Covid-19, global supply-chain disruptions, frictions in reopening economies worldwide and now Russia’s invasion of Ukraine are spawning many winners and losers in economies, financial markets and political structures. Six of them are driven by transfers of incomes and assets. Five more are fundamentally the result of repricing goods and assets that I’ll cover in a separate column. Changes sired by either of these forces have further significant consequences.
I define globalization as the use of Western technology to produce goods in cheaper production sites that are then exported to rich countries in North America and Europe. In modern times, production using low-cost but disciplined labor started in China in the late 1970s and then spread to other Asian lands such as Vietnam. Globalization decimated high-paying manufacturing jobs, which plunged from 19.6 million in the U.S. in 1979 to 12.6 million last month. That spawned political movements on the far right and extreme left with significant results, including Donald Trump’s election victory in 2016. With the exodus of manufacturing jobs went private sector unionization, which collapsed from 24% of payrolls in 1973 to 6.1% more recently.
1. Globalization encouraged extensive but complicated international supply chains designed to minimize costs. Semiconductors can be produced in Taiwan, then sent to Malaysia for further assembly and on to China for final production of consumer goods that are exported to the West. The pandemic and Russia’s invasion of Ukraine have disrupted these supply chains. They won’t disappear as long as there are significant differences in production costs in various countries but are being shortened and shifting to closer countries such as Mexico. The domestic response is more labor-saving automation.
Winners include Mexico, hardware and software automation and employment, and losers are manufacturing jobs and labor unions in the West.
2. The war in Ukraine amplified the jump in fossil fuel prices that was already underway as a result of the pandemic and the reluctance of OPEC+ to raise crude oil output substantially. Also, President Joe Biden pledged to eliminate fossil fuels before alternative renewable energy sources can replace them. The U.S. is a net exporter of energy except for safe sources from Canada and Mexico, but with Russia supplying 40% of European natural gas and war-related sanctions, replacement demand from the U.S. and other sources like Qatar has leaped.
The jump in gasoline prices is so noticeable by consumers that Biden has been forced to release oil from the Strategic Petroleum Reserve. He’ll probably also need to aid American frackers, and while major oil companies are emphasizing their green credentials, smaller producers are stepping into the breach. Also, oil refiners may do well as their margins — the difference between the cost of crude and the selling prices of refined products—rise. In addition, they may pick up some of the government cuts in gasoline taxes.
The jump in fossil fuel prices has renewed interest in uranium production and nuclear reactors. Prices of uranium oxide and uranium miner stocks have leaped as Washington considers a bar on uranium imports from Russia. Belgium recently postponed its nuclear energy phase-out by 10 years. France announced plans in February to construct six new reactors and British Prime Minister Boris Johnson is pushing his country’s nuclear plans.
Other winners include OPEC and producers and transporters of liquefied natural gas, but Asian consumers lose as LNG is diverted to Europe. High energy prices rob consumers of purchasing power. Wind, solar and other renewable energy equipment-makers and producers may be eclipsed at least temporarily in favor of quicker availability of fossil fuels, including coal.
3. Inflation is a time-honored method of transferring purchasing power and assets. The recent widespread rise leap in prices due to the pandemic, supply-chain disruptions, frictions in reopening the economy and the war in Ukraine is no doubt temporary. Asian economies are big producers but small consumers, with consumer spending in China accounting for 38% of GDP, compared with 68% in the U.S. So, their saving glut and the global surplus of supply versus demand is highly deflationary.
Also, American consumers expect a manageable 3.7% annual inflation rate over the next three years, according to New York Federal Reserve surveys, so there’s no evidence of buying ahead of need as in the late 1960s and 1970s. That episode strained inventories and production capacity, sparking faster inflation and confirming expectations, leading to more anticipatory purchases in a self-feeding cycle. Also, the recession I believe the U.S. economy is now entering will cool prices.
Meanwhile, wages aren’t keeping up with inflation. U.S. hourly earnings rose 5.6% in March from a year earlier, but the CPI in February climbed 2.3 percentage points more. Those on fixed incomes without cost-of-living escalators also lose. With declining purchasing power and consumer confidence, retail sales in the past year have been flat and declining in real terms. Savers paid fixed rates on deposits are losers as are those holding assets with negative real returns.
Winners include borrowers paying negative real interest rates on fixed-rate borrowing. Homeowners with fixed-rate mortgages win as long as single-family home prices jump, but I believe that bubble is about to burst. Governments benefit as inflation pushes taxpayers into higher income brackets.
4. The Fed has embarked on a credit-tightening campaign that probably will precipitate a recession. The inverted Treasury yield curve also points strongly in the direction of a business downturn. A recession is especially likely given the concurrent shift from quantitative easing to quantitative tightening and the vulnerability of many highly-speculative financial markets.
Rising interest rates hurt borrowers, especially those with floating rate loans. Emerging markets suffer as their borrowing costs rise and currencies fall as slower U.S. growth reduces demand for their exports. U.S. bank loan funds with floating rates are protected from rising rates, but not from defaults on many of their low-quality loans in a recession. Banks and other so-called spread lenders are more profitable as rates rise since their lending rates tend to rise faster than the rates they pay depositors.
Auto loan rates are often pegged to Treasury yields, but are fixed for a number of years, sometimes exceeding the life of the vehicle. The interest rate on credit card loans for those even with good credit often rise with market rates. In contrast, federal student loan rates for the 2021-2022 school year were set last May in relation to the 10-year Treasury note auction and are fixed for the life of the loan.
5. The U.S. dollar has strengthened as it normally does as a haven in a sea of global trouble. That benefits foreign holders of American investments as their values rise in terms of their depreciating currencies. It has the opposite effect on U.S. investments abroad. A robust greenback also aids importers of U.S. goods and services as their dollar revenues are converted to their own currencies but forces American exporters to cut their costs or shave their profit margins to compete abroad.
This year, the dollar is up against 31 of 41 major currencies, with the exceptions being some Latin American currencies. The Brazilian real is up 16% against the dollar, the Chilean and Uruguayan pesos are ahead 9.4% and 7.4%, and the Mexican peso is up 2%. Rising commodity prices are benefiting these raw-material exporters that have also hiked their interest rates to protect their currencies. And their stock markets are some of the best performing in the world.
6. Political winds can shift rapidly, but at present Republicans look to be the winners and Democrats the losers in the coming November midterm elections. And it won’t take much change to reverse control of Congress with the Senate split 50-50 and the Democrats holding a tiny 222-212 majority in the House where 218 seats means control. Biden’s low approval ratings don’t help the Democrats.
If Republicans regain control of the House - if not the Senate - Washington will be in true gridlock. Interest in social programs and income redistribution will no doubt falter as both parties jockey for position in preparation for the 2024 general election. Nevertheless, even if Biden can get a little cooperation from Congress, he still controls the vast Executive Branch and its many agencies. As we’ve seen in the past, Presidential Executive Orders can be powerful tools to bypass Congress.More From Writers at Bloomberg Opinion:
• The West Must Save Globalization: Micklethwait & Wooldridge
• How to Be a Winner From De-Globalization: John Authers
• There’s a Bull Market in Forecasting Macro Doom: Jared Dillian
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Gary Shilling is president of A. Gary Shilling & Co., a New Jersey consultancy, a Registered Investment Advisor and author of “The Age of Deleveraging: Investment Strategies for a Decade of Slow Growth and Deflation.” Some portfolios he manages invest in currencies and commodities.
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