Strategic Global Intelligence Brief for May 17, 2018

Short Items of Interest—U.S. Economy

Managing Trade Deficits

To begin with, there is a deep misunderstanding as to what creates deficits and surplus on the global market. The Trump belief is that this is all about plots to negatively impact the U.S. economy with unfair trade practices, but the reality is that trade has far more to do with which countries save and which spend. The U.S. is a spending nation and long has been—thus it tends to have deficit relationships with goods-producing nations. The other major flaw in the Trump reasoning is that there is some kind of massive surplus of goods produced in the U.S. just waiting for someplace to go. Even if China agreed to buy as much as $200 billion from the U.S., the farmers and manufacturers would be hard pressed to produce enough to meet that demand—not without cutting off all their other customers around the world. Not that there are no issues as far as trade with China is concerned, but simplistic solutions create far more problems than they solve.

Is Opioid Crisis an Economic Issue?

This has been the basic assertion since the drug crisis emerged. It has been assumed that opioid abuse was connected to economic conditions. The abuse has even been called the "middle-aged male's escape" as it seemed there was a higher incidence of addiction among those who had been laid off and in depressed areas. The latest report from the Cleveland Fed throws this easy assumption into doubt. It seems that the most important indicator of opioid abuse is the number of prescriptions written. The more easily people are introduced to the pain killers, the more abuse there is. This may be economically driven as people working physical jobs are more likely to be caught up in this cycle. In addition, poor populations may be dealt with more summarily with drugs instead of other techniques,

Cold Weather and Retail

For much of the country, spring never quite sprang. The winter hung on far longer than was normal. Even into April, the temps were bitter for almost half the U.S. population. This has hurt retailers of clothing especially as people were not eager to switch out of those winter duds. Most of the big department stores saw drops in revenue and profits as did the specialty clothing stores. Now summer has arrived—there has really been no spring to react to.

Short Items of Interest—Global Economy

Will the Swift System Sever Ties With Iran Again?

The Swift network is the dominant system for transferring money around the world. It is a financial messaging system that banks employ to facilitate trade. Iran was cut off from it in 2015 as part of the sanction protocol. Now, the U.S. wants this to be put back in place. It is not clear the Europeans will go along with this. That sets up a real confrontation—one that drags the Swift system into the middle of the chaos. The EU is not inclined to abandon the deal with Iran and has become very hostile to the U.S. and its global strategies. This is just one of many confrontation points.

Brazil Holds Rates Steady

This was a shocking decision as almost every analyst assumed the central bank would drop rates again as a means by which to stimulate the economy. The bank asserted that all the turmoil in the emerging markets made them opt for caution. The rates have been left at 6.5%. There is still deep concern regarding Brazil's rate of growth, but the monetary authorities are throwing the ball back into the fiscal court.

Mexican Candidate Drops Out

The independent campaign waged by Margarita Zavala has ended, but few expect this will have an impact on the race. She was a former first lady who hoped to win the support of the PAN party. That support went to Ricardo Anaya. Her numbers never went above 3% support. The withdrawal is not seen as much of a factor as the polls show that leftist candidate Andrés Manuel López Obrador (AMLO) with a commanding percentage of over 43% to Anaya's roughly 30%. Unless something dramatic takes place, Mexico will soon have AMLO as their president.

What Is Going on With China Talks?

About the only thing that anybody knows for certain is that there are talks—acrimonious talks with expressions of frustration from both sides, but at least there are talks. There is a very long list of issues that currently divide the U.S. and China. Of late, it has even been hard to determine which of these issues are considered high priorities. The U.S. has handed the Chinese a list of changes and concessions demanded, but it is a very lengthy and complex list. It has been hard to determine which of these are non-negotiable and which of them bargaining chips. President Trump has muddied the waters repeatedly, but none of his actions has been as disruptive as his latest one.

Analysis: In theory, the big issues are as follows. The deficit with China is a sticking point. A demand has been made that China find a way to reduce that deficit by $200 billion in the next two years. The deficit is currently $337 billion. The U.S. has indicated it will address this deficit by imposing stiff tariffs on some $150 billion worth of goods. China has responded by threatening tariffs of its own on a like amount of U.S. exports to China. This is the threatened trade war. The alternative to dealing with the deficit via tariffs is persuading China to buy a lot more from the U.S. There has been some interest in this option in China, but $200 billion of additional purchases is a major stretch.

A second major issue is protection of intellectual property. That has been a concern for many years. The old joke is really not that much of a joke—the good news is China is adopting the latest Windows operating system, but the bad news is that they only bought one copy. The Chinese have been at the center of myriad counterfeiting schemes over the years that range from bootlegged movies to fake Gucci bags. The high-level theft of technology has been a huge national security issue. It has kept some companies from even entering the Chinese market for fear that they will be supplying a competitor with all manner of proprietary technology and information.

This concern is a highly legitimate one and is shared by the Europeans, Japanese and others. It is what makes the latest Trump move so hard to understand. One of the companies that has flagrantly violated most of the intellectual property statutes that exist is the massive telecom company—ZTE. It has further challenged the U.S. sanctions efforts directed against Iran and other pariah states by selling technology to them. The company was subsequently hit by the U.S. for these transgressions. This set of tariffs and other restrictions seemed to be exactly what the U.S. wanted to threaten the Chinese with. Then with little warning, Trump declares that he will see the ZTE restrictions lifted in exchange for the Chinese pledge to buy more U.S. farm output. It is a baffling reversal and has triggered a great deal of criticism from within the GOP—even from those who generally oppose the tariff war that has been launched at China. Of all the companies that should be a target of U.S. ire, ZTE would be at the top of the list. Trump seems to see this as just negotiating tactics, but it is not a plan that stands to serve the U.S. very well.

The third set of issues seen as a priority is access for many more U.S. service sector operations—especially in the areas of finance, insurance, law and so on. In general, the U.S. runs a trade deficit with most countries when it comes to goods and commodities, but runs a trade surplus when it comes to services. That is to be expected from an economy that is over 80% dependent on its service sector. The Chinese have promised more access in the past, but there has been a lot of foot dragging. The U.S. (as well as Europe) has begun to lose patience. Some gestures have been made of late, but the U.S. seeks more tangible evidence of a change in position. The question is what the Chinese receive in return for opening their services markets. Usually, that is more access to Chinese exports of manufactured goods.

Will EU Expand Into the Balkans?

Six of the more troubled states in Europe have ambitions to be part of the European Union (EU), but not everybody within the organization is supportive. There have been deep concerns expressed by Germany, the Netherlands and France as regards crime and corruption as well as the perceived weakness of many of the civil institutions in these nations. However, some are considered further along than others. All but Albania were once part of Yugoslavia. These countries have been at the center of massive disputes since the breakup of that nation. Serbia, Croatia, Bosnia, Macedonia and Montenegro all wish to be part of the EU (as well as Albania), but Europe is wary. The fact is that all of these nations will need a lot of help from Europe. It will be a long time before they are contributing much. That worries the nations that do most of the European support now.

Analysis: The reason these nations are even under consideration is more geostrategic than economic. There is a desire to see more development here simply to reduce the tension that has led to many conflicts already. Just as when Yugoslavia existed, there is a desire to balance Russia with this region, or at least to keep Russian influence to a minimum. Then, there is the issue of migration. This is a twofold challenge as Europe has been resistant to more migration from these nations. Now, there is the added pressure of those migrants that have crossed their porous borders as a first step towards reaching the rest of Europe. The EU wants these states to step up and deal with this migration, but that takes money and resources these countries lack. The dilemma is fundamental—there are very good reasons to keep these countries out of the EU and good reasons to let them in. Which argument is most compelling depends on the issue under discussion and which nation one is talking about.

Growing Fertility Crisis

Over the years, it has been a crisis that just kept developing. There is lots of commentary and lots of hand wringing and not much actual attention to any kind of real solution. The U.S. has a full-blown labor crisis and it stands to get much, much worse. There are far too few people with the skills needed in sectors such as manufacturing, construction and transportation. Now, this dearth of trained people has been affecting health care and many of the professions. There is another element developing fast which will complicate the issue even more. The U.S. fertility rate is the lowest it has been in over 30 years. The number of babies born in 2017 was 2% lower than in 2016. That year was lower than 2015, and so on. The U.S. is getting older very quickly. It is now apparent there will be far too few people coming into the workforce than will be needed to replace those leaving.

Analysis: Practically speaking, there is only one way to reverse this decline in population. There is no way to force women to have more children although it has been pointed out that the U.S. could make it far easier for women to both work and raise families by addressing child care. The only means by which to gain needed population is through immigration. At the moment, that is a very controversial suggestion. To further complicate matters, there is the need to get the right people to have kids and to get the right immigrants. The lowest fertility rate is among educated women. This is precisely the group that society needs to have focused to some degree on family. The immigrant desired is the one with skills and education—not necessarily the person who lacks those skills and has arrived illegally. Picking and choosing where the next generation of workers comes from is a tender subject at best. It is one that provokes real anger and protest at worst.

The Coming Water Crisis Is Already Here

For several decades, the warning has been repeated but rarely seems to have been heard. The fact is that fresh water is not an unlimited resource. The world has been using more and more of it without much concern as to where it comes from and how long supplies will last. It always seemed to be some future issue that could be dealt with later. The future is far closer than had been expected according to the latest study from NASA and the Jet Propulsion Lab. The study suggests there are some 35 places that are facing the same crisis that overtook Cape Town in South Africa. That major city was on the very edge of completely running out of water and was forced to implement some of the most restrictive water rationing policies seen in the country, or the world for that matter.

Analysis: The places where water has become critically scarce are no surprise as they are in arid regions that have always had a challenge of some kind. This includes northern India, northwest parts of China, much of the Middle East and North Africa and the area around the Caspian Sea. There are regions in the southwest of the U.S. that are heading down that same path as well. The pace of this change has been far faster than had been anticipated. The study indicates there is one obvious culprit. In all of these regions, there has been a dramatic increase in exploitation of ground water for irrigation. The rush to convert arid land into farmland has been the most important change. To put it in simplest terms—it is not sustainable.

A number of years ago, the U.S. Central Intelligence Agency issued a report on what it considered to be the most important threats facing the world in the coming decades. Water wars were at the top of that list. There are already regional conflicts that stem from water shortages—such as the battles that take place in Africa as farmers and ranchers fight over who has access to what water. According to this report, the water wars will be far more dangerous than those that take place now over issues such as territory or access to oil and other resources.

The obvious solution is to restrict agricultural use to those areas that have sufficient water resources, but that is far easier said than done especially with the desire on the part of nations to reduce their food insecurity. The expansion of populations into more arid regions has accelerated as well, but it is not the water for this population that is really at issue. Not only has irrigation drastically expanded the areas that can be farmed, it has allowed the production of crops not at all suited to dry land conditions. This has been a growing problem in the U.S. as well given that many millions of acres are planted with corn despite the enormous demands this crop makes on water supplies. Short of some rational plan to control access to water, there will be one crisis after another. Cities will be forced to engage in draconian water saving strategies—some many even become uninhabitable.

Fact vs. Opinion

It was not all that many years ago that these were pretty easy distinctions to make—or so it seemed to me. There could always be healthy debate over whether something was good or bad. It always depended on one's perspective and opinion. Facts were facts. One did not try to pretend otherwise. Granted, I grew up with an engineer father whose hobby was working out complex math problems, but even as I drifted to the dark side and became an economist, I dealt with the facts as collected and presented. Then I engaged in the debate over whether this was a good thing or bad for any given situation. I know full well that facts change, but only because there is new data or a better way to interpret or collect that data.

A recent study found that large numbers of people in the U.S., Europe and elsewhere in the world no longer believe in facts. They dismiss anything that contradicts their world view and accept any opinion as fact as long as it matches their already held notions. The study from Reuters showed that only 43% of people believe what they read or see in the press and media. The numbers are even lower in the U.S., France and Italy. This strikes me as exceedingly dangerous. I recently ran across a book that extols the virtue of existing in a world based on facts. I have not read it yet, but the premise is intriguing and I soon will.

There are those who assert that facts change all the time and therefore can't be trusted, but that misses the entire point. Facts change when there is new evidence and new information. That is exactly why the facts can be trusted. We have a method by which to determine truth and that is what we must trust in.