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Strategic Global Intelligence Brief for August 30, 2018

Short Items of Interest—U.S. Economy

Reworked NAFTA Goes to the Legislators
Given all the fulminations and hoopla that has surrounded the trade pacts like NAFTA, it would be forgiven if people really thought these are things President Trump can bring into the world or take away with the stroke of a pen. Once a deal is made, the next step is to turn all of this over to the legislators. Remember that Obama had made a deal to implement the Trans-Pacific Partnership, but it never made it through Congress. The promises made regarding changing NAFTA have not been part of the new deal and there is absolutely nothing automatic about seeing its passage. The big resistance will come from unions that want more protections for workers and farmers who will be opposed to the lack of progress on issues like dairy in Canada.

Core Inflation Hits 2% at Last
Since the start of the recession, there has been a goal as far as the Fed was concerned. They wanted to see the core rate get back to a minimum of 2%. Much of the stimulating has been geared to seeing spending by consumers and business advance. It has been a struggle for 10 years, but now it appears the rate has finally reached the minimum. The core rate is limited in that it doesn't count the costs of food and fuel. It is assumed that these costs will appear later in other prices—e.g., jet fuel showing up in higher fares and higher food prices showing up in more costly restaurant meals. Headline rates are still roughly two points higher than the core rates.

Revision of GDP Trends Up
The first revision of the Q2 numbers shows there was slightly more growth than had been expected. The growth is now at 4.2% rather than 4.1%. What drove the change was more business investment and slightly less consumer spending than had been assumed. The additional business investment was prompted by the tax cuts as well as the rush to get product in and out of the world market before the tariffs and trade barriers take effect. There is no expectation that Q3 will be the equal of Q2, but it will nonetheless be in respectable territory.

Short Items of Interest—Global Economy

Peso Resumes Plunge in Early Trading
The peso dropped by 15% in its opening moments in New York trading, building on Aug. 29's 7% drop—the most severe since the currency floated in 2015. Aug. 30's sell-off leaves the dollar trading at around 39 pesos, although trading is volatile. The Macri government of Argentina has been on the edge of panic since this started and has been willing to try some radical moves. Nobody really knows if this is too little and perhaps too late. Marcos Peña, Argentina's cabinet chief, had attempted to project calm before the central bank acted, denying that President Mauricio Macri was considering a cabinet reshuffle.

Deputy Governor Steps Down
A deputy governor of Turkey's central bank has stepped down from his role two weeks before a critical interest rate decision. Erkan Kilimci was one of four deputies to central bank governor Murat Çetinkaya. He also sits on the bank's monetary policy committee. The committee is facing calls to announce a radical rate rise when it next meets on Sept. 13 to bolster the plunging lira, which suffered a fresh decline on Aug. 30. The currency was down 4.2% in late European trading, a sell-off that echoed its crash earlier this month. The drop to TL6.80 against the dollar marked a new low for the week and approached the historic trough of TL7.2149 reached earlier in August.

China Labor Force Issues
China is facing a major shortage in their labor force as their population ages. The manufacturing community is responding with an aggressive campaign to use more robots and automation. This worries the government as it is making it hard to hire people with limited skills and educational background.

Is Canada Back in the Fold?
Yesterday, it looked as if the U.S. was on the edge of invading Canada and seizing the oil resources or at least a few dozen good hockey players. Today, the mood is upbeat and promises have been made suggesting a deal. The two biggest sticking points had been Canadian opposition to ending the current dispute resolution system and the issue of granting the U.S. greater access to their dairy industry. There are no details yet as to whether these have been dealt with, but everybody was all smiles.

Analysis: It seems that the Trump pattern is in play once again. After months of angry accusations directed a Mexico, a deal is in the works that leaves a lot of the old system in place. Now the same is happening as far as Canada is concerned. This is not to say that a new deal might indeed be better for the U.S. as well as for the Mexicans and Canadians, but gone are the assertions that Mexico will pay for a border wall or that Canada will finance oil pipelines to the U.S. on their own dime. It now looks like a new NAFTA will look a good deal like the old NAFTA.

Labor Shortage in Germany and EU as a Whole
One of the most divisive issues in Europe, and the world for that matter, is immigration. In most of Europe, the issue of refugees coming from North Africa, the Middle East and South Asia has been the trigger for the formation of radical populist parties that are deeply opposed to the new arrivals. Elections have been won and lost over this issue. Europe is certainly not alone as far as this controversy is concerned as the U.S. continues to grapple with issues ranging from border walls to the fate of "Dreamers." This is certainly not the first time migration has been controversial, but there are some crucial differences between the issue today and in the past. Most of the opposition in the past was rooted in fear that these migrants would be taking jobs that would otherwise be available for the local population. The periods of the most anti-immigrant feeling often coincided with periods of high rates of unemployment. This is not the case this time. The countries that are struggling with their immigration issues are also facing extremely severe labor shortages. Put simply, there are no available workers for a wide variety of jobs in nations such as Germany, the Netherlands, Denmark, Austria, France and others. These are not small shortages. The business community in Germany alone indicates a need for at least a half million more people than are currently looking for work.

Analysis: The shortages are not only in high-skilled sectors, although the lack of qualified people is acute in the high tech and medical sectors. The biggest gap is in administrative work with a vacancy rate of over 70%. These are jobs that range from secretarial support to the clerk jobs that make the majority of the business world function. Even as many of these tasks have been automated, there remains crucial reliance on these positions. Those who worry most about succession for business indicate that the critical issue is not just replacing the leaders, but the middle level staff that have unique knowledge sets and experience. They are often the only people who know how certain systems work. Training new people to do these jobs requires a company willing to invest in that training and far enough in advance.

The Germans are now pushing a new set of laws that will allow the nation to address the labor shortage, but it is highly controversial. It would eliminate such provisions as having to prove there was no local option for employees and only recruiting in fields that were officially designated as labor short. The fact is Germany has a 1.2 million person vacancy rate; it is expanding every year as people retire. The unemployment rate in the fastest-growing parts of the country is as low as 1%. It is estimated that having the required workforce would add a full point to German GDP growth.

Where will this workforce come from? The Germans want people ready and willing to work. That has not described the vast numbers of refugees and migrants that have been coming to Europe. To be sure, there are thousands of people from other nations who have gained entry into Europe and immediately found employment. Many of those in the first wave of Syrian migration were middle class professionals and business people who adjusted quickly. But many thousands more were desperately fleeing war and deprivation and lack the skills needed to hold a basic job. Germany would like to attract people from places like the U.S., Canada and elsewhere in the developed world, but these are the nations also struggling with their own employment issues

Swedes Question Their System
As the election nears, the Swedish voter has become more and more vocal regarding the system that dominates the life of the population. It has always been a misnomer that Sweden is entirely run by the government. In fact, this is the nation that leads the world in public-private partnerships. The services that are provided in health care, education and family services are nearly all provided by private companies that are paid by the government. These are companies seeking to turn a profit while providing the services required. That is not always a mutually agreed upon goal. Ironically, the right-leaning politicians want more of these services back in the hands of the government directly so that budgets can be more closely watched and performance can be better evaluated.

Analysis: There have been several scandals over the last year feeding this voter dissent. Major new hospital developments have been delayed and waiting times for medical attention have lengthened. There are concerns that schools are little more than warehousing for kids and too few schools focus on relevant education. There have also been issues as to how migrant and refugee children are being educated and handled. The two main political parties each vow to do something about this, but they differ in how they plan to go about it.

Contradictory Priorities
It is perhaps the most vexing aspect of decision-making. It is very hard to make more than one thing a priority as very often the second priority ends up interfering with or canceling out the first one. Businesses fall victim to this issue all the time—seeking operational efficiency and pursuing expanded market penetration. The former priority means running the operation in a way that doesn't waste resources, but to be everything a consumer wants you to be means doing things that are not always efficient. Pleasing the consumer at all costs will be dangerously expensive. In politics it is even harder. The Trump White House has consistently set out two goals as economic priorities—growing the U.S. economy at a rate faster than has been seen in decades while at the same time reducing the trade deficit to a level lower than has been seen in decades. Unfortunately, these goals are mutually exclusive as addressing one makes the other harder to achieve.

Analysis: There are some realities that apply more to the rest of the world than to the U.S. That complicates the process every other nation goes through to create balance. The balance of payments a given country maintains is the total of all economic activity that country has with the world and it has two major entries. There is the current account which is the total flow of goods, services and income to and from abroad. Then, there is the capital account—the flow of lending and borrowing from abroad. If a country runs a current account deficit, it is financed by a surplus in the capital account so that the balance of payments system stays balanced. If a country can't borrow enough abroad to cover its current account deficit, it will have to turn to its international reserves to cover that debt—not sustainable in the long run. For every other country in the world, this is the factor that restrains consumption, but it is not what happens in the U.S. as this nation is unique.

The U.S. has no reserve currency because the dollar is the world's reserve currency. If the U.S. runs a current account deficit, it simply prints more money or uses the current account surplus. The U.S. may have to raise interest rates on occasion to ensure it has a market for the treasuries it sells, but this has never amounted to much. We can run current account deficits unlike any other nation.

If President Trump really wants to reduce the deficit, he will have to find a way to make the dollar no longer the world's reserve currency. Once the U.S. has to respond to the same discipline other nations are subject to, they will see an improvement in these balances. However, it will come at a significant cost as the U.S. will be forced into budget discipline the likes of which it has never seen. The bottom line is that the U.S. spends far too much at the private and public level and saves not nearly enough. The U.S. can do nothing about the status of the dollar as a world reserve currency. This is not something that was decided by some pact or edict—it is the decision of dozens of nations to treat the dollar this way. There is no currency that comes anywhere near the U.S. as far as global demand—not the euro and not the renminbi.

It seems that President Trump loves debt and he is not alone. Most of those in power in the U.S. pay lip service to the notion of reducing debt, but rarely is anything done to deal with it other than to complain about it. Even those who supposedly stood for reducing the debt and deficit were really pursuing other objectives such a spending less on social programs so more would be spent on projects they supported. Under President Trump, the debt and deficit levels are soaring to yet greater heights and the measures like the tax cut make the situation even worse. Not only is this money coming out of the budget, but it is stimulating the consumer to buy even more.

So, what could the U.S. do to address this chronic issue? It is really very simple, but will not happen in a million years. Impose a national sales tax for which there no or very few exemptions. The tax would slow national consumption and would dump the cash directly into the treasury. It is logical but impossible given the opposition and howls of outrage from the states and cities that currently make the most from their own sales tax. If this, or something like it, is not implanted, the U.S. stays on the road it is on. All the fulmination and bombast will not change it. The pitfalls are evident as well—reduced economic growth, increased unemployment and a greater burden on those that earn the least as sales taxes are most definitely regressive.

Social Life in the Medical Center
The last several months have given me the "opportunity" to spend a significant amount of time in various medical settings. Up to this point, my most regular exposure was probably through Grey's Anatomy. I often wondered where all those ravishing doctors were when it came my turn for care. In all fairness, I have been receiving medical attention from some pretty dazzling people, but I have been far more attracted to their skill than to their looks. There is one thing I noticed after repeated visits. The hospital is the center of many people's social life.

These are not the doctors and nurses and others—although one can tell these are pretty tight communities. I am referring to those patients who have likely never had this kind of attention before. You can see it in their faces even if they are very sick. The people who are treating them and caring for them may well be the only people in their lives that do. I certainly see a lot if couples and families, but just as many people who seem to be going through all this alone. Their eyes light up when their nurse or doctor arrives. They can hardly wait to share any stories of their lives since the last visit. I sat next to an older man who was curled up with a book in the lobby. The staff all visited with him at one point or the other. As I left my appointment, he remained. I later found out that he arrives hours early so that he can just be around people who say hi to him. I am not sure what other treatments he gets, but I would wager this attention and friendship is the most important to his sense of well-being.

Strategic Global Intelligence Brief for August 31,...
End of Summer Brings CMI Out of Decline


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