Rethinking the Big Picture
Many of you have heard me say that the collapse of the Berlin Wall was the defining economic event of my lifetime. This is a proxy also for the integration of the formerly communist Chinese economy. Prior to the collapse, we had different returns to capital and labor in the West and in the East. A surplus of unskilled or lower skilled labor led to greater outsourcing. There were also higher ROE investments to be made in the “East,” such as new markets to develop, than the incremental process-improvement investments to be made in the West.
For 39 years that has driven outcomes, including lower inequality between countries, and greater inequality within countries. Higher returns to “scarce” high end labor, etc.
Now, for some time this has been eroding. Trump began to reverse the globalization trend, and US/China relations further exacerbated this. The differential returns to East/West labor led in part to resentment in Britain (over Polish plumbers) that led them to step away from EU integration. Covid highlighted the risk of longer supply chains.
The Russian attack on Ukraine may be the bell that highlights these changes underway. North Korea and Iran have already been, to varying degrees, already exiled from the international community. Now Russia (and likely Belarus) is being kicked out as well. It’s well conceivable that over time Chinese integration will lessen and reverse, particularly as they rapidly age and focus less on an export-led development model. We’ve also been pretty ineffective at expanding globalization to better include India and Sub-Saharan Africa, where all of the world’s population growth will be occurring.
Russia/Ukraine is just a continuation of globalization in reverse.
IF this hypothesis is correct, what should we expect?
Lower global returns on capital
Perhaps greater returns to lower-skilled labor relative to high-end labor.
Further Rethinking (1)
Zoltan Poszar has an excellent, accessible discussion of the effect of the financial sanctions on Russia on short-term money markets on the most recent Odd Lots podcast, and in particular on the nature and risks associated with ‘inside’ and ‘outside’ money as reserves. He argues that inside money (traditional USD and EUR deposits) that are vulnerable to expropriation and freezes make Russia more reliant on its ‘outside’ reserves (aka gold).
The US has now frozen or expropriated the reserves of Afghanistan and Russia.
If you are China, and faced with further deglobalization pressures, do you decide to hold more of your reserves in gold rather than the USD going forward? If there is the risk of reserve expropriation, and the demand for your oil now comes from China more than the US, do the Chinese seek, or do the Saudis prefer, to denominate oil in gold (or a gold backed currency)?
ps: LOL. Wrote this while listening to the podcast. Zoltan basically says this with his last comment@ ~46:30
Further Rethinking (2)
One of the “saving graces” for the US, relative to Europe and perhaps even China, has been the assumption that our population would continue to modestly increase the working age population due to immigration (both legal and illegal).
Some of us were worried when Trump sought to halt immigration and relieved when he left office.
But “Houston, we have a problem.” Immigration is not yet strongly rebounding, and the births and deaths within the US are now almost the same. Yes we’ve had “excess deaths” due to covid, but that does not appear to be the full story.
Demographics, of course, affect growth prospects. The recent BIS Quarterly Review has a final section titled Global growth: drivers and post-pandemic prospects. Their first key takeaway is:
First, if pre-pandemic productivity growth trends reassert themselves, global growth could average roughly 2.7% per year over the next two decades – around 1 percentage point lower than the average in the 2010s.
Western labor productivity growth has already continued to slow, and growth was predominantly due to employment growth.
For AEs, the 2010s marked another decade of subdued growth. While GDP expanded slightly faster than in the 2000s, this was entirely due to faster employment growth, as workers who lost their jobs during the Great Financial Crisis (GFC) were gradually reabsorbed into the workforce. In fact, AEs' labour productivity growth was even lower than in the 2000s and only a fifth of that in EMEs. Looking further back, AEs' labour productivity in the 2010s expanded at just half of its pace in the 1990s.
And we have seen some modest decline in labor trend productivity in China as well.
For the US and other advanced economies, we need policies designed to:
Increase the share of the economy devoted to industry rather than service, as labor productivity is much higher in industrial.
Allow more immigration
Encourage further workforce participation in the US
Encourage further globalization with ‘other Asian EMEs.’
Anecdote
I volunteer one day per week at Helping Hands Rescue Mission. They hand out food and clothes to needy families. The number of families coming in for food has increased in the last month or so. Stimulus checks have run out and people are starting to hurt again.
Don’t forget those less fortunate.