Too Much Residual Risk Suggests Bearish U.S. Economic Outlook for 2017
The economy of the United States of America is the largest in the world by value. Its gross domestic product (GDP) for 2016 is estimated at more than $18.0 billion in 2016 in terms of purchasing power. But the U.S. economic outlook for 2017 could be affected by chronic weaknesses. With Donald Trump as president, these weaknesses are given more weight, causing adverse effects.
Assessing the U.S. economic outlook for 2017 presents more complexities than usual. The U.S. economy 2017 must confront the disruption of the Trump administration, for better or worse. Ordinarily, U.S. economy forecasts evaluate the performance of the most important American sources of production.
The leading sectors are the service sector (banking, insurance, transportation, commerce, publishing, entertainment) and industry (oil, arms, consumer products, aerospace, automotive, electronics, information technology, telematics). Also important is the weight of the primary sector, especially in soybean and cereal production (corn, wheat) and livestock, despite the small number of employees.
But the increasingly persistent role of the finance sector adds considerable risks. It makes an ever more significant part of the U.S. economy growth rate susceptible to unpredictable risks, such as “black swan” events. If the U.S. has made a huge contribution to global economic growth, it is because of its diversity.
U.S. economy predictions could count on more manageable risks. Finance accounts for almost 10% of GDP. Of that finance sector, an ever larger portion involves the not-so-wonderful inventions of “financial engineering.” You know them as derivatives. They come in a variety of forms, but they are all potential weapons of mass economic destruction.
Derivatives are speculation on speculation, or risk on risk. Over the counter (OTC) derivatives were one of the main causes of the financial crisis of 2008. Its effects are still being felt, but the big banks have not lost the habit. Meanwhile, President Trump plans to unleash financial deregulation, starting with the repeal of the Dodd–Frank Wall Street Reform and Consumer Protection Act and the Glass-Steagall Act.
This is what makes U.S. economy predictions or U.S. economy forecasts so difficult. Finance adds an additional layer of unpredictability. To understand the risk, consider the role of derivatives in the 2008 financial crisis.
Bank commercials often feature proud parents celebrating their child’s college graduation, thanks to their smart saving plans. But no amount of sappy music and imagery can cover the fact that banks are greedy by definition. Don’t blame them; it’s their business. Sometimes that greed can even come in handy. But often, it plays Evel Knievel with your savings, and those of countless other families and businesses.
Subprime Legacy Still Affects U.S. Economic Predictions
To protect themselves from the high probability that subprime borrowers would be unable to repay their mortgages, financial institutions developed complex “securitization” products to diffuse that very debt. They merely handed off the risk of the inevitable blowup through instruments called collateralized debt obligations (CDOs) and structured investment vehicles (SIV).
They drew in investors by promising high returns. They sold them the default risk associated with their bad lending practices. They managed to spread that risk rather uniformly throughout the financial world. They could do this because the clauses and the mechanisms that lurk beneath derivatives are so arcane, they should be on exhibit at the Torture Museum in Amsterdam.
Derivatives’ complexity makes them easy to be sold because their machinations manage to mislead both individual and institutional investors. Let’s not even discuss the role of the sanctimonious rating agencies, which know the price of everything and the value of nothing.
The Moody’s and S&Ps of the world are always ready to downgrade countries, hurting millions of hard-working individuals, yet they have promoted toxic financial “products” with generous ratings. The uncontrolled spread of derivatives, and the additional risk and uncertainty they represented, provoked the financial crisis, which destroyed the real U.S. economy.
It wiped out global economic growth. With a few exceptions, like India and China, the real economy continues to struggle to achieve meaningful growth. Meanwhile, derivatives and their ability to wipe out major banks and the savings of millions of people, have not gone away. They lurk behind the corner.
U.S. Economy 2017: Trump’s Plans Could Make it Worse
Donald Trump’s proposed financial deregulation could make the influence of derivatives more pernicious. This is one of the main restraints against making any sensible prediction of the U.S. economy growth rate. The widespread dissemination of derivatives serves as a reminder of the fact that the risk of another—or even worse—financial crisis is as intense today, as it was almost nine years ago.
Derivatives are a causal factor in adding risk to current macro-economic scenarios. Global economic growth pivots around the western system of finance. The United States—Wall Street, in fact—is its center of gravity. The rise of financials at the expense of the rest of the economy started in the U.S. but, since the late 1980s, it has spread like wildfire worldwide.
Production has made an epochal shift to a few regions like China and other parts of Southeast Asia. The shift has largely occurred along the principle of wage dumping; that is, seeking out the lowest cost of production and labor. Roughly, that’s what we might call globalization. It’s more complex than that but, for U.S. economy predictions, it helps.
Like other western economies, the United States has deindustrialized and outsourced. This has increased profits. Once profits are repatriated (that doesn’t happen easily, unless there are tax incentives) they are not reinvested in the real economy. They are used to fuel financial speculation. The traditional economy does not offer the same sexy returns that financials offer.
This has given rise to the phenomenon of generating money out of saving money, rather than investing in “making things.” Therefore, making U.S. economic predictions almost becomes a futile exercise. The role of finance is so large as to skew risk. The predictions could be similar to what pundits offered in the media during the recent U.S. presidential election: way off.
Financial speculation, unleashed, is difficult to control. When the markets are buoyant, it generates a voracious appetite for supersized gains. When risk shows its ugly side, the contagion of financial collapse takes hours to slash billions off of GDP and individuals’ savings. It’s that kind of risk that makes governments so helpless.
The “real economy” is not always all peaches and roses, but it does send signals and hints at how to steer it. Financials are the equivalent of a driverless car with its software on the fritz. The “real economy” is more like a Boeing airliner airplane functioning on a single engine. It doesn’t perform as intended, but a skilled pilot can still guide it to safety because the airplane still responds to inputs.
The U.S. economic growth rate was substantial as early as the late 19th century. But it was after World War II that the U.S. economy started to soar above all others, especially in the 1950s and 1960s. By the mid-1960s, the economy started to show signs of fatigue. Inflation was the main undesirable effect of such fast growth. This really came to the fore after the 1973 oil crisis.
Debt and the U.S. 2017 Economic Outlook
The 1973 oil crisis showed how vulnerable the U.S. economy had become to macroeconomic imbalances. These included the increased cost of raw materials as the dollar devalued. The war in Vietnam caused severe trade deficit problems because of the war’s increased cost. The peace movement may have taken the credit for ending the Vietnam war, but the deficit likely played a bigger role.
Deficit and debt continue to plague the U.S. economy. The International Monetary Fund (IMF) has said that the external deficit is expected to deteriorate again in the coming years.
There is a heavy trade deficit. The main causes of this 30-year deficit is the very low household saving levels, which correspond to high consumption. Meanwhile, the U.S. Federal Reserve’s low interest rates after 2008 have not benefited U.S. trade. The U.S. dollar depreciated in the previous decade at the expense of Western currencies like the British pound and the euro. But it increased compared to emerging countries, whose central banks have acted to undervalue exchange rates. President Trump is not wrong when he accuses China of manipulating its currency.
This has prevented the real economy (the one that makes goods) from thriving. Imports have become more affordable, while U.S. goods have become less competitive abroad. Meanwhile, debt has increased sharply in the 2008–2009 two-year period, coinciding with the measures taken by the federal government to combat the financial and economic crisis.
The U.S. Economy 2017
Will the U.S. economy collapse in 2017? It is increasingly clear that the global financial crisis continues to cast its shadow over the U.S. economy, affecting global economic growth as well. Meanwhile, Trump has increased the level of risk by recreating the conditions for greater financial speculation. This will play out against a process that begun before he took office on January 20.
Trump’s programs could raise inflation, which will put more pressure against the U.S. economic growth rate. The Federal Reserve has recently run a low inflation and low interest rate policy. This expansive monetary policy (in name only, because credit has been difficult to obtain) was intended to boost demand and consumption by reactivating a certain economic dynamism.
But this has exacerbated the debt, which has become an impediment to growth. Individuals and private enterprise are overly leveraged. They have cut investment activities in order to bring down their debts.
This explains why the recovery has been so slow. It’s the effect of the latest financial bubble, which exploded with the Lehman Brothers collapse in 2007–2008. The processes which generated that crisis continue, even though they have proven their unsustainability. Low interest rates have, in turn, dragged the financial system.
One wonders if the system can cope with the era of higher interest rates, There are analysts and operators on Wall Street who have never had to deal with interest rates above zero. Banks’ profits have suffered from the low rates, which has made them prone to continue the high-risk activity that has already proven its risk.
Meanwhile, China is moving toward more domestic-market-oriented growth. Europe will continue its expansive monetary policy while the U.S. Federal Reserve starts putting on the brakes by lifting interest rates.
Donald Trump’s protectionism could make things very tough for developing countries such as Mexico and Turkey, which have based their development strategies on the success of their exports. Thus, global economic growth could suffer considerably. The U.S. dollar could gain so much value as to make American goods noncompetitive anywhere outside the United States.
The combination of factors described above makes it very difficult to predict the U.S. economy growth rate in 2017 or to make any kind of U.S. economy predictions for 2017. It is a transition year, and the potential changes are such that forecasts are as good as throwing dice.