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Strategic Global Intelligence Brief for May 25, 2018

Short Items of Interest—U.S. Economy

Congress Gets Frustrated With Trump Tactics

Traditionally, trade issues are the purview of Congress—at least there is an expectation that the legislators will weigh in. The president does not have the power to establish a trade deal without getting final approval of the plan from Congress. Likewise, the president is not generally allowed to withdraw from one without approval. There are also limits in terms of how tariffs can be imposed. One way around these limits has been to evoke national security as the motivation for a tariff. In the past, it has been used sparingly and almost always directed against a nation to which the U.S. was hostile. There are many in the GOP fed up with President Trump's use of Section 232 against allies and any nation with which he has a bone to pick. The use of 232 to attack auto imports seems to be the last straw for many in the party and Congress as a whole.

Steel Prices Up by 40%

Given that the majority of the nations that export steel to the U.S. have been exempted from these tariffs, it is hard to see this price surge as anything but gouging by the steel sector. There is certainly some of this taking place, but the bigger factor is uncertainty. The exemptions are all temporary and contingent. They can be imposed on a whim at any time, and that affects buying decisions. Nobody is going to sell steel at a given price today if they think it will be 25% more expensive in a day or week or month. Nobody is going to buy without knowing the ultimate price. The steel sector is enjoying some big profits right now, but this is at the direct expense of the manufacturer and ultimately the consumer.

Consumers Expected to Remain Confident

The University of Michigan consumer survey will be released today. It is expected to show that consumers are still pretty upbeat. There are likely two concerns emerging though. The first is that consumers are starting to react to gas prices. In the past, when the pump price rose, consumer confidence waned and vice versa. There is some sense that numbers may start to decline over the latest price hikes. The other concern is that consumers have been consistently more upbeat about the future than they are about the present. This is fragile confidence; at some point their worries about today overtake their expectations of a brighter future.

Short Items of Interest—Global Economy

Kim Asserts He Is Still Ready

So, who killed the summit? One can find advocates that assert it was the fault of the North Koreans and others who point at the Trump team. It was the U.S. that called it off, although the Kim regime seemed poised to do this as well. The assertion by Kim Jong-un was that the U.S. was being hostile by referencing the "Libya Option." Since that comment came from National Security Advisor John Bolton, one can understand why. He has been an open and consistent advocate of regime change in North Korea and has indicated in the past that Saddam Hussein and Muammar Gaddafi got what they deserved. Another run at this summit will not be tried for a long time.

Alexa Is Out to Get You

It has been confirmed that an Amazon Echo recorded a conversation in a private home and then sent that conversation to someone in that person's contact list as an audio file. It seems that Alexa heard its name and then interpreted background conversation as an order to record and send. The machine tried to get confirmation but nobody was paying it much attention and off the message went. Given that I remain convinced that Siri has been trying to kill me for years—I am not all that shocked by this.

German Business Sentiment Steadies

After several months of decline, the Ifo Index in Germany ticked up a little this month. One could hear the sigh of relief from all over Europe. The business community has been set on its back foot by everything from politics to global trade concerns, but seems to be shaking some of that trepidation off.

NAFTA (Redux)

Despite all the fire and fury that has been directed against the North American Free Trade Agreement (NAFTA) by the White House, it is not all that simple to alter or abandon the pact. It requires legislation from Congress as this was a trade agreement that was instituted by the legislature. President Trump has certainly made his feelings known, however. The executive branch has some power as far as how parts of the pact are handled, but changing it drastically is an involved process. Congress gave the president and the negotiators from Canada and Mexico a deadline if they wanted to see something altered this year. The stated date by which this needed to be done was ostensibly May 17. It has been suggested there may be a little flexibility if a deal was to be struck within the next week or so, but the sides are so very far apart on key elements of the agreement this seems highly unlikely. Practically speaking, it is now assumed the talks will carry over into 2019, which introduces a whole new set of issues and complications.

There have been very few agreements established thus far. None of the really sticky points have been addressed. The biggest stumbling blocks include content regulation on cars made in Mexico and shipped to the U.S., and access to the Mexican agricultural market, which affects the deficit in goods the U.S. runs with Mexico. There are also issues as far as exports of Canadian oil, manufactured goods and lumber. Those are just for starters as there are issues that affect everything from the protection of intellectual property to how to handle fisheries. The U.S. has been pushing Mexico to raise wages in those industries that compete with the U.S. industrial community so that they do not have an advantage. Of the 32 sections of the agreement only nine have been successfully negotiated.

Pushing this discussion into 2019 will mean dealing with some fundamental changes in both the U.S. and Mexico. These changes are likely to make the talks even less productive than they have been. The business community has been aggressive as far as lobbying for a deal and maintaining the bulk of the current system. They have adapted to the NAFTA rules over the last 30-plus years. Losing that trade agreement would devastate many companies currently engaged in the north-south supply chain. The impact on Mexico would be severe guaranteeing even greater pressure on the southern border. Contrary to the shrill voices that are attacking illegal immigration, the majority of those seeking to cross the border into the U.S. are not Mexican. The migrants today are generally from Central America—fleeing everything from drug violence to extreme poverty. The flow from Mexico has been much reduced as the Mexican economy has grown and provided opportunity to its own citizens. A collapse of NAFTA will hurt the Mexican economy and stimulate even more illegal migration into the U.S.

By 2019, there may well be new governments in both the U.S. and Mexico. The polls in Mexico show that Andrés Manuel López Obrador (AMLO) has a commanding lead over the second place candidate—Ricardo Anaya. AMLO, as he is commonly known, has been a perennial contender for the position but has always lost despite having early support. He has been seen as the "protest" candidate that people back at the beginning, but in the end the Mexican voter opts for the practical candidate. This time, AMLO has taken inspiration from Brazil's "Lula" and has campaigned as less of a leftist. Unless something changes dramatically, he will be the next president of Mexico. He is currently no friend to the Trump administration. It has been the steady stream of invective and insults from Trump that has galvanized support for AMLO, the former mayor of Mexico City. It will be nearly impossible for him to adopt anything less than a hostile stance towards the U.S.

At the same time, it is likely the U.S. Congress will shift in the next election. It is not clear just how much, but it is not out of the realm of possibility that Republicans lose control of either the House or Senate, or perhaps both. Given the current polls, it is more likely the GOP hangs on, but with much-reduced majorities. There will be an even bigger need to find ways to work with Democrats. There are those in the Democratic camp even more hostile to NAFTA than some Republicans as their constituencies are heavily unionized and essentially anti-trade.

Analysis: For the majority of U.S. manufacturers and fabricators, the NAFTA pact is of far more importance than most other trade agreements. The two largest trading partners for the U.S. have long been Mexico and Canada. The crux of the issue has been dealing with the deficit between the U.S. and Mexico. Not much progress had been made, but the China deal may open some doors. The focus in the China deal has been getting them to buy more from the U.S. as opposed to limiting the amount of goods they sell to the U.S. This could conceivably be a model for the NAFTA deal down the line. (This is a story we ran on May 18, but it seemed relevant to revisit the issue with some additional points.)

Major Divide Between White House and CBO

One can call this the battle of the estimates. Nobody can really say with complete certainty what the economy will be doing next year much less several years down the road. Forecasting is an inexact science under the best of conditions. The further out one is expected to predict, the harder it becomes. It would be tempting to throw up one's hands in despair and assert the task is just too hard, but that is not what is expected from the economic analyst. Business and the consumers need to be able to plan and want something they can reference. Government needs these assessments if they are going to evaluate the policy decisions they make every day. At the moment, one of the areas demanding the most focus is the potential size of the federal debt and deficit. Not that many years ago, that debt and deficit burden was a potent political motivator and essentially gave rise to political movement called the Tea Party. In the first few elections after its creation, the Tea Party helped push a number of people into Congress as well as many state legislatures and local governments. It looked possible that debt reduction would become a high priority. Much has changed since then and the Tea Party supporters have tended to fade and become distracted by other issues. There are still a few left, but many of them are now only interested in cutting government spending and have no commitment to the revenue side of the equation.

Analysis: These issues have risen to the forefront again as the analysts try to forecast the impact of the big tax cut effort that marked the first of the year. There was trepidation about this cut from the very beginning simply due to the timing. It is not at all unusual for the government to cut taxes sharply during a recessionary period. That is what one would expect—along with sharply higher levels of spending on efforts that will create jobs to soak up those who get laid off during a downturn. For a variety of reasons, the U.S. was slow to start this kind of stimulation and missed many opportunities through the worst years of the recession. By taking this step so late in the process, it can be argued the move set up as many problems as it might have solved. The U.S. economy was already growing at more than a 3% pace by the time of the cuts. Since that money has entered the system, there has been real inflation pressure mounting by the day. Would this inflation have manifested anyway? Most likely, but many argue the pace would have been a bit slower. As it now stands, the Federal Reserve will be actively trying to slow the economy in the second half of the year. But that is not the issue that concerns the economist most. The tax cut created a bigger debt and deficit problem than had existed prior. How bad is the problem now? Here is where the analysis diverges.

According to the estimates that come from the White House, the deficit will be reduced and so will the total debt because there will be substantial growth of the economy that generates adequate revenue even with the cuts that have been made to corporate and individual taxes. The assertion is that the U.S. economy will sustain 3% to 3.5% growth per year over the next decade. This is one of the most ambitious estimates of U.S. growth out there. Most assert the U.S. economy will grow about as fast as it has for the last decade or two—somewhere between 2.5% and 2.8%. It is worth noting that after those two quarters of 3% growth last year, the GDP fell back to that norm in Q4 of 2017 and even lower in Q1 of 2018.

The Congressional Budget Office holds that the government will take in $1.9 trillion less in revenue and will spend $300 billion more than the current White House estimate. Deficits would total $9.5 trillion over the next 10 years. This is $2.3 trillion more than the White House assumes. The U.S. debt is already more than 100% of the national GDP, and it will grow as well. The most immediate impact from this debt is that the U.S. will have to keep borrowing to pay its bills. Debt service is already costing the federal budget over $260 billion a year. With the expected advance of inflation and higher borrowing costs, the U.S. will soon see more than $300 billion coming right off the top of annual budgets.

The differences between the White House assumptions and those from the CBO rest on expectations. The White House assumes that massive budget cuts can be made in Congress that will affect programs like Social Security, Medicare and Medicaid. It also assumes that growth will stay above 3%. The CBO doubts the ability to make these cuts and doesn't see that kind of growth. In truth, either analysis can be wrong. So, the real question is which assumption carries the least risk for the health of the economy?

What Happened to the Summer Worker?

This is shaping up to be a very bad year for the small business community that counts on the summer months to make money. These companies desperately need the summer employees that allow them to handle the additional business. The tourism business is perhaps the most dependent, but right behind it is the lawn care sector and restaurants. In the past, these workers have come from three sources, and all three seem to have dried up.

Analysis: The largest cohort was students from high school and college that needed employment between terms. This group is almost 60% smaller than in the past as students go to school in the summer or simply choose not to work at all. It has not helped that school sessions have lasted longer and start earlier. The second source has been migrant labor. It is now far harder to get permission to work in the U.S. That has had a profound impact on available labor. The farm sector has been in crisis mode for months. The only cohort that has been holding steady and perhaps expanding has been older workers who have retired, but want some new opportunities. The problem is that they are limited in terms of what work they can do. You will not see many 70-year-old people mowing lawns or harvesting crops. There are even issues as far as the number of hours they can be expected to work.


One of my very closest friends has elected to follow his dream and head off to the warmer climes of Palm Springs. He has been talking about this for some time. I knew he would eventually make the move, but I pretended that somehow the lure of Kansas City would keep him in place. It is not like I will never have a chance to have coffee with him again, but there is a pang nonetheless. Over the years, many good friends have changed their lives in significant ways and altered the relationship I had with them. It has always been bittersweet—happiness that they are doing what they wanted to do, but sadness that I would not see them as much as I once did. Many are ones I worked with for years when speaking to their groups. I still miss one of those special people from the Fabricators and Manufacturers, but am also thrilled that she retired to Florida after a lifetime in the snows of Chicago. She even managed a recent trip to Ireland. She became one of my very closest friends over the years and in many ways launched my speaking career. I owe her a great deal. Then there is another one from the Kentucky Society of CPAs. She was a delight to work with and also became a good friend.

Life is simply like that. It changes. I remember many people I was very close to at one time. College buddies, work partners, neighbors, people with whom I shared interests. I still stay in touch with some but sadly not all. It is not the same once lives diverge and change can be good. These friends are still friends and our paths still cross. I will meet new people as well.

As I bid a "see you later" and promise to look him up when next I am in Palm Springs, I am reminded that friendship is precious and should never be taken for granted. It reminds me to take time for these friends as one never knows what tomorrow might bring. I am confident that we will remain connected one way or the other. There are others that I work just as hard to maintain relationships with and it is certainly worth the effort. 

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