Possible Tripwires for the Global Economy: 2005-06 Robert F. Wescott, Ph.D. ISEO Conference Bergamo 4 July 2005.

Possible Tripwires for the Global Possible Tripwires for the Global Economy: 2005-06Economy: 2005-06

Robert F. Wescott, Ph.D.

ISEO Conference

Bergamo

4 July 2005

Energy, Deficits, and Dollar Worry Energy, Deficits, and Dollar Worry Financial MarketsFinancial Markets

0%

10%

20%

30%

40%

50%

60%

70%

80%

Source: UBS Index of Investor Optimism, May 2005

Factors “Hurting” Investment Climate “A Lot”Energy Prices

OutsourcingBudget Deficits Bad

Accounting Illegal Immigration

Falling Dollar

Iraq

Threat of Terrorism

Possible Global TripwiresPossible Global Tripwires Removal of policy support: greater than realized? Oil prices: more slowing than expected? Can U.S. consumers keep driving the world economy? Widening shift from labor to capital in industrial

countries hurting growth? Fracturing of international relations: Is Osama bin

Laden winning? Shoehorning China into the world economy and

China’s international relations George W. Bush: leadership challenges?

2005: Economic Policy Floodgates 2005: Economic Policy Floodgates ClosingClosing

-5

-4

-3

-2

-1

0

1

2

-5 -4 -3 -2 -1 0 1 2

2000-2004

2004-2005

US

Canada

Germany

US

Italy

Euro AreaGermany

FranceUK

Euro Area

FranceItaly

JapanUK

Japan

Canada

Tighter Fiscal PolicyEasier Fiscal Policy

% change in real six month LIBOR

Change in structural fiscal balance as a % of GDP

China

China

Tighter Monetary Policy

Easier Monetary Policy

Source: IMF WEO, Author’s calculations for China

Oil: A Growing Burden on Oil: A Growing Burden on the World Economythe World Economy

World Oil Expenditure as Percent of World GDP

0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

6.0%

7.0%

8.0%

Global Recession Trigger Level?

Source: EIA

$20 per Barrel Higher Oil Prices Will Lower $20 per Barrel Higher Oil Prices Will Lower Economic Growth, Boost Inflation, and Economic Growth, Boost Inflation, and

Raise the Unemployment RateRaise the Unemployment Rate

-1.0%

-0.5%

0.0%

0.5%

1.0%

1.5%

2.0%

Real GDPGrowth

CPI Inflation Core CPIInflation

UnemploymentRate

1st Year 2nd Year

Source: Average of model results from Macroeconomic Advisers, Global Insight, and the International Monetary Fund

Out of Control?Out of Control?The U.S. Trade DeficitThe U.S. Trade Deficit

-700

-600

-500

-400

-300

-200

-100

0

100

200

Bill

ion

s o

f U

S d

olla

rs

United States

Italy

France

Japan

Germany

Source: BEA, OECD

First Main Cause: American First Main Cause: American Households Save Almost NothingHouseholds Save Almost Nothing

Household Savings Rates

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

FranceGermany

United States

Source: OECD

Second Main Cause: Second Main Cause: U.S. Budget DeficitsU.S. Budget Deficits

U.S. Government Budget Deficit as a Percentage of GDP

-7

-6

-5

-4

-3

-2

-1

0

1

2

3

1950

1952

1954

1956

1958

1960

1962

1964

1966

1968

1970

1972

1974

1976

1978

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

Source: BEA

Foreign Official Purchases of U.S. Debt Foreign Official Purchases of U.S. Debt Have Declined for More than a YearHave Declined for More than a Year

Net Foreign Purchases of U.S. Treasury Bonds and Notes(6 mo. MA)

-10,000

-5,000

0

5,000

10,000

15,000

20,000

25,000

30,000

mill

ions

of d

olla

rs

Foreign Private

Foreign Official

Source: U.S. Treasury Department

U.S. Debt, Total and Total U.S. Debt, Total and Total Held by Private SectorHeld by Private Sector

1,000,000

1,500,000

2,000,000

2,500,000

3,000,000

3,500,000

4,000,000

4,500,000

1985Mar.

1986Mar.

1987Mar.

1988Mar.

1989Mar

1990Mar

1991Mar

1992Mar

1993Mar

1994Mar

1995Mar.

1996Mar.

1997Mar.

1998Mar.

1999Mar

2000Mar

2001Mar

2002Mar

2003Mar

2004Mar

Total US Debt Held by Public

Total US Debt Held by Private Sector*

Source: U.S. Treasury, Federal Reserve

Despite Strong U.S. Investment, 20-Year Despite Strong U.S. Investment, 20-Year Trend for Large Economies is DownTrend for Large Economies is Down

Source: IMF WEO

Average Investment Share of GDP

18

19

20

21

22

23

24

25

26

Per

cent

of

GD

P

Historically, Rising Interest Rates Historically, Rising Interest Rates Add Financial PressuresAdd Financial Pressures

Monthly Fed Funds Rate

0

2

4

6

8

10

12

14

16

18

20

???

Black Monday

Continental Illinois Bank

Franklin National Bank

S&L Crisis

Penn Central Railroad

Latin American Crisis

High Tech Bubble

Mexican Crisis

Source: Federal Reserve

Financial Sectors to Watch Closely in Financial Sectors to Watch Closely in 2005-06 as Interest Rates Rise2005-06 as Interest Rates Rise

AIG

Sub-primeLoans

AirlinesU.S.

Housing

Chinese Banking

Corporate Governance Risks

Autos

Falling U.S. Real Wages for Falling U.S. Real Wages for the First Time in a Decadethe First Time in a Decade

Real Avg Hourly Earnings, % Chg. YA

-8%

-6%

-4%

-2%

0%

2%

4%

6%

Source: Bureau of Labor Statistics

Profit Share Has Jumped Profit Share Has Jumped under President Bushunder President Bush

Profits as a share of GDP

10.0%

11.0%

12.0%

13.0%

14.0%

15.0%

16.0%

17.0%

18.0%

19.0%

20.0%

197

0-I

197

2-I

197

4-I

197

6-I

197

8-I

198

0-I

198

2-I

198

4-I

198

6-I

198

8-I

199

0-I

199

2-I

199

4-I

199

6-I

199

8-I

200

0-I

200

2-I

200

4-I

Reagan fires air traffic controllers

GW Bush inaugurated

Clinton raises minimum wage

Source: BEA

The Bush Legacy: Consumer The Bush Legacy: Consumer Patterns Tilting Toward the RichPatterns Tilting Toward the Rich

How Spending Has Changed by Quintile in the Bush Administration

Source: BLS, Consumer Expenditure Survey 2003

Bottom Quintile

2nd Quintile

3rd Quintile

4th Quintile

Top Quintile

1997-2000

Recreation, cultural events

+28.6% +29.5% -1.5% -0.7% +11.0%

Boats, recreational vehicles

+85.5% -10.3% +49.4% +13.0% -32.5%

Air travel, public transportation

+35.9% +25.3% +22.9% +9.5% +5.3%

2000-2003

Recreation, cultural events

-33.8% -25.2% -2.4% +4.8% -0.7%

Boats, recreational vehicles

-55.8% +14.6% +16.2% -2.3% +49.6%

Air travel, public transportation

-27.4% -7.1% -25.0% -1.4% -3.9%

Returns to Capital Continue to Returns to Capital Continue to Increase Faster than Wages Increase Faster than Wages

0%

2%

4%

6%

8%

10%

12%

Average HourlyEarnings, Non-

Supervisory Workers

All Income Dividends Entrepreneurial Income

Percent change 2004 Q1 to 2005 Q1

Source: BEA and BLS

Income Inequality Affecting Income Inequality Affecting Consumer Spending?Consumer Spending?

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

Wal-Mart Target JC Penney's Nordstrom NeimanMarcus

Abercrombie& Fitch

AmericanEagle

Source: International Council of Shopping Centers-UBS

Same-store Sales, April 2005 vs. April 2004

Germany: A Decade without Germany: A Decade without Wage GrowthWage GrowthGerman Real Wage Growth

-2%

-1%

0%

1%

2%

3%

4%

5%

6%

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

Source: OECD, IMF WEO

German Wage Share Falling: German Wage Share Falling: A Shift from Labor to CapitalA Shift from Labor to Capital

German Wage Share of GDP

50%

51%

52%

53%

54%

55%

56%

57%

58%

59%

60%

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

Source: OECD

Down 5% points since re-unification

A Fracturing of International A Fracturing of International Relations?Relations?

Pre-9/11 (2000)

After Fall of Saddam

(2003)

Today (2005)

UK 83 70 55

France 62 43 43

Germany 78 45 41

Russia 37 36 52

Turkey 52 15 23

(Percent reporting favorable view of the United States)

Source: Pew Research Center for the People and the Press, June 2005

Do You Support the U.S.-Led Do You Support the U.S.-Led War on Terror?War on Terror?

0

10

20

30

40

50

60

70

80

U.S. U.K. France Germany Canada Spain Pakistan Turkey

(Percent responding “yes”)

Should Western Europe be more Should Western Europe be more independent from the U.S.?independent from the U.S.?

0

10

20

30

40

50

60

70

80

U.S. Spain U.K. Netherlands Germany France

(Percent saying “yes”)

Big Big differences differences

between between U.S. and U.S. and

most other most other countriescountries

Source: Pew Research Center for Public and Press, June 22, 2005

13.2

6.9

20.9

4.3

2.9

10.6

8.3

7.58.4

21.621.9

5.3 4.9

3.33.5

0

5

10

15

20

25

1994 1999 2004

pe

rce

nta

ge

U.S.

China

Japan

Germany

Italy

China’s Trend Has Been Sharply Upward (Share of world economy, PPP basis)

Source: IMF WEO

China’s Exports Are Increasing China’s Exports Are Increasing as a Share of World Tradeas a Share of World Trade

1.6%12.4%

6.9%

11.1%

5.6%

7.7%1.7%

53.0%

Others

5.2%

10.9%

5.2%

4.8%

5.9%

2.4%

9.3%56.3%

1990 2003

Source: World Bank, World Development Indicators 2005

Others

0

3

6

9

12

15

1980 1986 1992 1998 2004

Source: Angus Maddison, The World Economy: A Millennial Perspective and International Monetary Fund

0

2

4

6

8

10

1820 1845 1870

0

5

10

15

20

25

1860 1882 1913

0

2

4

6

8

10

1950 1956 1962 1968 1974

China, 1980-2005

U.K., 1820-1870 U.S., 1860-1913

Japan, 1950-1974

GDP, % of World Total, PPP BasisGDP, % of World Total, PPP Basis

0

50

100

150

200

250

300

350

1980 1986 1992 1998 2004

Sources: International Iron and Steel Institute, Japan Iron and Steel Federation, Barraclough: Steelmaking, Hogan: The Economic History of the Iron and Steel Industry in the U.S, Hudson & Sadler: The International Steel Industry

05

10152025303540

1860 1865 1870 1875 1880 1885 1890 1895 1900 1905 1910

0

20

40

60

80

100

120

140

1950 1956 1962 1968 1974

China, 1980-2005

U.S., 1860-1913 Japan, 1950-1974

Steel Production, Millions of tonsSteel Production, Millions of tons

<10% of world (1843)

36% of world (1900)

<5% of world (1950)

19% of world (1974)

<4% of world (1980)

29% of world (2005)

George Bush’s Political CapitalGeorge Bush’s Political Capital

President Bush's Job Approval Rating

40

50

60

70

80

90

100

5/23

-26/

05

3/18

-20/

05

1/3-

5/05

10/1

1-14

/04

7/30

- 8/

1/04

5/2-

4/04

2/6-

8/04

11/1

4-16

/03

8/25

-26/

03

5/30

- 6/

1/03

3/24

-25/

03

1/31

- 2/

2/03

12/9

-10/

02

10/3

-6/0

2

7/29

-31/

02

6/3-

6/02

3/22

-24/

02

1/7-

9/02

10/5

-6/0

1

7/19

-22/

01

4/20

-22/

01

September 11 Attacks

Invasion of Iraq Capture of

Saddam Hussein

Re-election and

Inauguration

Source: Gallup

Among Presidents Early in Their Among Presidents Early in Their Second Terms, Bush is Quite Second Terms, Bush is Quite

UnpopularUnpopularPresident Positive Negative Differential Date

Johnson 66% 21% +45% 24-29 June 1965

Eisenhower 64% 22% +42% 6-11 June 1957

Truman 57% 26% +31% 11-14 June 1949

Reagan 58% 32% +26% 7-10 June 1985

Clinton 55% 35% +20% 26-29 June 1997

Nixon 44% 45% -1% 22-25 June 1973

GW Bush 47% 51% -4% 16-19 June 2005

Source: Gallup Presidential Approval Ratings

Are U.S. Casualties in Iraq Are U.S. Casualties in Iraq Worth It?Worth It?

Source: Washington Post, June 8, 2005

Americans Feel the Country is Americans Feel the Country is “Losing Ground” on Most Issues“Losing Ground” on Most Issues

Losing Ground Making Progress

Budget deficit 65% 6%

Social Security’s finances 63% 6%

Health care system 62% 9%

Medicare’s finances 56% 5%

Job availability 55% 15%

Illegal immigration 52% 11%

Quality of education 50% 20%

Illegal drugs 46% 16%

Political corruption 41% 10%

Environmental pollution 37% 21%

International Terrorism 31% 36%

Source: Pew Research Center, May 19, 2005