Monday, August 29, 2016

Strategic Global Intelligence Brief for August 29, 2016


Short Items of Interest—U.S. Economy

Conflicting Goals in Construction
Throughout the country, there have been various attempts to boost the construction of housing which would be accessible to the lower income populations. There is not a city in the U.S. that is not facing this issue. It has contributed to a whole host of ancillary problems that range from homelessness to crime. The solution seemed to be finding a way to expedite the development of this housing by exempting the developers from some of the restrictions in place. This has been fought by the construction unions and the other developers as it means that lower wages will be in place and that certain developers will get breaks that others get. The fixing of one problem makes another one worse.

Personal Consumption Expenditures Price Index
This data will be released today and the Fed will be watching it very carefully. This is the data the Fed prefers as far as gauging the rise of inflation and most expect the numbers to show that inflation remains about the same as it has been—a factor that will play into rate decisions. Unless and until that number starts to come back up, the Fed will assume there is no real pressure coming from inflation. It is expected that the increase will be less than 0.1%, anemic in the extreme.

Critical Jobs Report This Week
The data will not be released until Friday, but this will be an important week as this will be the last jobs report prior to the Fed meeting of the Open Market Committee. If there is something in the jobs data that pushes them one way or the other, it will be on display this Friday. Right now, the expectation is for a gain of 180,000 jobs—not spectacular but respectable. A number much lower than this will mean the Fed is unlikely to raise rates. One that is higher almost guarantees they will hike.

Short Items of Interest—Global Economy

The Case against a President
Brazil is in the final stages of its impeachment agony. It is clear that Dilma Rousseff is going, but the fact that she has fought this day for almost a year has all but torn the country in half. It has reopened the debate over what form of government the country should have. In many respects, she has met the same fate as David Cameron as both lost the support of their party and government. However, in the U.K., he was swiftly replaced by Theresa May and there was government continuity. Brazil has had no real leader for almost a year and may not have one that can command the economy for a year more.

Decline in Unemployment?
Last year at this time, the eurozone unemployment levels were at 11%. Since then, there has been some improvement—10.1% in June. The latest numbers could show that joblessness is now less than 10% for the first time in over six years. Granted this is still far too high. There has been a significant issue of people flooding out of nations like Greece and Spain and Italy seeking a job somewhere else in the world, but still this is progress in spite of the very slow economic growth that has been registered in the region.

Rajoy Survives in Spain Again
The long awaited deal between the Popular Party and Ciudadanos has been reached despite severe opposition from within both parties. The demand had been for Rajoy to resign, but that is not going to happen. Instead there will be Ciudadanos members in the Cabinet and attention paid to their issues. The only alternative to this would have been a third election in less than a year. The latest polls showed that Rajoy would once again win the most votes, but not enough to hold Parliament. The big change is the news that Ciudadanos would lose support and have less leverage than they do now. For them, it was a case of now or never. With that situation in mind, they seem to have cut the best deal they could and once again Mariano Rajoy has survived to fight on.

No Consensus at the Fed
In truth, there rarely is complete consensus on policy as the various members of the Federal Open Market Committee (FOMC) combined with the non-voting members among the 12 district heads are expected to be of various opinions and are supposed to express differing views according to their “constituents.” There are members of the Board of Governors that are expected to express the needs of big banks and small banks, regulatory officials and the global community. Also, each of the 12 regional heads pay attention to what is going on in their region (four of these voting members of the FOMC on a rotating basis). Given that there is such diversity, it is somewhat surprising the Fed is as consensus-based as it is. There are nearly always opposition opinions expressed at every formal meeting and there are frequent instances of opposition votes on policy.

Analysis: At the moment, there is a considerable divide between Fed members on whether to hike interest rates despite the comments that have been made by Chairman Janet Yellen. Her latest comments at the Jackson Hole meeting suggest that she is ready to pull the trigger as soon as the next meeting in September and the comments by Vice Chair Stanley Fischer suggest that there could be another hike in December. At the same time, there have been comments by Atlanta Fed President Dennis Lockhart and St. Louis Fed President James Bullard who assert there is no certainty to a rate hike in September, much less two for this year. These are both people who have been labeled moderates within the context of the Fed—neither consistently hawks nor doves.

Why has it been so hard for the Fed to make up its mind on rates? For the past two or three years, there have been assertions that a hike is imminent and then the proposed hike is scrapped. There are the obvious reasons that have been cited each time the Fed has backed off—the rate of job growth has been too slow, there is no real inflation threat to react to, there is too much global turmoil and so on. Is there a bigger issue that has stymied central bank action—not just in the U.S. but globally?

If one looks at the comments and speeches just given at the Jackson Hole conclave, it would appear that there are. Most of those in the community who commented made the same point over and over again. In simplest terms, it is the argument these bankers have been making for several years now. It is really a three-part assertion. Number one is that a central bank was created to handle inflation threats and that remains the only thing a central bank can really do on its own and even this is something that could be undone by contradictory fiscal policy. Number two is that central banks play a support role when it comes to economic growth, lowered rates and easier access to money only works if there are willing lenders and borrowers. Number three is the crucial point. The fiscal side of the partnership has been missing for the last few years. There has been no stimulation coming from Congress—at least not on the scale needed.

It is understandable that Congress has been reticent to spend money aggressively—there has been no surplus to work with and there is already a huge debt load that makes borrowing awkward at best and dangerous if taken too far. That there is a good reason to be cautious doesn’t change the fact that this caution is making it hard to shake off the recession.

Another Recession on the Horizon?
I got the question again the other day. Are we headed for the BIG ONE? Will this be the recession that will be twice—no five times worse—than the Great Depression? Will there be hundreds of millions of people jobless, a collapse of the financial system, riots and civil unrest? Or some variation on this theme of total Armageddon? It seems to be a constant in some circles—the endless forecasts of doom and despair. It is not that I dismiss the chances of a downturn and even a serious recession. We live in an interconnected and fragile world prone to natural disaster and political chaos. Then, there is the fact we are all subject to very poor political leadership and myopic policies that can wreak havoc. In all likelihood, we will experience recessionary conditions in the future—over and over again. This has been true for the last few centuries and will be true in the future as well. The point is that we have survived these and there have been many who have prospered during these down times as well.

Analysis: There are two factors to bear in mind. The first is that serious recessions generally follow periods of boom. To get a big crash one needs to have scaled some heights first. The recession that felled the global economy in 2008-2009 followed an extraordinary boom during which almost everything seemed to be gaining in value—the markets surged to new highs, housing prices were soaring, unemployment was at rock bottom and the nuttiest plans found instant venture backing. The return to levels closer to normal felt like a massive decline. We have not had that boom—very little of that recovery that often follows a recession. This is what prompted the term—secular stagnation. We are not facing a big recession because we have never really left the last one.

The second factor to be aware of is that there has been very low inflation throughout the world and therefore no demand on the central banks to fight it. Remember the recession of the early 1980s? That was the downturn brought to you by Paul Volcker. In order to deal with high and rising inflation, he hiked interest rates drastically and slowed the economy to the point of recession. The threat was averted to be sure, but it came at a price. Right now, the central banks are not in a position to accelerate any sort of economic decline.

This certainly doesn’t mean that a downturn or even a recession is out of the question, but the more likely scenario is an extension of the slow growth and mediocrity that has been in place for the bulk of this decade. In some ways, this sclerotic growth is worse than a full-on recession as there is no possibility of a big bounce back.

Trade Fails
The focus for the anti-trade forces over the last year or so has been the Trans-Pacific Partnership—the pact that was supposed to unite the Pacific Rim nations into some sort of trading platform that deliberately excluded the Chinese. It was as much geostrategic as it was economic—an attempt by the U.S. to weaken some of that Chinese influence over the nations of Asia. It was the centerpiece of the U.S. “pivot to Asia,” but alongside this trade pact was another one that seemed to attract less attention, but by all accounts is just as dead.

The purpose of the Transatlantic Trade and Investment Partnership (TTIP) was to cement the existing relations between the U.S. and Europe while addressing the issue that affected these deals. The opposition to the TTIP has come from Europe as much or more as from the U.S. as there has been intense debate over access to one another’s markets. The latest comments from the German economy minister sum it up “TTIP has failed because we Europeans did not want to subject ourselves to American demands.”

Analysis: Trade has become a dirty word throughout the developed world of late. The shift towards populism and isolationism has not been just the province of the U.S., the concepts are strong in Europe as well. The perception is that too much is being given away to the other side and there is close attention paid to the parts of a given economy that would be at risk from expanded trade. The U.S.-Europe trade relationship is far different from that with Asia. This is not a situation where U.S. companies are heading to Europe in search of cheap labor or inexpensive production platforms. It is true that some U.S. companies are shifting to European countries as a means by which to lower their tax obligations in the U.S. This is referred to as inversion and has been intensely controversial in the U.S., but it rarely means that jobs are being lost to the Europeans—it is strictly a tax play.

Trade between the U.S. and Europe is trading like for like. The two partners produce much the same thing in terms of manufactured goods as well as services and technology. The U.S. does sell a good bit of food to Europe as well as some other commodities, but the bulk of the trade is specific to the needs of the buyer. A consumer can buy a U.S. car or a German one—it is their preference. A manufacturer may buy a Trumpf machine or a Mazak or a GE—their choice. The pact was supposed to make it easier for the U.S. and Europe to trade services. It was supposed to ease the trade in commodities, but these were precisely the areas of most apprehension as far as Europe was concerned.

They do want the U.S. farm community to have any more access to the European market than they already have despite the fact Europe struggles to produce the agricultural volume it requires. The farms in Europe are highly protected as much for political and cultural reasons as for economic ones. The Europeans are also worried about the encroachment of U.S. operations in big service sectors such as law, banking, marketing and the like.

Refugee Issue Worsens in Europe
The front pages have abandoned the refugee story in Europe—old news. The problem is that nothing has changed for the better and may have worsened in the last few months. The issue has been driving politics and this tension is escalating to the point that it may not be controllable much longer. The Merkel government has started to fray over her policies. It is clear that the refugee issue will be at the top of the list of reasons that politicians of all stripes will be taking a shot at her in the next election. Her poll numbers have rarely been this low.

In Greece and Italy, the local populations have been overwhelmed by the influx and simply can’t handle the crush. These are populations that have struggles of their own and believe that they are coming second in their own countries. The migrants are also growing frustrated with their situation and many are acting more hostile towards their “hosts.” There are hundreds of thousands of migrants and refugees and within that group are those who have ill-intentions

Analysis: The long-term solution is peace and prosperity in the lands they have been fleeing, but that seems as remote as ever. It is clear that Bashar al-Assad has the backing of both Russia and Iran and is going nowhere. The terror groups have lost territory, but are by no means defeated and pose a grave threat to anyone staying behind. Even if the war ended today, the destruction of Syria is near total. It would take tens of billions of dollars to even start recovery. These refugees are in permanent limbo—can’t go home and can’t find a way to become part of their new world.

How Does One Signal One’s Importance These Days?
Once upon a time it was easier. There were all manner of behaviors that allowed a person to declare how important and vital they were to those around them—those who were somehow unfamiliar with that greatness. There was the urgent conversation on the cell phone in an otherwise tranquil setting. Surely one must be the most treasured of officers to be taking a call on the beach or in an exclusive restaurant. Today, that behavior indicates that you are the poor sap on the bottom of the totem pole that has to respond to the boss no matter where you are. The really powerful are the ones who leave the phone off as they know that nothing is going to happen without them anyway. Unfortunately, it is hard to let people know you are ignoring phone calls—you may just not be getting any as nobody much cares what you think.

Clothes used to do the trick—a well-tailored suit or other accoutrement. That still works in the business setting, but what about those more casual moments. The days of careful wardrobe selection for the weekend is gone and replaced by clothes that could well have been obtained at a thrift store. The games of the elite have been offered to the great unwashed and one never knows who will be encountered on the links. First class in most airplanes is full of road warriors who got an upgrade and not by the wealthy who paid to sit there so that they could get first crack at the complimentary peanuts.

Most of the events that allow ostentatious dress and consumption feature others of one’s ilk—no opportunity to evoke envy and jealousy in those less fortunate—just a mad scramble to ensure that one’s brethren know you belong. Life is hard for those who lack opportunities to impress the plebeians.