When trying to forecast or analyze what is going to happen in economic policy in a particular country, I focus on four factors: ideas, incentives, leadership, and providence or luck. When some of these factors align, as in 2017 when U.S. leadership embraced a policy of tax reduction and regulatory reform, I forecast an increase in growth. I was right. Other factors that I usually include are uncertainty in leadership; the push or drag of major players in the world economy; and medium- and long-term rule of law and overall economic freedom in the country or region in focus.
Another factor I usually include is national and international security. For instance, I consider the threat of a violent nuclear incident as the greatest menace to domestic and international prosperity, and North Korea has been back in the news in this regard. The less catastrophic but more widespread threat of Islamic terrorism is also a concern. Whatever one may think of President Trump’s approach to Islamic extremism, I think it is safe to say that there is a new level of unpredictability, and extremist groups do not know where or when another strike and response may come.
Rule of law, corruption, economic freedom, and government spending for the top ten economies. Rule … [+]
Table by Alejandro Chafuen
As usual, let me focus on what I follow most closely: the economy and its legal framework. As in recent years, the U.S. economy will not get a boost from outside. The Organisation for Economic Cooperation and Development, (OECD), the intergovernmental organization representing 36 of the top world economies, forecasts the lowest GDP growth since the 2008-9 recession, around 3%. The IMF is more optimistic, expecting 3.5% growth, which is still higher than the growth expected in the United States. I believe that with greater economic freedom, growth rates above 3% would be normal, and I am still surprised when I read analysts write that a “steady 2% makes the U.S. economy the envy of most of the developed world.”
Los Angeles, Ca. Shipping containers are offloaded from the container ship APL Singapore onto … [+]
Los Angeles Times via Getty Images
China’s growth continues to moderate and hover around 6%. India is poised to grow at 4%, which is high for us but low for them. At least two factors having a negative effect on China are trade skirmishes with the United States and the situation in Hong Kong; both will still be with us in 2020. “2019 was a horrible year for Xi Jinping’s China” was the headline of a recent article in the French newspaper Le Monde.
In Mexico, Latin America’s second largest economy and one of the most relevant for the United States, continues to slow. Its president, Andrés Manuel López Obrador, has limited populist measures to redistribution, by which I mean he has not jumped on the protectionist bandwagon or given in to the temptation to impose exchange controls or expand price controls unlike other populist leaders. The economy is at a standstill, with no growth expected for 2020. The United States’ other major trading partner, Canada, is predicted to grow at a modest 1.5%. During the last stretch of the recent electoral campaign, the re-elected Prime Minister Justin Trudeau promised increased government spending as if this were a magic formula for growth. Among the top ten economies, France has the largest consolidated government spending per GDP (56%), and yet its growth is even slower than Canada’s.
Not much help will come from other countries in Europe, either. Their bloated welfare states and hostile climate of ideas – especially on the environment – continue to be anti-growth. The attitude towards the environment in many European countries seems driven more by religious fervor than science and economic reality. I was in Italy during the “student” anti-growth demonstrations in September, and in Madrid during the recent environmental summit. They “canonized” their saint Greta of Sweden as a powerful and effective weapon against the demons of economic development. If they move from merely show to actions, a regulatory push on climate could have an even higher negative effect on growth.
The harm will be mostly in Western Europe; in other regions, most of the large economies have governments which will not follow the so-called environmental policy “consensus.” The two largest economies of the Americas, the United States and Brazil, have a similar approach and understanding of environmental matters: a more prosperous economy can and should contribute to better ecological stewardship. In Asia, independently of what agreements their bureaucrats sign, the governments of the two largest Asian economies, China and India, will prioritize growth even more than the United States and Brazil.
Last January I forecast a slowdown in growth rate, due mostly to two factors: an all-out war of the Deep State against President Trump, and a tightening by the Fed. There was a modest decline in the rate of growth, and the Deep State’s efforts against Donald Trump and his allies in the administration were as I expected. But I was wrong in believing that the Fed was going to stick to the measures that they hinted at in late 2018. Independently of what the numbers and monetary economists say, the leadership of Donald Trump and the acquiescence of the Fed played a big role in the reversal. Seeing the large deficits coexist with very low interest rates is not something that we studied in depth at universities. Yet, in the West, the United States and Canada still have the highest Central Bank interest rates, so it is not irrational for leaders in both countries to call for even lower rates.
Interest rates and growth forecast of the ten largest economies. Interest rate data and 2020 GDP … [+]
Table by Alejandro Chafuen
Given that almost all the candidates in the Democratic Party promise a reversal of the regulatory and tax policies of the Trump administration, economic agents face a scenario of “fear, uncertainty, and doubt,” or FUD. This scenario – similar to the situation in the United Kingdom during these past few years of Brexit impasse – puts a damper on investment decisions. The efforts of most of the entrenched bureaucracy against Trump will continue, and so will their effect of creating uncertainty about the future direction of economic policy. But the danger of the Deep State impact has diminished. During 2019 some in their camp began to show their cards and acknowledge the Deep State’s existence. While in the past those who alleged the existence of the Deep State were ridiculed, now we find those who proudly assert “thank God for the Deep State.” One of these latter was John MacLaughlin, former Central Intelligence Agency deputy director. For him and those of his ilk, they are the grown-ups protecting the country from Trump. He actually said with a straight face that the CIA is different than other agencies because it “is institutionally committed to objectivity and of telling the truth.”
Thus, what happens in the U.S. economy will influence the world, more than the other way around. To put things in perspective, our economy is more than 10 times larger than that of Brazil, India or Canada, the bottom three in the top 10. Among the top-10 economies, only China and India will grow more than the United States in 2020. In this group, growth is expected to accelerate only in Brazil and the United Kingdom, and even there not by much. Both are currently headed by leaders who favor a free economy and who are seen as a threat by many in the international and local entrenched bureaucracies.
On issues that affect long-term growth, such as rule of law and transparency, the world is at a standstill. Six of the top-10 economies have shown deterioration in their rule of law and transparency scores. Sound money and free trade are two areas of grave concern for lovers of the free economy. In both areas President Trump has generated doubts. It is in these two areas that the indices of economic freedom have shown greatest improvement over the last quarter century. The forces that led to improvements in trade and monetary stability are still with us, and they feed my optimism that the major economies will not push for major protectionist measures and that we will not enter a sustained inflationary period in the near future. We still do not know where the average tariffs will end up after Peter Navarro’s “reciprocity bouts,” especially when it comes to major U.S. trading partners.
With regard to sound money, those who measure it mostly by price level or inflation do not seem alarmed. Apart from the dwindling ranks of libertarians, few seem concerned with government spending. Not only Trudeau but also President Trump, Prime Minister Boris Johnson, and other leaders of the top-10 economies are willing to sign increases in government spending. And at least in the United Kingdom and the United States, the opposition wants even more spending. Sadly, Sebastián Piñera, the president of the freest economy in Latin America, has also announced a plan to expand government expenditures and interventionism. Given its small size (1.5% of the United States), Chile is less relevant to the world economy, but until now it had served as a positive example for those who promote freer economic systems. That is gone now.
We have never had so much economic data at our fingertips. But given leadership doubts and a new quasi-consensus on higher spending and low interest rates, we have nothing close to a 20/20 vision of the 2020 economy. Balancing all these factors, however, and with none of the economic trends pointing to a crisis in the short term, the U.S. economy, like a slow-moving giant ship, will continue to push forward and ahead of most Western economies.