service. Did they check with me during the meal, did it arrive hot, was the coffee cup and the water glass filled occasionally? Was there an attempt made to make the meal pleasant? There is nothing served in a restaurant that my wife can't prepare and better than what is brought to us. Going out is to get served and to have someone strive to make the occasion pleasant. The people providing a "service" need to understand that my tip is connected to what kind of service they provide. I am generous to those that are generous with me.

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Monday, 30 March 2020