Saturday, October 9, 2010

The Paradox of Global Recovery

"Originally a paradox was merely a view which contradicted accepted opinion. By round about the middle of the 16th c. the word had acquired the commonly accepted meaning it now has: an apparently self-contradictory statement which, on closer inspection, is found to contain a truth reconciling the conflicting opposites. . . . “ (J.A. Cuddon, A Dictionary of Literary Terms, 3rd ed. Blackwell, 1991)

Even optimistic Americans seem to become a bit uncomfortable when facts and projections about a global “recovery” are discussed. We are used to, since 1945 being the “dominant” economic force in the world and are skeptical when we are told that the world is growing without us being the dominating force for that growth. How can corporate profits be increasing when there is record unemployment in the US and real estate is depressed?

Here’s part of the answer…

The US economy is very big. Even after the recent contraction, it still represents more than $14 trillion per year. (In other words, $14,622 billion.) On an inflation adjusted basis, it is now more than twice as large as it was in 1980. In 1980, a 3.5% annual increase in GDP represented an increase of $227 billion. The US economy in 2010 will probably grow by more than $227 billion. To put this in perspective—the economic output for the entire US will grow more in 2010 than the entire annual economic output of the State of Maryland. In percentage terms, that is slower than in 1980, but in total dollar terms, it is a very big number.

The biggest story however….

Global Trade is now arguably bigger than the total US economy and growing rapidly. Global Trade was in excess of $15 trillion (2009) and forecast to grow by more than 9% in 2010. Companies that are successful and participating in Global Trade are earning profits and the value of their equities (stocks) are rising. But, Global Trade is very competitive and requires a high degree of productivity; It may not contribute to local employment as much as “domestic” business, like residential construction.

The US economy and the economies of some European countries overdosed on residential and retail/commercial real estate during the last 10 years. (Speculation fueled by debt always ends in disaster.) The current difficult part of the US economy in terms of unemployment and declining real estate prices is the “hangover” from that overdosing and binge.

In addition to current Global Trade, consumption outside of the US is growing fast. We used to think of the world economy as three equal parts: the US, Europe, and The Rest of the World. Now, the world economy is four equal parts: the US, Europe, Asia/India, and The Rest of the World. There is now more total wealth in Asia/India than in the US—and therefore, more potential customers for goods and services made by global companies that you can invest in.

Economic activity, estimated to reach nearly $50 trillion for the entire world in 2010 will be the highest in history, having recovered completely from the big drop in 2009—probably exceeding 2008 in real terms by at least 1%. This is despite the fact that the US economy, while “recovering” is still not “recovered”—with GDP for 2010 in the US still slightly below 2007.

Keeping things in perspective: The US has been the world's largest national economy since 1870 and remains the world's largest manufacturer, representing 19% of the world's manufacturing output. Contrary to popular belief, the US was still the largest exporting country in the world for 2009, although Europe as a region, counting only exports outside of Europe exported about 25-30% more. In 2010-2011, China will probably be exporting at levels equal to or higher than the US.

Can the stock market go up and investors prosper, even if the US economy grows slowly?

The answer to that question depends on whether the rest of the world can and will grow without the US in the lead. This has been the debate about what has been termed “economic decoupling”.

My view is that the world will not decouple, but the world economy will become even more inter-dependent. Slow growth in the US will be a drag on global growth. But, the wealth that has been created and accumulated in other parts of the world will no doubt begin to increase demand for US products/services and ultimately bring growth and employment back to historically normal levels. The change is that instead of focusing on producing goods and services for US consumers, our businesses (and their stockholders) will have to shift focus toward satisfying consumers and customers in other countries. The rest of the world will help us to recover from our binge on residential real estate and excess debt.

The paradox of global growth and domestic stagnation is in the truth and simple fact that the huge US economy is having to, and will have to continue to adapt to the reality that for us to prosper, we need to focus not just on selling to and serving ourselves, but the other 95% of the human population living elsewhere as well.

The economy outside the US has recovered and is growing—and the best companies and their stockholders focused on this global economy are prospering accordingly. History teaches us that absent global military conflict, that trend will probably continue.

One caveat is that this global growth could be hurt by ill-advised government actions around the world. Unrestrained real estate speculation and excessive government intervention in China as well as a growing socialist agenda in Brazil are concerns. The growing countries must recognize that continued growth requires an expansion of global trade, which relies on increased imports as well as exports. The US has reached its limit in terms of capacity to absorb the world’s exports without a corresponding increase in reciprocal trade.

Let’s also hope that our government soon wakes up and recognizes that our future leadership in the world lies not in wealth re-distribution and expensive military adventures, but wealth creation in a very competitive world. A competitive, productive workforce, supported by a business friendly government and a superior infrastructure, creates employment and prosperity.

This paper is for educational purposes and for the sake of discussion. It is not a sales presentation and not a recommendation or personal investment advice. Opinions provided are exclusively those of Wayne Strout and are not the opinions by any financial institution. All investing involves significant risk of loss and there is no proven method to eliminate that risk. No investment should be made without a complete due diligence process, fundamental analysis and a discussion with your personal financial advisor.