Strategic Global Intelligence Brief for January 20, 2020
By Chris Kuehl, Ph.D., NACM Economist—
Short Items of Interest—U.S. Economy
Now that the U.S. and China have seemingly called a truce, all eyes have shifted to a more monitoring position—Can the Chinese really live up to their promises? Given the reaction of the business and economic community, it seems there are many skeptics. The deal looks pretty good for the U.S. on paper as it calls for the purchase of billions of dollars' worth of everything from farm goods to machines and other commodities. There is just one major problem: The Chinese economy doesn't appear to be in the best of shape, which is going to affect their level of demand regardless of the political position of the U.S. and China. The economy is now growing at the slowest pace it has seen in over 40 years, affecting every decision the country makes as far as consumption and even production.
For decades, one could count on the Federal Reserve to take a very strong position on the subject of inflation. Even over the last few years of stimulus and attention to the mandate to promote employment, there have been consistent voices calling for a harder line on interest rates to avoid an inflation spike. The mood has shifted with more conversation regarding tolerance of inflation higher than the 2% goal that has been set for years. All of a sudden, there is a lot in the investment sector that has started to look bubbly and more investors are shifting their focus to those areas, which have been seen as inflation havens—gold, inflation-protected bonds and certain commodities.
Home Sales Expected to Climb a Bit
The National Association of Realtors will release new data on the sales of existing homes tomorrow and the expectation is some positive news. The combination of lower mortgage rates and overall consumer confidence is expected to play a positive role and will overcome the fact that home prices have resumed their climb. The fact is that millennial buyers finally seem to overcome their reluctance to buy single-family homes and are seeking a way out of those lofts and their parent's basements. This is confined mostly to the older segment of the cohort as the 20-somethings are still rare buyers.
Short Items of Interest—Global Economy
IMF Cuts Growth Forecast Again
As the largest nations and institutions gather with an assortment of experts and analysts at Davos for the annual meeting of the World Economic Forum, the latest assessment from the IMF is bleaker than ever. They have reduced their expectations for global growth rates from 3.4% to 3.3%, a far cry from the almost 6% levels sported just a few years ago. The reason for the dip is the same as it has been for months—trade is high on the list. The trade war between the U.S. and China may have cooled a little, but there are several others that are getting more and more intense, including the one between the U.S. and Europe.
Inflation in Europe
The question of whether inflation is a problem in Europe depends on who you ask. The official assessment holds that there has been relatively little inflation—a situation that has hampered growth as producers have not been able to hike their prices without losing consumers. If you ask that consumer, they will assert there has been substantial inflation. The difference is that almost all the inflation has been confined to sectors such as rent and fuel. This hits the consumer very hard and forces them to cut back on everything else.
China Hit by SARS virus
There has been a sharp rise in the SARS virus in China as cities that had not been affected before are getting slammed. The last couple of years has featured a large number of disease outbreaks from swine flu to bird flu and now, a sudden reappearance of SARS. The medical infrastructure has been stretched and is struggling to keep pace. This has been made worse by the rise in internal migration in China.
Did Trade Truce Make a Difference?
For that matter, did the trade war make much of a difference? There have been many theories and discussions regarding why nations engage in trade with one another. Some of the rationale is easy: When a nation lacks something it needs, it will buy it from another, but there is very little the U.S. needs that can't be provided internally and the vast majority of the trade in the world is between nations that are buying and selling each other the same item. Japan makes cars and so does the U.S. and we buy each other's cars. Trade has been compared to flowing water—it finds the path of least resistance. The consumer buys what is desired at the price they are willing or able to pay and rarely cares much about anything else.
Analysis: The expectation was that a trade war between the U.S. and China would have an immediate and near catastrophic impact on the consumer in the U.S. How could it not? The U.S. imports billions of dollars of goods from China every year—our stores have been filled with items "Made in China" for decades. By the same token, we sold China billions of dollars' worth of food and equipment and parts. There was, indeed, some reaction, but nothing close to what had been expected. Why?
There are really no simplistic answers, as each product has its own set of demand and supply realities, but in general, the reason there was less impact than expected is because trade flows like water. As product from China became more expensive the supplier to the U.S. consumer changed. Few shoppers pay the least attention to where their purchases come from and few noticed that lots more of these items were coming from Vietnam, Sri Lanka, Brazil, India and a host of other nations. Many products continued to come from China, but only after a stop in Malaysia or Taiwan or Mexico. The consumer noticed none of this. After two years of tariffs and trade wars and radical attempts to reduce the U.S. trade deficit, it remains at $779 billion (roughly 1.5 trillion in exports and $2.2 trillion in imports). The U.S. has narrowed that gap a little, but the reality is that U.S. consumers want those imported goods for a variety of reasons.
Now that there is a truce, will there be much change? Thus far, the future indicators say no. The Chinese will not easily recapture markets lost to other nations, but if the total landed cost of a product is lower than the competition again, the U.S. consumer will see it in their stores again. The U.S. farmer was hit hardest by Chinese retaliatory tariffs and many expected an immediate reaction to the truce as far as soybean prices. But they have barely budged, as many remain skeptical that China will really buy more. Besides, the U.S. now exports more soybeans and other farm outputs to other nations—trade flows like water after all.
Political Risks of a Trade Deal with China
The battle between the U.S. and China over trade has always been about far more than trade. It has always been highly politicized with implications for both Trump and Xi when it comes to domestic politics. The relationship between the U.S. and China is perhaps the most complex in the world today. In almost every respect, the two countries are enemies—not just rivals. Their military is pointed at the U.S. and its allies and the U.S. devotes a significant part of its military to countering Chinese moves. We have flashpoint conflicts over Taiwan, North Korea, Tibet, the Uighurs, South China Sea and the two nations support opposite sides in conflicts all over the world.
Analysis: China is not popular in the U.S. as far as the traditional Trump base and it is not popular with many within the Democratic Party either. It is the nation blamed for the loss of millions of factory jobs—whether that is exactly true or not. It is clear that jobs once done in the U.S. shifted to China as companies moved or changed how they sourced. Many detest China for its persecution of religious groups and people and for their human rights violations. Consumers get angry at the shoddy and dangerous merchandise foisted on the U.S. The long and the short of it has been that opposing China allows U.S. politicians to score points with many voters. Now that there is a deal that voter expects to see China change and expects things to be different and if they are not, there will be frustration with the U.S. political leaders who made that deal.
Weaker Employer Demand
For the last six months employers have been reducing the number of jobs that have been on offer. The last month saw the steepest decline in a year. The employers have been consistently posting more jobs than there have been people available to fill them and that led to a situation where there were close to two million more jobs on offer than there were people conceivably available to fill them. That gap is now starting to close.
Analysis: The reasons for the narrowing of job offers are varied. Some employers are slowing down and simply don't need the people anymore. Some employers gave up looking for people altogether as they have been unable to find the skills they need. They are now investing more in machinery and robotics. Some are choosing to outsource and some are actually moving to other nations. Some are asking their existing staffs to do more rather than to try to find reliable new employees. Whatever the reason, this will likely affect the job growth numbers in the coming year. There will be lower monthly totals of new jobs and there is a higher likelihood of layoffs. Another reading to pay attention to will be the quit rate as delineated by the JOLTS report. If that starts to weaken, it will suggest that people are not seeing as many jobs out there as they once did.
Is 'Capitalism' Really Under Fire
It has become part of the political war being fought in the U.S. and many other nations. Terms like "capitalism" and "socialism" are tossed around as if people had a clue what they really mean. The arguments over the future of the economy fuel vicious wars and both sides do their very best to demonize the other without understanding the terms and concepts they argue over. In simplest terms capitalism is defined this way, "an economic and political system in which a country's trade and industry are controlled by private owners for profit, rather than by the state." Socialism is defined as, "a political and economic theory of social organization which advocates that the means of production, distribution, and exchange should be owned or regulated by the state." In truth there are no "pure" systems. The U.S. has a fundamentally capitalistic system, but there are plenty of state mandated rules and regulations that control how business is conducted. China has a fundamentally socialistic system with millions of businesses devoted to making a profit and only barely controlled by the state.
Analysis: When one breaks down the criticism that has been leveled at the current U.S. system it is evident that capitalism is not the target per se. Even the most ardent of the critics are not suggesting some kind of Soviet-style state economy. The vast majority of the complaints center on three major issues. These include the growing level of income inequality, concerns over the loss of jobs to robotics and outsourcing and finally worry over issues of climate change and environmental destruction. The reality is that all three of these issues are of concern in states that call themselves capitalist and socialist and everything in between.
Addressing these three issues will never be simple and all three will require multiple approaches and even with all that attention they will not go away. Income inequality requires attention be paid to education, taxation, family organization, compensation structure, motivation and a host of other issues. The march toward automation and robotics is inevitable, and there is no question of stopping it. It is matter of how to react as a society. That means attention paid to social norms, education, mental health and so on. Climate change and the impact on the environment may be the most complex of all as there needs to be attention paid to reducing the impact of human activity on the environment at the same time that means are found to cope with the changes that have already taken place.
What is not helpful is to play a useless game of labeling. Capitalism harnesses the desires we all have to improve our own lives through our own efforts. It is the freedom to follow our own path to the "pursuit of happiness." Socialism is recognizing that we have to share and be aware of one another. It is setting boundaries and rules to prevent exploitation. These two tests each other's limits every day, and there will inevitably be periods when one approach or the other gets carried away and will need to be adjusted. It is never going to be an "either/or" proposition.
Climate Change Battle in Australia
The crisis in Australia has brought the issue of climate change to a real crossroads. The wildfires that have been devastating the country are the worst that have been seen in the history of the country and may have caused the extinction of several animal species. The estimate is that one billion animals have died; billions of dollars of damage has been done. The economy of the country will take decades to recover, and there is no reason to assume that these droughts will end. The country is demanding that there be a change in the climate policy pursued by the current government but what would it really matter?
Analysis: Australia accounts for less than 1.3% of all the greenhouse gas in the world. A 100% end to carbon emissions from Australia would have next to no impact on the problem. The issue is that much of what Australia sells is resource based—everything from coal to iron ore and lots of farm output. If one adds the coal exports to the equation Australia accounts for over 4% of carbon emissions. It is this export business that many in the country want to halt. The question is what difference this would really make.
The nation that buys that coal and burns it is China. The Chinese account for the largest share of carbon emissions, methane and every other greenhouse gas. If the Australians do not sell to China it is not as if China will stop buying coal and burning it. The economy of Australia will be crushed and nothing changes as far as greenhouse gas. In fact, the pollution would likely worsen. China has coal of its own but it is low grade, high sulfur brown coal, and part of its effort to reduce carbon emissions has been to buy higher grade and cleaner burning coal from Australia and the U.S.
The bottom line is that addressing climate change is by definition GLOBAL. It has to be a joint effort by every nation and thus far that approach has been foiled by nationalism and collective refusal to tackle the issue.
What Consumer Confidence and Sports Will Mean
This is the Monday after in Kansas City. Every man, woman and child in this town is in a VERY good mood, and the retail community is in an especially good frame of mind. The Chiefs just punched their ticket to the Super Bowl for the first time in 50 years. The media is already reporting that stores have people lined up to get new shirts and jerseys. The breakfast places are jammed with people who just want to share the moment. It is a holiday anyway, but even without Martin Luther King Day, the overall productivity of the Kansas City economy would be low—except for all those consumers. Does sports success really boost the local economy?
Studies have shown that it all depends. Cities that experience this often do not react all that much. Cities that have waited for five decades react. The local population goes nuts, and good moods translate into spending bursts. The community becomes the center of attention nationally and that leads to visits from the curious. The Royals won the World Series a few years back after a nearly four-decade drought, and the influx of tourists was substantial for a year or so. Should the Chiefs win the Super Bowl, that will be repeated and probably on a grander scale. For the next two weeks, the rest of the country will be seeing Kansas City for perhaps the first time, and that will promote a lot of attention from consumers.