Anti-globalization action could hobble U.S. growth

 

BY MORRIS R. BESCHLOSS
PVF and economic analyst

As the Republican Administration and the Democratic Congress begin to draw their legislative battle lines, the main points of contention will encompass economic globalization and the many components that comprise it. Many observers believe that the reduction, or even elimination, of tariffs have benefitted the American consumer immeasurably in the past decade.

As part of the fading bi-partisanship honeymoon, however, much of the contention between the two major parties will be the disparate interpretation of globalization, its impact on America’s future, and the good and welfare of the American people.

Even the most passionate of anti-globalists, mainly concentrated in the Democratic Congress, realize that the concept of globalization has reached the point of no return. What they hope to accomplish, however, is the slowing or even the revocation of ideas that would make globalization the centerpiece of America’s future.

The main points, which will be manifested by the 110th Congress’ pro-active legislative proposals, are world trade, equality of trading partners’ labor standards, minimum U.S. wages, presidential negotiating powers, protective tariffs, and undocumented immigration. The following is a breakdown of these points:

• Conservatives and liberals differ widely in their interpretation of how world trade benefits the American people. Conservatives believe that the minimization of product pricing — as long as acceptable standards are met — benefit the U.S. consumer by containing inflation and maximizing the buying public’s purchasing power. The Republican Administration points to the unprecedented growth of the American consumer sector as proof positive of this strategic success.
• Liberals believe that job protection must come first and foremost, and point to the massive job losses in such traditional manufacturing sectors as automotive, steel, electronics, textiles and fabricated metals as exemplary of the U.S. industrial sector’s disintegration. When confronted with the continuing low unemployment, the anti-globalists indicate that such jobs pay about half of what was generated by the lost industrial jobs sector. 2004 Democrat presidential standard bearer John Kerry went even further by demanding that fair trade must be met by work standards similar to those lost by the comparable American works. This point of view is considered nonsensical by critics who point to the lower wages and benefits of emerging nations as the basis for the low prices of imported goods.

• In order to make up for some of the widening wage gap between today’s average job and highly paid compensation generated by yesterday’s traditional industry, the initial legislation introduced by the triumphant Democrat House of Representatives was a substantial increase in minimum wages. Although many states have minimum wages exceeding the new proposed Federal standards, there is fear that some small businesses will be hampered by such arbitrary statutes.
  
• It’s a practical certainty that the regional and/or bi-partisan trade pacts of yesteryear will be almost impossible to come by. The up-down vote by Congress, sans amendments, will certainly be stripped away. Also, the presidential negotiating power will likely be severely hobbled, no matter what party occupies the White House.

Although the U.S. is a signatory to the World Trade Organization, protective tariffs in the guise of import restrictions or subsidies for specific American production sectors will likely surface. Worst of all may be a severe crackdown, including punitive action against employers of illegal aliens and a rigid limitation on day workers. This comes at a critical time when millions of baby boomers are leaving the job markets and opting for retirement.

It is a near certainty that the Democratic majority control by both House and Senate will shift the congressional momentum toward trade restriction, rather than global free trade. If such a scenario gathers steam, expect such anti-globalization legislation to negatively affect consumer pricing, increase inflation and raise interest rates, and shrink economic growth.

Global liquidity stimulates U.S. financial markets

One of the most puzzling aspects of today’s U.S. financial markets is the continuation of low interest rates across the spectrum of the fixed income yield curve. This unusual turn of events is expected to continue well into 2007.

After 17 consecutive federal fund increases, from 1% to 5.25% over a two-year period, it was expected that money would become tight and long-term bonds would yield considerably higher interest rates than the average return from money funds.

To the surprise of economic experts, the yields on the 30-year bonds have been only slightly higher than that of Treasury bills. This was contrary to expectations of a steepening yield curve, which is symptomatic of current economic conditions. With a weaker dollar, and increasing switching out of the dollar and into the euro, higher yields were expected to manifest themselves as 2006 progressed.

Historically, such a phenomenon has consistently been associated with a weak forthcoming economy that is expected to verge on recession in the foreseeable future. Since such financial markets have attracted lessened domestic and international interest and an expectation of increasing needs to stimulate further investment, today’s flattened yield curve and ample money supplies have requested clarification from many of my column readers.

What puzzles monetary observers even more is that historically low yields and excessive money continue to be available for mortgages, commercial bank loans, auto leases and investment capital. Even more confusing is that such a phenomenon is occurring in the face of a dollar that has declined more than 10% last year against the world’s major currencies. Such a combination of factors normally instigates a diversion of funds into more remunerative investments, or at least a substantial downturn in further purchases of the greenback and/or U.S. government bonds.

The answer lies mainly in the lopsided U.S. domination of the world’s gross domestic product. 2006 year-end estimates put the global gdp at $45 trillion versus the U.S. generation of goods and services of $13.5 trillion. This is especially remarkable when one considers that the U.S. population, with less than 5% of the world’s 6.5 billion people, accounts for 30% of goods and services.

But therein lies part of the answer. As an increasing number of the world’s emerging nations generate greater liquidity, they’re finding that only the enormous U.S. financial arena is large enough to absorb the funds generated by these nations’ increasing exports.

Although bigger bargains may be available elsewhere, the newly rich emerging nations trust the political and financial stability of U.S. markets more than any other. Also, they view such investments as an insurance policy to retain their portion of America’s gargantuan consumer economy.

As such a surge of liquidity moves toward American government and corporate bonds, stocks and fixed assets, the U.S. long-term bonds continue to be so much in demand that higher yields are not necessary to attract further investment currency.

In the case of China, Japan and Southeast Asian nations, which enjoy a widening trade surplus with the U.S., these nations also are motivated to hold an increasing share of the yawning U.S. debt to ensure political tranquility in case of American protectionist voices becoming much louder.

Although the enlarged global trade deficit imposes increased discomfort on America’s financial stewards, the liquidity that recycles back to the U.S. has been the main reason that America’s valued loan instruments and available capital have kept our economy on an even keel. The continuation of this sequence will assure high employment, adequate money supply and the investment capital necessary to generate a 2%  to 3% expansion rate in 2007.

Low oil prices endanger alternative energy development

With global oil costs bottoming out at the mid-$50-per-barrel level in late January, the soaring prices of the past two years are no longer guaranteeing profits to all participants in the world-wide rush for black gold. Not only are current oil production initiatives less profitable, but some alternative energy projects may now be scrapped.

The upward price pop at the end of the month was primarily motivated by the Arctic cold wave that consumed the Northeast and Midwest, which are the primary users of heating oil and natural gas. This reversed the previous downward plunge due to an unseasonably warm winter in those areas.

Increasingly vulnerable are the most recent participants in the expansion of oil development. The conversion of coal to oil, found in the Athabasca region of Canada’s Alberta Province, is in the forefront of vulnerability. A further oil price erosion could endanger this most effective method yet found to convert overabundant coal supplies into oil.

Although ongoing conversion facilities would continue to be profitable at $35 a barrel, recent and future startups are facing a breakeven point that approaches $50 per barrel. The possibility of a revisited oil shale development process in the Western Rockies of coal-oil conversion in the U.S. would stay on the back burner.

An unexpected drop to below $50 or even less for an extended period of time could even bring some existing energy startups to a halt, in the absence of government subsidies. Under the present standstill between the executive and legislative branches, federally-supported alternative energy initiatives are unlikely to get off the ground.

Such a set of circumstances crippled America’s attempt at “energy independence” almost 30 years ago. At that time, the government-subsidized Synfuels Corporation, centered in Denver, funded a $20-billion attempt to initially convert Rocky Mountain oil shale.

A precipitous price drop, engendered by a subsequent Saudi Arabian flood of surplus oil to stem such activities, ended this experiment. It foundered on the U.S. government’s refusal to subsidize the losses necessitated by the subsequent price crash.

Under the current price circumstances, Saudi Arabia is best positioned to withstand the one-third price drop since last July. The Saudi’s costs are less than $10 per barrel, excluding budgetary needs, which are minimal for maintaining the rudimentary economy of this undeveloped desert kingdom.

Also relatively safe for now are Venezuela, Iran, the Arab Gulf States, and offshore oil now being pumped in the North Sea off the coast of Norway.

In greater danger are the development of new discoveries in the Gulf of Mexico and the Florida straits, explored by Mexico and Cuba, respectively, in addition to areas under U.S. control not yet developed. The Gulf has become the single-most source of domestically-produced American oil. But, deep-sea drilling costs have risen meteorically in the last two years alone, jeopardizing the feasibility of this indispensable source.

Since the U.S. depends on the world’s major multinationals to conduct these explorations, Congressionally-imposed ending of tax preferences, now in the process of being legislated, could serve to inhibit the research and development of increased domestic production.

Also facing jeopardy are the many ethanol plants popping up all over the U.S. It’s estimated that oil costs below $50 per barrel could drive many of these startup plants into bankruptcy.

It would be the ultimate irony if the ongoing reduction in oil prices created a long-term shortage which would hasten the day when the dreaded $100 per oil barrel makes its unwelcome appearance.

Employment statistics confuse observing public

With America’s employment potential exceeding 150 million people, most economic observers continue to be confused by the flurry of government statistics relating to job creation and unemployment percentages. The monthly government report focusing on these developments is considered the most closely watched by financial analysts. When these numbers are out of sync with analysts’ expectations, they often roil the financial markets.

What especially befuddles the average observer is the frequent divergence between monthly job additions and the unemployment factor. This is especially confusing when job creations seem to surge, but unemployment also creeps up simultaneously.

The answer lies in the way these statistics are derived. Unemployment results depend on the Commerce Department’s regular analysis of 160,000 corporate payrolls, which are checked monthly for additions and deletions. Even though such scrupulous statistics are constantly checked for accuracy, they are often subject to revision retrospectively. However, the breakdown between manufacturing, construction, service and defense employment tend to be relatively accurate, due to their connection with corporate employment.

On the other hand, new job creations or contractions are largely dependent on the vast U.S. employment pool, not necessarily involved with corporate life. While the unemployment figures are gleaned from large business establishments who hire and terminate based on changing business conditions, new job creations are largely an estimate focused on the thousands of non-corporate small businesses. These include agricultural workers, two-job families, immigrants and all those considered potential employees in America’s rapidly-expanding employment potential. This so-called household survey is based on 60,000 domestic units, and is not as reliable as the corporate payroll analysis.

Reflected in this dichotomy between corporate employment and independent workers is the remarkable shift toward small business and self-employment. This is a pace that is quickening as corporations are downsizing and eliminating pension plans and healthcare. In the past 30 years, the shift from corporate life to independent wage earnings has been remarkable. With big businesses cutting back on wage increases and reducing benefit packages, a large number of former corporate employees have decided to go out on their own.

The remarkable direction of this trend so far is that a great majority of this diversion from corporate life is finding gainful employment elsewhere. It’s a tribute to America’s dynamic expansion that a vast majority of independents find themselves gainfully employed.

Even in two-family households, 70% of spouses are working and are finding new job opportunities in most parts of the country. Despite this surge of prospective workers into the marketplace, America’s unemployment percentage is at a historically low ebb.

The thousands of immigrants pouring into this country are having little trouble filling jobs that are going begging while America’s huge population base is expanding at a greater rate than any other Western nation. U.S. unemployment is less than one-half that in Western Europe. Even though unemployment by willing teenagers and the African-American community are near double-digit levels, the absorption rate of potential workers continues to be unprecedented. This is true despite the shrinkage of traditional manufacturing sectors such as automotive, metalworking, textiles, leather goods

and residential construction.

Although the growth of America’s enormous gdp has currently slowed to 2% on an annualized basis, there seems to be no slowdown in the absorption of prospective workers, mostly in America’s dynamic service sector. This is particularly true in the area of evolving technology, on which America’s future manufacturing growth is based.

This worker shortage could become worse as baby boomers in their 60s begin to opt out of working life, choosing retirement. This upcoming problem will require a prodigious replacement effort within the next three years.

However, the present trend of economic growth requires continued low interest rates, adequate money supply and ongoing record exports.

Ethanol benefits look increasingly doubtful

Is ethanol a firm step toward energy independence or the greatest government taxpayer ripoff since the Teapot Dome oil scandal of the early 1920s?

Although the jury is still out as to whether the benefits will outweigh the liabilities, there are increasing signs that the American consumer and taxpayer will suffer from what some call the Midwest Agribusiness Relief Act. Rushed through Congress at the behest of Congressmen and Senators from powerful Midwest farm states and signed by the President more than a year ago, the negative impact of this gasoline blend is becoming more apparent as ethanol’s mandated use is increasingly being forced down the throats of America’s multi-million drivers.

Promoted originally on the premise that the expanded use of ethanol would lessen the need for foreign as well as domestically-produced gasoline, experience so far indicates that just the opposite has happened. Not only does the conversion of corn to ethanol require a heating process using gasoline or natural gas, but it has proven substantially less efficient than traditional gasoline products. Some sources claim it could also be damaging to automotive engines.

Additionally, the federal and state government subsidies for ethanol ran over $6 billion last year, roughly half its wholesale market price, according to the Milken Institute review. Domestically-produced ethanol receives a 51-cent-per-gallon subsidy from the feds; another 54 cents a gallon tariff is imposed on the sugar cane-based imported ethanol, which is available from Brazil and the Dominican Republic; but not from sugar cane-rich Cuba, which is sanctioned from any trade with the U.S.

Another shortcoming of ethanol, which would likely not be produced without these subsidies, is distribution. Not available through America’s extensive pipeline system, due to its damaging effect on these lines, ethanol must be trucked to the still limited number of gasoline stations available to the nation’s 240 million cars and trucks.

But the most damaging impact of the enforced use of ethanol could be America’s corn-based farm industry. The percentage of the U.S. corn crop devoted to ethanol has risen to 20% from 3% in just five years, or about 8.6 million acres of farmland. Reaching President Bush’s target of 35 billion gallons of renewable and alternative fuels by 2017 would, at present corn yields, require today’s entire U.S. corn harvest.

As would be expected, the price of corn rose nearly 80% in 2006 alone. This has created havoc with feed corn dependent cattle, poultry and hog farmers for starters.

It is also starting to affect our export-oriented meat packing industry, which is starting to lose world markets due to lessened competitiveness.

And the negative impact doesn’t stop at our borders. With the world price of corn skyrocketing, the price of tortillas, a Mexican food staple, has risen by 30% in the past few months. This could affect the nutritional needs of Mexico’s population.

The intrepid Chinese have already halted ethanol plant construction due to that nation’s fear of food insecurity.

Even America’s leading environmentalists are questioning the feasibility of ethanol use, claiming that this U.S.-government inspired panacea increased the level of nitrous oxides in the atmosphere, thus causing smog.

Agricultural experts are also worried that the U.S. government will allocate 40 million acres currently tied up in the Agricultural Department’s conservation reserve and put them at the disposal of the expanded ethanol program.

This ethanol mania is greeted with great satisfaction by Archer Daniels Midland, Cargill and other multi-billion-dollar agribusinesses and the Congressional delegations from Illinois, Iowa, Indiana, etal. Based on the facts now available, this is not an enthusiasm that will be shared by the vast majority of the American people.

          

Morris R. Beschloss, a 50-year veteran of the pipe, valves and fittings industry, serves as PVF and economic analyst for The Wholesaler.