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Strategic Global Intelligence Brief for September 17, 2018

Short Items of Interest—U.S. Economy

So Much for the Negotiations
In theory, the talks had started back up and there had been murmurs from both Washington and Beijing that something might develop to end the trade war. Now, there is the latest onslaught of tweeted threats and vows to extend the tariff attack against China and the swift response from China that promises retaliation in kind. There are two ways to look at this. The first is to take this all on face value and assume the two states are really committed to battling each other in the global market. Frankly—even with all the thundering, these tariffs only affect about 5% of the U.S. GDP and maybe 8% of the Chinese GDP, so they can both play hardball. The other interpretation is that this is so much bombast for the domestic audience before a deal is struck and both sides can claim victory.

Consumer Confidence Rises
For what it is worth, the consumer is asserting a more upbeat attitude than previously as they are expecting conditions to get better rather than worse. There is generally confidence in the rate of joblessness and there does not seem to be much worry about issues like inflation or the impact of the trade wars. There is an important caveat to consider, however. Consumers in the U.S. are notoriously fickle and changeable and have been known to reverse their positions of confidence based on the price of gasoline at the pump. In other words, it would likely be a mistake to take any of this stated confidence to the bank.

Mary Daly to Head San Francisco Fed
Mary Daly is currently the head of research for the bank and is one of the nation's leading labor economists with strong interests in wage dynamics and income inequality. She replaces John Williams who was appointed to replace Bill Dudley at the New York Fed. The San Francisco Fed is by far the largest of the Fed districts as it covers nearly a third of the western U.S. She will likely accelerate the kind of research the bank was engaged in. That focus will be on wages and the changes that have been taking place over the last decade or so.

Short Items of Interest—Global Economy

Argentina to Impose Austerity Budget
The Macri government has announced it will be imposing a strict austerity budget in order to rebuild support for the peso and reassure investors that the country can get its economy back on track. It appears he will get support from most of the legislature—even some of the moderates in the opposition. There will be protests and strikes by the left, but the reality is that Argentina needs foreign backing from not only the International Monetary Fund (IMF) but also the global investment community. It has to bring the budget under control. This bloated budget is yet another legacy of the Fernandez regime which consistently tried to buy political favor with handouts the government simply could not afford.

Trump Threats Affect Commodity Stocks
The latest round of trade threats have caused the commodity market to shudder; shares in these companies have been falling fast. The logic holds that the Chinese economy will slow as a result of the Trump attack. This will affect the demand for commodities currently sold into China from many of the emerging market states as well as developed economies like Australia. The upshot is that most of the world is affected by the trade threat—not just China and the U.S.

Comments From Rana Foroohar
Rana Foroohar is best known for her role as global economic analyst for CNN and her role with the Financial Times. She has been an economic journalist her whole career and recently visited Kansas City for some conversations with the Fed and other luminaries. She has a background in the Midwest as she grew up in Indiana. While in KC, she observed that many economic development discussions are now focused on promoting the small entrepreneur and not the large company. She finds this to be more supportive of overall economic efforts.

The View From China
There was a very interesting piece in the latest issue of the Financial Times by Zhou Bo—a fellow at the PLA's Academy of Military Science. This very short essay outlines the ambitions China now has. It is neither overly aggressive nor bombastic as many of these statements have been in the past. This is not hyperbole, but an interpretation of where China now sees itself in the world. Some of these assertions may be a little premature, but none of them are unrealistic. Given the high-profile presence of this essay, it is quite obviously a state-approved statement of intent and belief. It is quite enough to give everyone some pause regarding where China plans to be.

Analysis: Several parts of the statement stand out as far as China's economic role is concerned. "The road to prosperity no longer runs only through liberal democracy." This is as direct a challenge to the traditional order as has been seen in a long while. When the western states began to engage with China and started to welcome this nation into the global fold, there was an assumption that such a move would serve to transition the country into a system more like the rest of the developed world. It was assumed that democracy and capitalism were inextricably linked and the more the Chinese experienced the growth of a capitalist economy, the more democratic it would become. This has not proven to be the case. In fact, it seems just the opposite has taken place. It seems that autocracy works very well with modern capitalism. As it has become possible for the Chinese population to become wealthier, they have shown less interest in political change. At least it is the case for those who are seeing that economic growth. The restive parts of China are generally the poorer parts that have missed out on the development that has taken place elsewhere.

There is not much left of what would have been seen as traditional communism in China these days. Gone are the notions of enforced equality and the "from each according to their ability, to each according to their needs" mantra. It has been replaced by Deng Xiaoping's "To Get Rich Is Glorious." What China now resembles is the mercantilist economy of the last century—an autocratic government that thoroughly mixes political and economic power to create a society oriented towards protectionism and nationalism. The many objections thrown at China by the western states are rooted in a conflict between the free market liberalism practiced by the western states and the system in China—objections to their currency manipulation, protection of key national business interests, control of the central bank, limits on foreign engagement and development for the national interest regardless of local concerns.

Another statement by the author is telling. "What is different, however, is how interdependent the world is today. This is why U.S. President Donald Trump's determination to wage a global trade war, in particular against China, is misguided. Threatened U.S. tariffs on $200bn of Chinese exports would affect some American imports. In addition, these exports amount to less than 10% of Chinese exports. Nevertheless, Beijing would not hesitate to retaliate. When the dust settles, the U.S. will not emerge unscathed." This is a clear statement suggesting that China has no intention of backing down. It knows it can damage the U.S. more than the U.S. can damage China.

The Global Crisis of Food
The production and distribution of food has been taking center stage as far as the world's problems are concerned. The statistics are getting ever more pointed. Food production uses 75% of the world's fresh water; there is a developing crisis as far as access to that water. Drought conditions are spreading fast, while there are no new sources of water appearing. Over 50% of all arable land is taken up by food production. Agriculture accounts for 25% of the greenhouse gas that fuels climate change (more than all the vehicles in use on the planet). There is enough food produced to feed the global population twice, but the challenge is getting that food to those who need it as famine and malnutrition affect 23% of the global population.

Analysis: On top of all this, the rates of obesity have skyrocketed—not just in the developed nations. Obesity is becoming a major health issue in Africa as the diets of the population change to adapt to the emergence of western-style fast food. The nutritional value of food has deteriorated and has been replaced by empty calories and fat. The upshot is a colossal waste of resources that should be employed to nourish people and maintain health. The consumer is at least as much to blame as anyone in this process as it is their demand that causes the producers to offer what they do. The shift away from traditional and balanced diets has been disastrous in every nation and has created a massive public health crisis.

Are Natural Disasters Good or Bad for the Economy?
Each time the U.S. is hit by some big natural disaster such as a hurricane, wildfire or volcano, there is an immediate outcry regarding the costs of that disaster. It's not only in terms of human life, but also about monetary damages. Part of the reason there is so much attention paid to the money issue is that the media quickly runs out of material to talk about. What does one say about a storm that is moving at less than five miles per hour and is expected to linger in an area for at least a week? There are only so many ways reports can be made about wind damage and loads of rain. The search is on for more impact stories that go beyond details of people's plight. Nearly always there will be an assessment of the damage and how much it will cost to recover. It will indeed be very expensive for those who have been caught in the path of a hurricane, wildfire or other disaster, but the impact on the country as a whole is minor—rarely making even the smallest dent in the national GDP or even the GDP in a given region.

Analysis: At this point, the cost estimates are just starting to come in. They have been ranging from between $110 billion to perhaps $140 billion. To put this in context, Hurricane Katrina is still the most expensive storm the country has faced with a cost of over $161 billion. Right up there have been Hurricane Sandy at $70 billion, Hurricane Maria at $90 billion and Hurricane Harvey at $125 billion. Each of these storms was also responsible for lost output: $30 billion for Katrina and $30 billion for Maria. This is indeed a lot of money, but again, context is important. These are costs that have been absorbed by a GDP that is close to $20 trillion. The budget for the U.S. military in 2016 was $585 billion; slightly more than the combined costs of Florence, Katrina, Harvey, Maria and Sandy. The total cost of all these storms was just a little more than the total GDP of Belgium. In short, the impact of these storms and other disasters are serious, but more for the local community than the country as a whole.

The bigger issue is how well a given community recovers. Here, the experience is vastly different from one storm to another. In recent years, the recovery from Harvey has been exceedingly swift with the Houston area back to near full productivity within a few weeks. The recovery from Katrina took a very long time and, in many respects, New Orleans is still trying to rebuild. Puerto Rico may be years recovering from Maria, which will leave the island very vulnerable to the next storm. Much of the rebound depends on the economic strength that existed in a given area prior to the disaster. It is no shock that richer communities come back faster than poorer ones.

The disasters will likely cause more property damage in richer communities, but the poorer communities will likely suffer more deaths and personal loss. The strength of the storm is still the most important factor, but the amount of assets at risk make a huge difference. Hurricane Harvey was among the most expensive in recent memory due to the damage sustained by the oil sector as well as shipping interests. Maria was not nearly as costly in terms of dollars at risk, but it cost over 3,000 lives. The wealthier communities have more options during a disaster. This allows that population to escape. The mandatory evacuation orders are often ignored by the poor, but not because they do not understand the risks—they have nowhere to go and no way to get there. They have no resources after the storm either. This is often when the death toll increases.

In terms of economic impact, it therefore depends on several factors. Does the storm impact a wealthier area? Does the population have the ability to flee the storm? Is there a desire to rebuild and will there be the money and desire to do so? The ultimate impact of the disaster is noted once the process of recovery starts. The places that rebuild quickly will stimulate the local economy in both the long term and short term. The money will be spent quickly to recover and, in the process, there will be new state-of-the-art rebuilding replacing the older structures and machinery that was affected by the storm.

Industrial Production Rises
The industrial production numbers looked pretty good this month. Most of the credit goes to the utilities and to automotive production. The former is not a big shock given the summer temperatures this year, but the latter was not as expected. For the last several months, there has been a consistent set of expectations as far as automotive was concerned. The narrative was that mounting concerns about the economy would limit the demand for cars and consumers would continue to hang on to the vehicles they have (the average age of the U.S. fleet is now 11.5 years—a record). It hasn't turned out that way. The demand for vehicles is up and getting stronger. The demand is mostly for the SUV and truck. That makes automakers even happier.

Analysis: The rise was not extreme—a gain of 0.4%, but that is better than the 0.3% that had been predicted. The area that did not grow as much as had been expected was the oil and gas sector, but most analysts expect there to be a rebound in this category before too long. Overall, factory growth was anemic without the car parts contribution, but that may start to reverse towards the end of the year as there will be more opportunities for the sales of aircraft as the late year air shows take place. The aerospace sector is somewhat unpredictable and highly variable. It can throw off industrial numbers from one month to the next. This is the time of year that much of the factory activity is pointed at the retail community and not as much towards heavy manufacturing. Thus far, there does not seem to be a strong reaction to the threats of high tariffs and trade wars. The sense is that there has been more bark than bite and there is faith that deals will be developed.

Eating
I am not really turning into a food snob or fanatic, but events of the last year have changed my outlook pretty dramatically. After researching the article on global food, I have to say that I am more attuned than ever to what goes on with our system of feeding the population. I was definitely a person with a very strong sweet tooth and never met a pastry I didn't love. I was also pretty devoted to the wonders of a Diet Dr. Pepper and eschewed water under all but the most dire of circumstances. I parlayed these preferences into being around 50 pounds overweight and becoming a type 2 diabetic with an A1C of between 9 and 12. Not good.

Then there was the cancer scare and radiation to my throat. Suddenly, I can't taste much of anything and sweet things are downright revolting. I could no longer handle carbonation and my throat needed as much water as I could dump down it. I have not had a soda for almost 10 months and have lost all desire for one. The only things I can almost taste are vegetables and salads. They have become a staple. The whole process dropped my weight from around 240 to 190. I am still in that range (but have been slowly regaining some lost muscle). My last A1C was 4.5. Technically I am no longer diabetic (although I still have a weaker than normal pancreas). All of this is clearly TMI!

My point is that I actually feel better than I did before—even with the weakness from treatment. The healthier eating and the water consumption are having the promised beneficial impacts and now I kick myself for not getting to this place a lot sooner than this and without the drama!

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