Strategic Global Intelligence Brief for September 5, 2018
Short Items of Interest—U.S. Economy
Big Jump in Trade Deficit—Few Are Surprised
Some certainly think trade activity is simple enough to figure out, but the reality is few issues are as complicated. Through the bulk of this year, the Trump approach to dealing with trade has been to demand concessions from trading partners and to use the U.S. market as leverage. If a given nation wants to sell into the U.S., they need to make it worthwhile to the U.S. This has not worked out as well as many had hoped. The plain fact is two factors have combined to make the trade deficit as bad as it has been in three years. The consumer and the business community is flush with cash and willing to spend, while those that export to the U.S. are pushing hard because their own economy has not been performing well. Dealing with a trade deficit is tough. Often the act of lowering that deficit is inviting bigger problems than are solved.
Figuring Out Wage Rates
It has been noted more than once that there are lies, damned lies and statistics. It is unlikely that one can prove anything with simply manipulating the numbers, but the way data is constructed and interpreted can have a major impact. The standard way wage hikes are calculated shows there has been little gain over the last year—perhaps 0.1%. This number has been challenged by the White House economists who assert that important factors in compensation have not been noted. If they were, there would be a gain of 1% at the very least. The factors that some economists want included range from tax changes to the impact of policy shifts on how people are paid. The biggest single factor affecting hiring rates right now is the retirement of the Boomer generation—all 40 million plus.
Some Fed Dissent
It is probably far too late for the Fed to shift gears as far as their plans for the September meeting. However, that has not kept St. Louis Fed President James Bullard from releasing some of those details as they convinced him it would be somewhat more likely the U.S. would be exposed to bad economic issues if it shuts down the economy's growth too fast. He is now advocating the Bank wait a quarter before clamping down on growth. This is simply his opinion as he is not a voting member of the Federal Open Market Committee (FOMC).
Short Items of Interest—Global Economy
UN Struggles to Maintain Position in Central America
The governments of Guatemala and Nicaragua have effectively tossed the UN out of their nations and rejected its effort to maintain peace of any kind in these states. Both are suddenly gripped by almost full-scale civil war as the population has begun to rise up against the dictatorial rule of the Sandinista regime in Nicaragua and Jimmy Morales in Guatemala. Neither of these states has enjoyed much in the way of stability for years. In some respects, this has just been business as usual, but now there has been overt objection to the involvement of the UN. That puts both on a very perilous course should other nations elect to play a meddling role.
German Bid to Run European Commission
Manfred Weber has emerged as the front runner to be the next head of the European Commission, but his path will not be easy. He is the head of a center-right Bavarian party and has the support of Angela Merkel, but she has been forced to choose where she wants the most German influence. There is an opening to head the European Central Bank (ECB) as well, but Germany can't expect to hold both offices. It is Germany's turn to head the ECB, but the post may go to a smaller state aligned with German interests.
Another Candidate Rejected by DRC High Court
The upcoming elections in the Democratic Republic of the Congo (DRC) will not be seen as fair as the high court has been rejecting one opposition leader after another from contending. The latest rejection is that of Jean-Pierre Bemba.
Emerging Market Crisis Expands
For the majority of this year, there has been keen interest in the mood of the investor. The fact is that much in the world of investment and finance feels tenuous. The markets in the U.S. have been surging all year, but throughout this period, there has been a lot of hand wringing as far as how long it will last. The analysis is full of comments regarding the length of this boom and the fact that something will have to give at some point. Yet it keeps going. The European and Asian markets have not been quite as volatile, but they have had their boom and bust periods. One sector doing at least as well as that in the U.S. was the whole emerging market arena. It was assumed that as long as there was demand from the developed world, there would be corresponding growth in these nations as well. For the most part, this has been true. Now there seems to be a collective attitude shift with many of these emerging nations experiencing some serious challenges.
Analysis: A few weeks ago, it was just a handful of nations having serious issues and they seemed to be self-inflicted wounds. Turkey has been in crisis for months; the country has been watching the value of its currency fall through the floor. That was attributed to the incompetent financial management of the autocratic Reccip Tayyip Erdogan. Then, the mess in Argentina occurred, but at first that was attributed to the inopportune timing of an International Monetary Fund (IMF) request for funds and the history of the country as a place that repudiates its debts when the situation gets tough. It seemed at this point, there would be no real global reaction; the meltdown could be contained. This assumption has been thrown off by the activity of the last few days. Now, there seems to be an exodus from these emerging markets throughout the world.
South Africa has slipped back into recession as the second quarter numbers remained in the negative zone. The decline was not as bad as it was in the first quarter, but the hoped for bounce-back did not take place. The Mexican peso has been dropping and there are deeper concerns about the state of that economy as investors become more dubious about the future of NAFTA and what Mexico will be like under the leadership of AMLO (Andrés Manuel López Obrador). His term begins in a few weeks and there are signs of his hostility to the U.S. emerging already. Indonesia is getting hit as analysts predict a slowdown in China due to trade sanctions. This is their largest market by far. There has been negative reaction to Brazil in part due to the issues in Argentina where there is more than enough angst to justify caution. Even the oil states of the Middle East are suffering some investor issues.
Not only has there been a lack of confidence in the performance of these emerging markets, but there have been plenty of safer alternatives now that the developed world's central banks are all starting to gear up for life with a serious inflation threat. This will inevitably lead to higher rates. That is music to the ears of investors who will be looking for safer environments at some point in the not distant future.
Four Issues Blocking a Deal With Canada
The U.S. and Canada are back at work trying to cut a deal. Many still think such a deal will happen. The bigger question of how the U.S. and Canada will relate to one another after this will be harder to answer. To indicate that Canada is in a state of shock would be an understatement. It is not that the two nations have not had their issues in the past, but they were always handled with a minimum of hostility. The deals always seemed to work out effectively for most. Canada has been a stalwart when it comes to backing the U.S. diplomatically and militarily, but now this kind of cooperation may be in question.
Analysis: The four issues that matter the most include Canadian support for milk and poultry producers, the means by which disputes between trade partners would be handled, the overall issue of tariffs and what the Canadians refer to as the culture wars. The farm support issue is something the U.S. has been harping on for years, but the affected farmers in Canada are mostly in the key provinces of Ontario and Quebec and are politically risky. The dispute system now doesn't concentrate power in the U.S. courts, but the U.S. wants that changed—much to the dismay of Canada. The tariff placed on steel exported to the U.S. from Canada is a serious issue as well—not the least because Canada has been the No. 1 supplier of imported steel to the U.S. The Trump team has tried to keep the tariff plan separate from the trade talks, but Canada wants them connected. Finally, there is the fear that U.S. media will overwhelm the Canadian system. This will be a detriment to the French-speaking population of the country as well as to the "First Nation" indigenous population.
Manufacturers Shrug It All Off
There were plenty of expectations for the manufacturing sector by this time. This was to be the year that started strong and then began to fade. By the end of the year, there would be some real issues that would drag the whole of the economy down. Given the readings that just emerged from the Institute for Supply Management, it will be time to revisit the old adage that economics is the science of explaining tomorrow why the predictions made yesterday did not come true today. The latest Purchasing Managers' Index (PMI) numbers are as good as they have been since 2005—hitting 61.3 after hitting 58.2 the month before. The questions now are—what accounts for this surge in manufacturing activity and why are the headwinds not having the impact anticipated. There is also a third question and perhaps the most important one. Is this the calm before the storm? Will the predictions of a bad end to the year still come to pass?
Analysis: Of course, there is no such thing as a universal motivator for manufacturing—each and every sector responds to its own set of motivations. The energy sector will boom when the price of oil rises, but that same oil price hike will have a negative impact on the aerospace industry as it will make jet fuel costlier. That reduces the budget airlines will have to buy new planes. The data from the PMI shows a pretty wide swath of success with all the major sectors showing gains. It leads to the conclusion that something more universal is at work to bolster the economy.
The most obvious of these motivations would be the tax cuts implemented at the start of the year. Despite the criticism that asserted these cuts have been essentially "wasted" by big firms engaging in stock buybacks and investor payouts, there is ample evidence that small- and medium-sized manufacturers took full advantage of the tax break to do the investing and expanding they had been deferring. One of the indications this has been taking place was the data collected by the Fabricators and Manufacturers Association in their Forming and Fabricating Job Shop Consumption Report. The FFJSCR tracks the plans that these companies have as far as capital investment. This year there has been an acceleration of the process, suggesting many of those in the survey are speeding up their plans for growth.
Another motivator for the surge in manufacturing appears to be the desire to beat the impact of changes through a more proactive strategy. The steel and aluminum tariffs were not imposed immediately. That provided time to react. The steel and aluminum makers hiked their prices as quickly as they could, but there was still time to react. There were lots of attempts to lay in extra stock and carry out orders as quickly as possible. That same logic applied to the trade deals as there has been concern that overseas markets would be negatively affected sooner than later. This prompted many companies to accelerate deals and get as much shipped as they could so that the eventual restrictions would be of less consequence.
Does this mean the headwinds identified at the start of the year have not developed as expected? It appears these issues have developed and as expected, but the reactions to them have been different than expected. There has been inflation about as anticipated, but from the start, the expectation has been that this issue would be a bigger factor at the very end of this year and into 2019. That is still the expectation. There continues to be a labor shortage verging on a labor crisis. There are not enough skilled workers to meet even minimal demands. Now there are major shortages of management talent as well. Thus far, this remains a future issue, but sectors like manufacturing are grappling with the problem now.
The billion-dollar question is whether the future looks as good as the present or will there be a negative reaction down the road. The consensus view has been that nothing has really changed as far as the headwinds are concerned although the impact has been slowed. The No. 1 issue will continue to be inflation. All the data supports the conclusion that it is coming and will arrive sooner than some are expecting. The core rate that prompts Fed action has reached the 2% mark they have been looking for. There has been no deviation from their stated goals of hiking rates at least twice more this year and likely three more times in 2019. The fact is the era of cheap money is coming to an end. That likely slows the economy somewhat. There seems little chance for a recession in the next year, but rapid growth is not likely either.
Debate Over NLRB Appointment
The National Labor Relations Board (NLRB) oversees a host of issues that affect the unions in the U.S. Over the years, the makeup of this five-person board has been controversial and usually involves a major tug-of-war between the GOP and Democrats. The NLRB has been divided between three Republicans and two Democrats, but the term for Mark Gaston Pearce has expired. That gave Trump an opportunity to appoint his replacement, but Trump elected to re-appoint Pearce despite the objections of business.
Analysis: From the start of the Trump administration, there has been an odd set of bedfellows surrounding the White House. On the one hand, there is a distinct orientation to some within the business community, while there has also been closeness to the unions with his position on trade deals. It is clear that Trump was reacting to the demands of labor when it comes to the makeup of the NLRB, but this has put him at odds with the business people who have been deeply opposed to the positions Pearce has taken. There are no signs that Trump will change his mind on Pearce as he has some work to do to reenergize his union support. On the other hand, he may react to the attacks by union leaders by abandoning the unions altogether.
Different Talents
Every so often, I seem to forget my lifetime of experience with projects and start to convince myself I can do something that everybody knows I am incapable of doing. My wife and I started to look at the accumulated chaos in the garage and decided what we need is a garden shed. Not just any old metal building, but a really nice-looking wooden shed that will fit neatly in her gorgeous landscaping. Now starts the fantasy. I begin looking at the sheds in catalogs and online. They look doable—how hard can it be. I just need it to have windows and a cute door. It will need power and be big enough for all the junk we have. I start to visualize myself with tool belt and power tools and the creation of an architectural marvel—not the ramshackle lean-to that would be consistent with my abilities. Soon, I will enter the pragmatic phase where I remember things—like slicing my leg open trying to cut carpet or falling through the garage ceiling or discharging a nail into my leg with a nail gun (twice). This will soon give way to figuring out how to entice my stepson to come help me and then developing some dread disease like beriberi so I can let him do the whole thing. Either that or I decide to become Amish long enough to have a barn-raising.
We all have our talents, or so I am told. I am not at all sure I have any of those. My stepsons are the builders and the tinkerers, my wife has the singing voice of a songbird and the creativity of an artist in the kitchen and the garden. I am not so possessed. I never have been good at sports, can't draw, make music or dance. As near as I can tell, my talent lies in the ability to appreciate the talent in other people. That is usually enough to get me to quit trying to do things I will come to immediately regret.
