Chief Economist Scott Brown discusses current economic conditions.
Trade policy uncertainty, slower global growth, a decrease in energy exploration, and problems at Boeing had a negative impact on business fixed investment in 2019. So what’s different in 2020?
The Phase 1 trade deal was a positive in the sense that it prevented tariffs on the remaining imports from China (mostly consumer goods). However, it left in place most of the earlier tariffs (industrial inputs and intermediate products). The agreement set import goals for China (an additional
$200 billion of U.S. goods over the next two years) which appear unrealistic. The agreement includes strong enforcement mechanisms, but the U.S. response to the likely shortfall in Chinese imports of U.S. goods would come well after this year’s election. In short, while the Phase 1 agreement provides some near-term clarity, longer-term trade policy remains very much uncertain. President Trump has now turned his attention to Europe, threatening tariffs in response to France’s tax on U.S. tech giants. Trump has long threatened tariffs on European motor vehicles. These tariffs would have negative implications for the U.S. economy (think of imported car dealers, wine sellers, etc.). France backed down last week. However, the mere threat of tariffs can be disruptive.
At this point, you’re much more likely to get the regular flu than to succumb to the Wuhan coronavirus, but that’s not the point. The 1918 influenza pandemic infected half a billion people and killed 50-100 million. Pandemics are expected to be a recurring threat to the global economy, spreading more rapidly through international travel. The Severe Acute Respiratory Syndrome (SARS) pandemic of 2002-03 killed 775 people, but had a huge impact on the Southeast Asian economy. Coming just ahead of the extended Lunar New Year celebration, the timing of the Wuhan virus couldn’t be worse. Hundreds of Chinese travel during the holiday. China has restricted travel from Hunan (a city of 11 million) and four nearby towns. These travel restrictions are likely to dampen economic activity in the near term and the huge volume of travel in the rest of China could spread the virus further. Shanghai Disneyland has been closed and movie theaters are being shut down. At the time of this writing, two cases have been reported in the U.S. The U.S. has issued a travel advisory (“exercise increased caution”) for U.S. residents traveling to Wuhan.
In the latest update to its World Economic Outlook, the IMF said it expects global output to improve in 2020. However, projections were a bit lower than the ones made in October. There are signs of stabilization in the global economy and trade tensions have decreased, which could boost confidence and add to business investment. However, the Wuhan virus could spread and dampen prospects.
According to Raymond James energy analyst Pavel Molchanov: “The Wuhan virus is reducing travel in China and may have a broader dampening effect on growth in the region, but it is too early to quantify by how much. When cities are placed under quarantine, and public transit is shut down, by definition that slows economic activity and has a negative impact on energy demand, oil included. Once there is evidence that the outbreak is contained and thus the economic disruption is subsiding, sentiment on oil should improve, bringing oil prices back up. Turning to the supply side of the oil market equation, U.S. oil and gas drilling decreased in 2019. While not as severe as the 2015-16 oil crash, the latest drilling downturn has reduced business fixed investment to some extent. Oil and gas development is capital-intensive, and we expect it to stabilize in early 2020 before rebounding in the latter half of the year, but the pace of recovery will hinge on the oil price backdrop.”
In response to the grounding of the Boeing 737-MAX last March, the company reduced production in April (from 52 per month to 42). In December, it announced it would suspend production completely beginning in January. Boeing has plenty of defense-related business. However, suppliers to Boeing aren’t as lucky. The halt in production will have a broad impact on those firms in the U.S. and internationally. The halt in production is expected to have a significant impact on GDP growth in 1Q20, mostly through slower inventory growth. The company hopes that the airplane will be recertified by June, but that is likely to take more time. So, we may not see much of a rebound in the second half of the year.
Many of the factors that restrained business fixed investment will continue in 2020. However, beyond these effects, we are likely to see a slower underlying trend. The demographics of aging populations and slower labor force growth will lead to slower global growth than we have seen in the past (barring a sharp rise in productivity growth). That’s not necessarily bad, but it does imply some adjustment in expectations: more moderate consumer spending growth, more moderate growth in business fixed investment. A slower growth trend may leave us vulnerable to economic shocks. The bigger concern may be investment in human capital. We should be spending more on research and development and on education. That’s what China is doing. M20-2921989
Data Recap – The economic calendar was relatively thin, superseded by concerns about the Wuhan coronavirus. Hundreds of millions of people travel in the extended Lunar New Year holiday. Hence, the virus is likely to have a significant negative impact on Chinese growth (and may spread further).
In its World Economic Outlook (“Tentative Stabilization, Struggling Recovery?”), the IMF projects global growth of 3.3% in 2020 and 3.4% in 2021 (vs. about 2.9% in 2019). However, those projections were a bit lower than the ones made in October, and the risks, while lower, remain predominately to the downside.
The Index of Leading Economic Indicators fell 0.3% in December, down in four of the last five months (-0.7% since July). Positive contributions were led by the stock market (+0.09), credit conditions (+0.08), and consumer expectations (+0.07). Negative contributions were led by jobless claims (-0.23), ISM New Orders (-0.18), and building permits (-0.12). Seasonal adjustment difficulties related to the late Thanksgiving appeared to shift some claims into December (claims have unwound that increase in January). Still, looking beyond the quirk in jobless claims, the underlying trend has been lower (but a relatively shallow rate of decline (consistent with slower near-term growth rather than an outright recession.
The Chicago Fed National Activity Index, a composite of 85 economic indicators, fell to 0.35 in December. Monthly figures are choppy. The three- month average was -0.23, consistent with below-trend growth in the near term (a three-month average below -0.70 is consistent with an increased chance that a recession has begun).
Existing Home Sales rose 3.6%, to a 5.54 million seasonally adjusted annual rate, in December (+10.8% y/y). Unadjusted sales for 4Q19 were up 5.8% from the same period in 2018 (Northwest +1.7%, Midwest +3.8%, South +7.6%, West +7.2%). Total sales for 2019 were about the same as in 2018 (5.344 million, vs. 5.343 million).
The European Central Bank’s Governing Council left short-term interest rates unchanged. ECB President Lagarde said that “in the light of the continued subdued inflation outlook, monetary policy has to remain highly accommodative for a prolonged period of time to support underlying inflation pressures and headline inflation developments over the medium term.” The ECB also decided to launch a review of the ECB’s monetary policy strategy this year.
The Bank of Canada left short-term interest rates unchanged. The BOC noted that “the global economy is showing signs of stabilization, and some recent trade developments have been positive.” However, “there remains a high degree of uncertainty and geopolitical tensions have re- emerged, with tragic consequences.”
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