Issue 1: Jan 4, 2021
Issue 1: Monday, January 4, 2021
The Latest
Thank goodness it’s over. Few will have fond memories of 2020. The year of course, was darkened by a global pandemic with staggering costs. Costs measured in lives. Cost measured in dollars.
The U.S. economy likely shrank by something like 4% during the year, with travel, tourism, and hospitality at the epicenter of the carnage. Within that hospitality segment are legions of restaurants and bars forced by public health measures to close or operate below capacity. Most such businesses are family owned and operated, without scale and without much lobbying muscle. Feeding America, a non-profit, says one in six Americans could face hunger as jobs disappear and paychecks get smaller.
Plenty of big companies felt the pain too. Hard-hit firms ranged from Boeing, the airplane maker, to Live Nation, a concert promotor. Airlines, hotels, cruise lines, movie theatres, theme parks, casinos… all suffered mightily in 2020. So did the commercial real estate sector as people stopped coming to offices. Low oil and gas prices hurt the energy sector. Even parts of the suddenly overworked health care sector experienced lost revenue as Americans postponed non-urgent care. Another epicenter of pain: Local and state governments, now desperately trying to avoid layoffs of teachers, firefighters, sanitation workers, and police officers. Airports too, which are mostly government run in the U.S., have seen their revenues from sources like retail rents and airline fees plummet.
This doesn’t tell the whole story, however. For all the economic pain nationwide, large areas of the economy were largely protected from Covid’s impact. For some, the crisis brought great benefits. The biggest winners of all were companies in sectors linked with anything involving people’s homes. The housing market itself held strong in most areas of the country—housing, remember, was the problem child of the last big downturn. The financial sector, also at the heart of the crisis of 2008, was resilient this time, in part thanks to demand for mortgage loans to buy homes. With offices closed, people worked at home, triggering demand for everything from videoconferencing technology to office furniture. With restaurants closed, people dined at home, hence a windfall for grocery stores. People shopped at home, meaning more online retail. Gyms were closed, creating demand for home exercise equipment. Americans renovated their homes, expanded their homes, upgraded their homes… all good news for retailers like Home Depot and Lowes. They entertained themselves at home too, to the delight of video game makers, social media sites, streaming movie providers, and so on. If you sold things that people consume at home, you were probably well off in 2020.
The biggest winners of all perhaps, were America’s west coast tech darlings, led by Amazon and Microsoft of Seattle, along with Google, Apple, and Facebook of Silicon Valley. All reaped great benefits from the stay-at-home, work-at-home economy, and all were superstars on Wall Street. Their bullish stock performance alone was a key reason why despite the crisis, stock markets soared. Yes, that seems incongruous with the economic devastation affecting large parts of the U.S. economy. But an outsized portion of the pain fell on people and companies largely disconnected from the stock market—those family-owned restaurants, for example, and low-wage, front-line workers with limited savings to invest.
West coast tech giants, to be clear, weren’t the only Wall Street superstars. As hard as the crisis has been for passenger airlines, cargo airlines like FedEx boomed by facilitating the boom in e-commerce. There was Zoom, of course, now a household name in video communications. Americans came to know Moderna and the more established Pfizer as well, thanks to their miracle Covid vaccines. Don’t forget about Tesla, Elon Musk’s iconic car maker, benefitting from what feels like an unstoppable shift to electric vehicles. The entire auto sector, as it turned out, had a good 2020 as Americans upgraded their vehicles.
Indeed, there was more money for car-buying, home-buying, and other buying than you might expect. Don’t underestimate all the money people saved by not eating out and traveling. In the spring, Washington came through with generous support for households—direct payments, rich unemployment benefits, job protections for airline employees, and so on. Specific segments of society, meanwhile, were cushioned by institutionalized government support programs—seniors getting steady social security checks and subsidized health care, for example. Also somewhat shielded: The 3m-plus people working for the Federal government, including those serving in the military. Many of the benefits of the springtime federal relief would expire by late summer and early autumn. But last month, Congress passed additional relief, to bridge the remaining few months before a critical mass of Americans receive their vaccinations.
That’s the story as the new year begins. Covid remains a rampant killer, both of lives and livelihoods. But for all the anguish, there’s well-founded optimism that 2021 will be very different than 2020. In other words, much better.
Markets
· Debt: The Federal Reserve, staring at a meltdown in credit markets early in the Covid crisis, unleashed the heavy weaponry. As The Economist described, the Fed “launched an armada of lending programs to keep financial markets functioning, swiftly slashed its main policy rate back to zero, and bought nearly $3t in assets using newly created money.” The efforts worked as intended, stabilizing financial markets and allowing corporations—even greatly distressed ones like airlines—to borrow abundantly and affordably. The Fed never did pursue negative interest rates like in Europe and Japan. Instead, it encouraged more government and private-sector borrowing by voraciously buying bonds—even corporate bonds. It also established facilities to provide direct loans to companies big and small. The housing, auto, and durable goods markets in particular, benefited from the ultra-low interest rates. The Fed, meanwhile, adopted a more tolerant stance on inflation, which has trended low for decades despite steadily ballooning government deficits, not to mention the Fed’s own aggressive monetary actions in 2008.
· Stocks: The stock market, to be clear, did drop sharply when the world realized how catastrophic the Covid crisis would be. But it quickly reversed course. Why? For a time, many of the gains were driven by a mere handful of big technology companies, chief among them the so-called FAANG companies: Facebook, Amazon, Apple, Netflix and Google. Microsoft belongs on the list as well. All benefitted from the crisis as Americans stayed in their homes and on their computers to work, shop, play, and learn. Late in the year, encouraging news about vaccines gave the stock market additional lift. Another tailwind: New mobile apps like Robin Hood, which attracted new investors by gamifying trades. With casinos in Las Vegas and elsewhere temporarily closed, maybe gambling on stocks was the next best thing. More convincing is the federal stimulus argument: As the Fed created more money, and as Congress sent checks to every household, it was perhaps inevitable that some of those new funds would end up powering demand for financial assets, stocks included. The voracious investor demand for company equity by the way, encouraged private companies like Airbnb to sell shares publicly (indeed, it was a record year for IPOs). The bull market also fueled a boom in SPACs, or pools of investment money seeking private companies ripe to take public.
· Stocks: You know the S&P 500, an index of large company stocks. Well, Ariel Investments president and co-CEO Mellody Hobson calls it the S&P 494. Why? As she explains in a Wall Street Journal podcast, those six stocks mentioned above—Facebook, Amazon, Apple, Netflix, Alphabet/Google, and Microsoft—currently account for almost a quarter of the entire S&P 500’s value, and 77% of its gains over the past year (through September). Hence a need to distinguish them from the other stocks in the index. Separately, columnist Matthew Iglesias notes the important fact that “unlike during the Great Recession, the 67% or so of the public who owns a home and the 55% of Americans who own stock have seen their net worth rise.”
· Gold and Bitcoin: Think the stock market is overvalued? Not satisfied with measly bond market returns? Worried about future inflation and dollar depreciation? One option is buying gold, considered a safe asset—“hard money”— that can’t be devalued by printing more of it. The latter is true of digital currencies like Bitcoin as well. So sure enough, Bitcoin experienced another electrifying bull run. In general, hard money advocates worry more about inflation. Soft money advocates worry more about deflation. But are digital currencies the wave of the future? Are they destined to encounter insurmountable legal, technical, and regulatory hurdles? It’s one of the hottest debates in finance.
· Forex: Early on in the Covid crisis, the U.S. dollar began strengthening against other major currencies. This reflected a gravitation to safe assets in times of uncertainty. By late spring however, the dollar began depreciating. Other currencies, to be sure, benefited from the Fed’s moves to assure that key foreign central banks (via so-called swap lines) had sufficient supplies of U.S. dollars. For U.S. exporters like Boeing, a weaker dollar is good news. For importers like Walmart, the opposite is true. Forex market changes, though, are generally more consequential to non-U.S. companies and countries.
· Oil: The early days of the crisis brought stunning headlines about negative oil prices. But in terms of monthly spot market averages, the WTI benchmark price hit a low of $17 per barrel in April. The market stabilized at about $40, which is roughly where it averaged for most of the year’s second half. By year end, prices were closer to $50. But keep things in context: Between 2011 and 2014, oil prices averaged around $100 per barrel, if never quite reaching the high of $148 in June of 2008, right on the eve of the Lehman Brothers crisis. Pricey oil in the early 2010s no doubt inhibited recovery from that crisis. But a late-2014 crash in oil prices, aided by America’s shale revolution, provided a welcome economic boost. Prices remained in the comfortable $40-to-$70 range through the latter half of the 2010s, settling at around $50 on the eve of the Covid crisis—precisely where they stand at the start of 2021. That’s low enough to be economically stimulative for U.S. households, as means lowish gas prices. Of course, America is much more of an oil producer than it was in the past, which weakens the link between cheap oil and economic growth. It’s perhaps becoming less of a driving economy too, if work-from-home practices persist. Longer-term, a massive push toward electric vehicles, adopted by even Detroit’s incumbent automakers, raises the prospect of a post-oil American economy.
· Labor: A huge jump in unemployment in March and April eased after economies began reopening and Washington provided fiscal relief. By the fall and into winter, however, the job market recovery stalled as relief measures expired and Covid cases spiked. Amazon remained a big job creator, opening warehouses throughout the country. Grocery stores including Walmart and Target were hiring. Same for shipping companies and pharmacies. But airlines, hotels, restaurants, bars, and small offline retailers shed tens of thousands of jobs, to the point where hunger across the country is now a serious problem. Another growing concern is income and wealth inequality. It was a concern, in fact, before 2020. But the pandemic seems to have worsened the problem, creating what some are calling a “K-shaped” recovery. Simply put, people with higher incomes are seeing their fortunes point upward while lower-income Americans fail to see much recovery. Inequalities across geographic, ethnic, and racial lines likely played a role in serious social unrest last year. There are gender implications of the current crisis too—unlike the “man-cession” of 2008-09, which disproportionately hit male-dominated jobs like manufacturing and construction, the current downturn is more of a “she-session.” Child care became a big issue with many school closures. Though not by design, public health measures aggravated the inequality problem by allowing large retailers like Amazon, Target, and Wal-Mart to stay open while smaller establishments were forced to close. The pandemic more generally favored higher-paid workers able to do their jobs at home with the help of videoconferencing (everyone would learn the term “Zoom”). On the other hand, a giant $2t bipartisan Congressional relief bill in March gave a big boost to middle- and lower-income Americans with generous unemployment benefits and $1,200 checks for each person. But the effect was temporary The direct payments, incidentally, gave life to the concept of universal basic income, or UBI, in which governments provide every citizen, regardless of their financial situation, a set amount of money each year. Opponents cite the expense, along with the risk of encouraging people to work less. Proponents like New York City mayoral candidate Andrew Yang see a means to address the inequality problem, replace the complex jumble of alternative income support programs, and generate more aggregate demand for the goods and services American companies produce.
· Labor: A few figures to shed light on the current state of the labor market, courtesy of the Economic Policy Institute: 19m Americans were unemployed or no longer in the workforce in November. Another 7m were employed but at lower pay or with fewer hours. Longterm unemployment, meaning those without a job for at least six months, is a particular concern. The number of Americans officially employed stands at about 150m.
Companies
· FedEx, based in Memphis, Tennessee, reported “record breaking volumes” for the holiday season. It’s talking about freight of course, which distinguishes it from airlines focused on carrying people—passenger airlines are among the biggest losers in the Covid crisis. Spending on goods, and especially durable goods like home appliances, is higher now than it was pre-pandemic. E-commerce sales, meanwhile, were up 33% y/y during the first nine months of 2020. That compares to traditional retail sales (excluding gas and food) which grew a mere 1%. While demand is growing, supply is contracting; as of October, global air cargo market capacity was down 23% y/y as those passenger airlines (which carry cargo in the bellies of their planes) grounded large portions of their fleet. FedEx itself has 680 aircraft, some 200k ground vehicles, and about 600k workers worldwide. It’s also, to be sure, playing a critical role in vaccine distribution.
· Lennar is one of America’s largest homebuilders. And as such, it has an eagle eye’s view of the giant residential real estate market—a market that collapsed in 2008, causing a global recession. This time, the U.S. housing market is an area of strength. But will it remain strong once people start spending big parts of their income on travel and entertainment again? CEO Stuart Miller has an opinion, one he expressed in Lennar’s latest earnings call. Even as people revert to past patterns of spending, he thinks, housing demand will continue to be lifted by extremely low interest rates for mortgages, ongoing government stimulus spending, millennial family formation, and a recovering economy. In addition, the last crisis led to a decade-long trend of “under producing” houses. “So for the foreseeable future, I think we’re going to see strength in the housing market.”
· Truist is the new name adopted by the bank BB&T after buying rival SunTrust. In its latest earnings call, CEO Kelly King ran through a list of bubbles—three of them—that the U.S. economy experienced since 1990. “So in 1991, we had the commercial real estate bubble; 2001 we had the technology bubble; 2008 we had the residential real estate bubble.” But this downturn, King explains, “didn’t have a bubble; this was a very strong 10-year economy; 3.5% unemployment rate. We just shut it down, appropriately for medical reasons, but we shut it down.”
· MicroStrategy is a leading provider of business intelligence software, competing with the likes of IBM, SAP, Salesforce, and Oracle. But it’s getting attention for something entirely unrelated. Last year, the company boldly invested much of its cash in Bitcoin. It purchased more than $1b worth of the cryptocurrency, including a $650m purchase just last month. Why? Its CEO Michael Saylor, a leading Bitcoin evangelist, shared his thoughts on the podcast Bloomberg Odd Lots. He expressed deep worries about the future value of U.S. dollars and in fact all dollar-denominated assets, from treasury bonds to real estate to stocks. He’s bearish on gold as well. Holding cash or short-term treasuries, he said, is like holding a “melting ice cube.” Cryptocurrencies, on the other hand, is like the “Google of money,” unhackable, easily audited, limited in supply, not controlled by any regulator or company, sufficiently liquid, and engineered to be a safe-haven asset. There are of course, many with less favorable views of Bitcoin. Warren Buffet, for one, likes assets—be they farms or businesses—that produce something. With Bitcoin, he argued in a 2018 CNBC interview, “all you’re counting on is whether the next person is going to pay you more because they’re even more excited about another next person coming along… Imagine people selling their homes and buying a Tulip.” For the record, there aren’t yet any exchange traded funds (ETFs) in Bitcoin, making it less accessible to the average investor than other assets. But it is becoming more accessible with each passing year.
· Monarch Tractor wants to sell self-driving electric tractors to farmers. They’d help, among other things, address labor shortages and lower carbon emissions. Monarch is still a young, small, and private company. But it made a big-league personnel announcement last month, adding Dennis Muilenburg as an advisor and investor. Muilenburg formerly ran the aerospace giant Boeing, America’s largest exporter. He also, incidentally, grew up on an Iowa farm.
Sectors
· Health Care: It’s one of the most consequential trends of the past few decades: The growing share of economic activity tied to health care. Providing health care, insuring health care, producing pharmaceuticals, manufacturing medical equipment... it all adds up to a massive 18% of America’s $21t economy (it was 4% of GDP in 1950). In 2019, health expenditures grew another 5%, which far exceeded general inflation. Drive around any typical U.S. suburb and you’ll get a sense of how pervasive the sector is—note the hospitals, doctor offices, dentist offices, labs, outpatient centers, drug stores… they’re everywhere. Is this a good thing? Well, health care does produce a lot of jobs, many of them high paying. But it’s also a sector where productivity gains are hard to achieve, heavy regulations are necessary, and free market principles don’t always apply. Consider a patient rushed to the hospital for emergency surgery after a car accident. She isn’t shopping around for the best price. She isn’t even choosing where to get her care. The whole “buyer beware” concept is rendered irrelevant. Hospitals, in fact, will only this year be compelled to disclose what they charge for various services. This is just one small example of the many irregularities of the health care market, and why it’s so challenging to reform.
· Health Care: Well before anyone ever heard of Covid-19, Dr. Iman Abuzeid—co-founder of a health care human resource company called Incredible Health—was warning about America’s shortage of nurses. She spoke on an A16Z podcast in November 2019, estimating that by 2024, the country would have 1m fewer nurses than needed. It’s a profession that employed about 3m people last year (90% of them female), but with heavy turnover despite good pay and job security—Abuzeid said nurses can earn well above $100k a year in many big cities (about $140k in the San Francisco Bay area). But the job involves lots of training and long hours. And it’s become tougher with more and more administrative work. Nurses are also assuming more responsibilities traditionally held by doctors, who are often spending less time with patients. All the while, many nurses and nurse instructors are retiring. Demand is rising for a simple reason: retiring baby boomers. Remember, all of this was before the Covid crisis. During the crisis, of course, nurses have found themselves on the front lines of a harrowing battle, overworked and under tremendous strain. When North Dakota was experiencing peak hospitalization this fall, the NPR Indicator podcast for one highlighted drastic staffing shortages. Hospitals were offering nurses as much as $6k a week, it noted, which annualizes to more than $300k a year.
· Sports: The National Basketball League, or NBA, was in big trouble in the late 1970s. Most people just weren’t interested. But a dramatic reversal of fortune would occur in the 1980s, thanks to factors journalist Pete Croatto describes in his book: From Hang Time to Prime Time: Business, Entertainment, and the Birth of the Modern-Day NBA. The 1980s, he says, saw white Americans become more comfortable with African-American media idols, from Bill Cosby to Eddie Murphy to Oprah Winfrey to basketball’s own Michael Jordan. Jordan would become not just the biggest basketball star but arguably the biggest star on the planet. Before Jordan, stars like Julius Irving, Larry Bird, and Magic Johnson provided the sport with momentum, amplified by the CBS network’s innovative and compelling broadcasting of games. Visionary NBA commissioner David Stern, who served from 1984 to 2014, was less constrained by tradition than his counterparts at Major League Baseball and the National Football League, which had longer histories and a deeper cultural significance. Stern turned arenas into theme parks and emphasized the importance of merchandising. In 2019, his successor Adam Silver spoke at the National Economic Club, at a time when the league’s revenues, ticket sales, team values, TV ratings, and global popularity were all rising. Arenas were 93% full. Roughly three-quarters of teams were profitable. Silver, at the even, talked about the sport’s origins (it was founded by a Christian missionary), and some of its controversies, its relations with players and university teams, the practice of “tanking” to gain higher draft picks, sports betting, and so on. Last year was obviously a rough one. The NBA did manage a season of games during the pandemic by playing all of its games at Disneyworld in Orlando. But revenue loss was massive. A 2019 controversy involving China caused revenue losses as well. Last year’s tragic death of Kobe Bryant was another blow. David Stern passed away as well. But the game remains popular, led by international megastars like LeBron James, Stephen Curry, and Luka Doncic. A new NBA season began last month.
Debate
· Inflation is Coming: University of Pennsylvania professor Jeremy Siegel, speaking on Bloomberg’s Masters of Business podcast in June, outlined a number of inflation concerns heard more and more these days. For one, Washington’s aggressive policy response to the Covid crisis has led to a large increase in the money supply, and not just measured in higher bank reserves (which after the last crisis, didn’t always reach people’s wallets). This time, Congress and the Trump administration put money directly into pockets. The Fed itself again lowered interest rates and went well beyond its 2008 response in terms of credit support to businesses and governments. It also adopted a more tolerant policy toward inflation; it’s now content with an average rate of 2% over time, not a hard target of 2%. Longterm, the Fed will have to think twice before hiking interest rates to address inflation concerns, because higher rates would make it more expensive for Washington—now $27 trillion in debt—to maintain borrowing. Why else might inflation become a concern again, after decades of declining? There’s the weakening dollar, making imports more expensive. Household spending power is up thanks to rising house prices. The household savings rate is historically high, meaning high capacity to spend when the pandemic eases. Indeed, post-vaccination, certain areas of the economy (think travel and entertainment) should see a surge in spending. There’s a shortage of supply in some sectors due to bankruptcies, downsizing, and virus-related production disruptions (American Airlines alone is permanently shrinking its fleet by more than 100 planes). Some commodity prices like copper, iron ore, and even oil are already rising. Remember too that after the 2008-09 crisis, Washington imposed fiscal contraction (remember policies like sequestration?). This time, deficit and debt reduction appear less of a political priority. In the meantime, a sharp increase in the global workforce that helped depress prices in recent decades is now poised to reverse as populations age and retirements spike (even in China now). It’s also important to mention that several crucial cost categories for middle class Americans—most importantly the “Three H’s” of health care, higher education, and housing—have been inflationary for many years.
· Inflation will Remain Subdued: Skeptics point to the doomsayers of 2008, whose cries of inflation proved unfounded, despite the Fed’s expansive monetary policy. Also look at countries like Japan and Italy, both with huge debt and deficits yet concerned more about deflation than inflation. Information technology is pushing down prices, with potential to do so even in service-sectors like health care. Hyper-efficient retailers like Amazon and Wal-Mart are powerful forces against rising prices. So is all the new supply of things like hotel rooms and car rides created out of thin air by companies in the sharing economy like Airbnb and Uber. The same phenomenon is happening as people repurpose their homes as offices. Globalization remains a reality, creating an expanded worldwide workforce depressing wages and by extension prices. Oil prices remain low by historical standards. There’s still lots of slack in the U.S. labor market, implying a lot more labor demand before wages start to meaningfully rise. Some argue that growing income inequality is a demand suppressant because wealthier households allocate more of their income to savings, buying stocks rather than stuff. Demographically, people tend to spend most during middle age, but it’s currently seniors—with their higher propensity to save—accounting for a growing portion of the population. So that’s another reason for weaker demand, which should prevent prices from rising. Just as importantly, measures of inflation expectations (i.e., looking at prices of treasury bonds indexed to inflation) show markets don’t see higher prices on the horizon.
Policy
· Fiscal policy: After months of fruitless debate, Congress finally agreed to another round of funds to help households and business. The first effort injected $2t into the economy. This time, it will get another $900b. That figure includes $325b for small businesses (including forgivable paycheck protection program loans), $600 checks to most Americans (who received $1,200 checks this spring), and $300 a week in supplemental unemployment benefits through mid-March (versus $600 this spring). There’s also money allocated for education, health care, food assistance, agriculture, childcare, and the post office. What about struggling state and local governments? This was a politically contentious topic, with Republicans wary of assisting heavily indebted “Blue States” like Illinois and New Jersey. The new relief measure, alas, provides just $25b in aid for state and local governments for housing assistance (some of the other aid for health care, etc. will be distributed through sub-national governments as well). Splitting Republicans, meanwhile, was a push by President Trump to offer Americans not $600 but $2,000. The idea made it through the House but not the Senate. Washington’s power dynamics will change dramatically later this month however, when President-elect Biden replaces President Trump. Democrats will still control the House but with a slimmer majority. Control of the Senate, currently in Republican hands, rests on the outcome of two Georgia Senate seats. Voters decide this week (Jan. 5).
· Monetary policy: On Dec. 16th, the Federal Reserve’s FOMC held its final meeting of the year, at which members reiterated their new goal of achieving inflation moderately higher than 2% in the near term. It will continue to buy tens of billions of dollars of government bonds each month, with the goal of making it easier for households and businesses to borrow money. The Fed will keep the federal funds interest rate near zero. Less certain is the $454b worth of emergency lending authority that Congress gave the Fed in March. The Fed used only a small portion of that sum, and Treasury wants the balance back. Separately, Chairman Jerome Powell said interest-rate sensitive areas of the economy are performing well, notably housing, autos, and durable goods. The service sector, more affected by public health measures like social distancing, is much weaker. About half of the jobs lost this spring have returned, bringing unemployment down to about 7% (it was less than 4% just before the crisis). Food insecurity throughout the country, however, remains alarmingly high. Overall, Powell said, “the outlook for the economy is extraordinarily uncertain.” As a reminder, Congress has two main mandates for the Fed: Ensure price stability and maximize employment.
· Monetary policy: A Bloomberg Opinion piece by Robert Burgess highlights the importance of a single number: $14 trillion. “That’s the amount by which the aggregate money supply has increased this year in the U.S., China, euro zone, Japan, and eight other developed economies.” All this new money surely contributed to the soaring price of assets like stocks, houses, and Bitcoin. But will it lead to sustained inflation?
· Fiscal policy: Two prominent Washington think tanks—the Brookings Institution and the Peterson Institute for International Economics—hosted a discussion last month entitled: “Fiscal policy advice for Joe Biden and Congress.” A panelist of prominent economists and policy makers seemed to agree that doing too much in terms of federal stimulus and relief spending, is less risky than doing too little. After the 2008-09 financial crisis, former Congressional Budget Office chief Doug Elmendorf remembered, fiscal tightening hampered recovery. A risk now is that widespread small business failures will leave the economy ill-positioned to recover. But what about Federal debt? It’s already large and growing rapidly. Yes, but the extremely low interest rates Washington currently pays is evidence that markets aren’t terribly concerned. Former White House economist Jason Furman notes how interest payments adjusted for inflation are actually declining as a percentage of GDP. The scary-looking debt-to-GDP ratio, he adds, overstates the government’s true debt burden. The economy did get a $2t-plus fiscal boost this spring, which sure enough did improve labor markets and other fundamentals a lot faster than many anticipated. The problem is, many benefits in the CARES Act expired (i.e., unemployment bonuses and airline job support) before the pandemic improved. In fact, the Covid plague worsened this fall and continues to disrupt business activity this winter, hence the latest $900m in fiscal relief. This spending will ideally provide a long enough bridge to the spring, when a critical mass of vaccinations should lead to a vigorous recovery.
· At that same event, panelists discoursed on why interest rates have remained so low despite all the government spending. One thing Furman pointed out, alongside former Treasury chief Larry Summers, is that the U.S. isn’t alone; Europe, Japan, and other rich-world economies have also experienced low rates. Former Fed chief Ben Bernanke reiterated his long-held belief that Asia’s rising economies are a big factor. As people in the region enter the middle class, they save more money, thus making Asia (and other fast-developing economies) a net supplier of funds to the world. Age demographics matter too; Longer life expectancy, said former IMF chief economist Oliver Blanchard, mean more savings not less. At the same time as the supply of funds are up due to more savings, global demand for funds is down due to several factors. One is that many governments in Europe for example have been unwilling (i.e., Germany) or unable (i.e., Greece) to borrow. The U.S. too, particularly in the first half of the 2000s, saw deficits decline across all levels of government. Bernanke also sees a decline in the profitability of private investment (public sector projects like airports are in many cases more productive), further discouraging borrowing. What’s more, some of the best private sector ideas in today’s world don’t require huge amounts of capital, like in the old days when you needed to build a giant factory and hire an army of workers. Now all you typically need is a good idea and some software code. Growing income inequality is perhaps another cause of weak demand for funds, limiting the spending and borrowing capacity of large portions of the U.S. population. Government deficits, Summers believes, are thus a necessity for achieving the goals of full employment and financial stability; the economy would be “catastrophically short of aggregate demand” with zero balanced budgets.
· Jason Furman separately outlined key challenges posed by low interest rates including 1) The Fed’s traditional monetary stimulus tool of lowering interest rates becomes less effective and 2) heightened financial stability risk as banks find it harder to earn profits, tempting more speculative lending. Under what scenarios could future interest rates start to rise, making it more expensive for Washington to borrow? Well, other governments around the world could increase their borrowing. Emerging market economies in Asia and elsewhere could slow, meaning lower total savings. Demographics could shrink the global workforce. Or countries might no longer want to loan as much money to Washington.
· If more federal government spending is indeed justified, then the next question is: Spend on what? Direct aid to households, unemployment insurance, help for airlines and small businesses… these are all part of the latest pandemic relief passage Congress just passed. Some see infrastructure spending as something that could get bipartisan support during the Biden administration. But more generally, Washington in 2019 directed nearly half of its $4.4t in spending to social insurance (pensions and health care). The next biggest categories are defense (15%) and paying interest on debt (10%). In total, federal government spending accounts for 21% of total U.S. GDP. State and local government spending represents another 15% or so. Which leaves about two-thirds of American GDP in the hands of the private sector. Keep in mind that a lot of government money spent on things like health and defense go to private companies (think defense contractors like Lockheed Martin).
· Fiscal policy: Rand Paul is perhaps the most prominent Capitol Hill critic of expansionary fiscal policy. The Kentucky Senator spoke forcefully against the latest pandemic relief bill, as well as the larger spending bill to which it was attached. He warns that Washington is spending money it doesn’t have, borrowing from future generations. Printing money will eventually erode the dollar’s value, he adds. And refusing to address deficits and debt will only “hasten the day of economic reckoning.” Twenty years ago, U.S. federal debt was 55% of GDP. Now it’s 128%. Concerns about currency debasement, sometimes justified others times not, have played a big role in American history.
· Competition policy: The Federal government, and many state governments, are growing increasingly concerned about the market power of giant tech companies. In October, the Justice Department (DOJ) joined a number of states in suing Google, which it called the “monopoly gatekeeper of the internet.” The crux of the allegation is that the firm uses exclusivity agreements with mobile phone and computer manufacturers—most importantly Apple—to effectively exclude rivals from offering competing search engines. That’s created—so the governments say—a Google monopoly in the massive internet search advertising market. (Google is so effective at delivering customers to companies because it has so much data about what people want, what will get their attention, and how they’re likely to behave). The DOJ even invoked past antitrust cases against Standard Oil, AT&T, and Microsoft.
· Competition policy: But Google isn’t the only tech giant under fire. The Federal Trade Commission (FTC), an independent agency within the government’s executive branch, sued Facebook for “illegally maintaining its personal social networking monopoly” with a “systematic strategy” to eliminate threats by purchasing rivals before they become too large. It’s specifically referring to Facebook’s 2012 takeover of Instagram, and its 2014 takeover of WhatsApp. The FTC wants it to divest those companies and require it to seek prior notice and approval for future mergers and acquisitions. The company, for its part argues that Instagram and WhatsApp are only what they are today because of all the investment and nurturing they received post takeover. Even while providing different end-user products, Facebook and Google both get the vast majority of their revenues from internet advertising. In fact, they dominate the space, with only Amazon proving meaningful competition. And speaking of Amazon, some think it too should be subject to antitrust scrutiny. The European Union in fact, just sued it for allegedly mistreating independent retailers who sell on the Amazon Marketplace platform.
Places
· Lee County, Florida is in many ways representative of an American sunbelt boom city. Located on Florida’s Gulf Coast, covering the Fort Myers/Cape Coral metro area, the county’s population grew by roughly 20% from 2010 to 2020. And that’s despite getting hammered by the housing crisis of 2018. Not long after, however, the influx of people resumed. America’s swelling mass of retiring baby boomers, many from midwestern states like Minnesota and Ohio, came for the sun. Some came for the affordable housing and other aspects of low-cost living, including the absence of personal income taxes for Florida residents. Jobs become plentiful, notably in tourism, health care, retail, and anything to do with housing—selling them, building them, fixing them, furnishing them, financing them, insuring them... Like most medium-sized metros across America, Lee County depends heavily on “eds and meds” for employment (education and health care, in other words). The county’s non-profit hospital network and school system, indeed, are its two largest employers, accounting for about 25k jobs between them. Two competing supermarkets—Publix and Wal-Mart—are Lee County’s next largest employers. Local government functions including law enforcement employ large numbers as well. The biggest private sector employer with its headquarters in Lee County? That would be Chicos, a clothing retailer. Also large is the IT research firm Gartner. Another big resident is Hertz, the bankrupt but still operating rental car company that moved from New Jersey a few years ago. How is Lee Country performing during the Covid shock? Needless to say, the area’s large tourist sector is hurting. But not as much as some other leisure-oriented places. In October, for example, Fort Myers’ airport saw just a 35% y/y drop in passenger volumes, compared to a 64% decline nationwide. The housing market is holding up well. So is the construction sector. The region’s many retirees (almost 30% of residents are over 65) continue to receive their social security checks. Unemployment for the broader southwest Florida region, which also includes areas like Naples and Sarasota, was just under 6% in October, according to the Regional Economic Research Institute at Florida Gulf Coast University.
· What metro area had the highest unemployment rate this fall, using October data from the Department of Labor? It was Maui, the Hawaiian tourist mecca. Its unemployment rate for the month: 23%, versus 7% nationally. Ames, Iowa, had the lowest rate, coming in below 2%. If looking at just the 50 or so metros with 1m-plus people, Las Vegas and Los Angeles had the highest jobless rates. Minneapolis had the lowest.
· For New York City, America’s largest city, certain key sectors are persevering, including finance, media, and even real estate despite a much-discussed exodus to suburbia. On the other hand, the loss of tourism revenue is a killer. And severe problems plague its mass transit system. Officials can’t cut service too drastically—front-line workers including health care professionals depend on the city’s subways and busses. But even after making heavy use of the Federal Reserve’s emergency lending programs, the region’s transit authority plans draconian service and job cuts unless more federal aid arrives. It all evokes bad memories of the 1970s, a dystopian time for New York and its finances.
Trends
· Ever hear anyone say with a sigh: “America doesn’t build things like it used to.” Where are today’s equivalents of engineering marvels like the Hoover Dam and the Golden Gate Bridge? (The largest U.S. construction project today, for the record, is California’s $77b high-speed railway which won’t be completed until the 2030s). America’s governments should, arguably, invest more in physical infrastructure, especially given how cheap it is to borrow right now. But companies too, are investing much less in physical, tangible things these days. It’s not like when corporate titans of the industrial age built giant factories. And that’s the point of a 2017 book called Capitalism without Capital, by Jonathan Haskel and Stian Westlake. It talks about the rise of an “intangible economy” in which companies invest heavily in things people can’t see, like software code, data-fed algorithms, branding, and design. Think Google’s investments today versus U.S. Steel’s a century earlier. This new kind of economy has some unique characteristics, the authors argue, beyond being invisible to Americans nostalgic for grandiose monuments. For one, the intangible economy is much harder to measure, making the investment component of GDP statistics particularly suspect (how does one account for valuable free services like Gmail or Wikipedia?). It also, more troublingly, contributes to private-sector underinvestment and secular stagnation, the book argues. Consider, Google, which can scale its advertising service enormously with limited investment, making it hard for would-be rivals to compete, thus discouraging them to invest. The intangible economy, in other words, creates big winners (dominant firms, talented workers, attractive cities) but also a lot of left-behinds. There are implications for how companies are financed too. Lending to an airline comes with a lot of security—just repossess their planes in the event of non-repayment. Firms in the intangible economy don’t have that hard-asset collateral to reassure lenders. What are you going to do? Repossess an algorithm?
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Abroad
· It’s a central theme—probably the most important theme—of America’s diplomatic agenda: How to manage China’s growing influence in international affairs. It’s now the largest trading partner for many countries, typically exporting manufactured goods and importing raw materials. It’s also investing surplus capital and labor into infrastructure projects across the world, through its controversial Belt and Road Initiative. It’s investing heavily in technology as well, creating some insecurity among Washington strategists. As the Trump presidency comes to a close, U.S.-China relations are at their worst since at least 1989 and arguably since diplomatic relations were first established in 1978. The stress points are many: Tariffs, Taiwan, Tibet, Hong Kong, Xinjiang, South China Sea, intellectual property theft, cyber hacking, Huawei, TikTok, industrial espionage, the origin of Covid-19 and so on. But the fact is, the two economies remain highly co-dependent. Through the first ten months of 2020, according to the U.S. Commerce Department, the U.S. exported $96b worth of goods and services to China. China, meanwhile, sold $349b worth of exports to the U.S.
· What, specifically, does the U.S. sell to China? Leading categories include Boeing airplanes, motor vehicles, soybeans, microchips, and medical supplies. What does the U.S. buy from China? A good way to answer that is pretty much anything you’d find in a Wal-Mart or Target: electronics, toys, sporting goods, and the like. Furniture is another big category. China, by the way, is America’s third largest trading partner measured by the value of all goods and services traded in both directions ($559b in 2019). Numbers one and two are Mexico ($615b) and Canada ($612b). Japan, Germany, South Korea, and the U.K. were all $100b-plus import-export markets as well.
Looking back
· 1820s: It doesn’t serve much economic function today. But the Erie Canal was the commercial superhighway of its times, crucial to a long list of nation-shaping developments. At the time of the American Revolution, and still well into the early 1800s, states like Ohio, Indiana, Illinois, Michigan, and even western New York were largely empty of people. The Appalachian Mountains were a big barrier to settlement, trade, and also military mobility. The latter became a big issue in the War of 1812 against Britain, which controlled Canada at the time. The abundance of rich farmland, lumber, and mineral resources was another reason for political and business leaders of the time to say: We need to develop better east-west transport links. Their answer was the Erie Canal, the biggest infrastructure project of its times. It wasn’t without controversy. Southern states, led by Virginia, understood the economic and political power implications of the industrializing northeast connecting with the resource-rich upper west. Virginian president James Madison, in fact, vetoed federal funding for the project in 1817. The New England region, incidentally, was opposed as well. But New York state proceeded anyway, competing the canal in 1825. The impact was profound. Transport costs fell dramatically, and with a great increase in speed—the opening coincided with the advent of steamboats. In 1835, 62% of commodities from Ohio, Indiana, Illinois, and Michigan moved down the Mississippi river to New Orleans. By the early 1850s, a similar percentage was moving via the Erie Canal, cementing New York City’s status as America’s preeminent seaport. Wall Street brokers were already at the time emerging as central to the cotton- and tobacco-based economy of the south, supplying capital to plantation owners for land, seeds, and yes, slaves. Regularly schedule sea trips from New York City to Charleston, Savanah, Mobile, and New Orleans were already established by 1822. Wall Street’s power and influence grew further as its capital helped finance the Erie Canal (alas, Madison’s veto proved a blessing in disguise for New York City). But Gotham was far from the only beneficiary. Population in towns along the canal surged, creating cites like Buffalo (which became the country’s top port for grain) and Rochester (soon the nation’s largest producer of wheat flour). Chicago, Detroit, and Cleveland would rise from the Midwest. Even today, as historian Janice Fontanella noted on a 2015 Ben Franklin’s World podcast, three quarters of New York state’s population lives within two miles of the canal system. Historian Daniel Walker Howe emphasized the canal’s immense impact on communications, accelerating the spread of political, religious, and economic information—another advantage gained by Wall Street was its quicker access to data about commodity prices. Cheaper and faster transport, less happily, fostered public health crises like the New York City cholera epidemic of 1832. The canal, by the way, was financed with bank loans (funded by early savings banks), bond borrowing, tolls, land donations, and taxes, including property taxes which grew sharply as people settled out west. Quickly, revenues from tolls far exceeded the cost of investment. Much of the labor used to build the canal came from Ireland, itself controversial at the time because most Irish immigrants were Catholic, not Protestant. Germans and Scandinavians would also come in large numbers and settle in towns along the canal. Why doesn’t it have relevance today? Freight volumes on the Erie Canal actually peaked in the 1870s and 1880s, by which time railroads had become an even cheaper and faster means of transporting goods and people. Later came the highways and the airways. In the 1950s, furthermore, the opening of the St. Lawrence seaway allowed larger ships to travel between the Midwest and the Atlantic, making the Erie Canal even more unnecessary. Buffalo, the poster child of the Erie Canal boom, has lost more than half its population since then. (Along with Janice Fontanella, credit for this brief history goes to Gerard Koeppel and his book “Bond of Union: Building the Erie Canal and the American Empire.”
Looking ahead
· A December episode of the BBC’s Business Daily podcast asked the question: Is the dream of vacuum-sealed sub-sonic transport coming of age? The reference is to Hyperloop technology, seen by some as a means of revolutionizing intercity transport of people and goods. The idea first got attention in 2013, when Tesla’s Elon Musk publicized the idea in a white paper. A handful of companies are now working to turn the idea to reality, among them Virgin Hyperloop and Hyperloop Transport Technologies (HTT), both based in Los Angeles. Hardt in the Netherlands is developing the concept in Europe. Governments around the world are backing efforts as well. Elon Musk himself might get involved through his Boring company. Hyperloop pods would use magnetic levitation technology already used in some high-speed trains. But speeds would be much faster than any existing train thanks to the removal of almost all friction—faster than a 600 mile-per-hour Boeing Dreamliner jet, perhaps. Proponents talk of seeing hyperloop pods in service this decade. Others see the 2030s as more realistic. Sceptics, however, think the economics won’t work. Political obstacles are formidable as well.
· The 2020 Covid pandemic reminded the world that mass death, suffering, and economic ruin can come suddenly, in this case from an army of microscopic germs. What else should give us worry? Or better said, what else should we prepare for? Another pandemic, of course, is possible. In fact, the risks are likely growing with more animal human contact, triggered by urbanization, land development, and climate change. Climate change, itself, of course, is a threat verging on existential for all of earth’s inhabitants. Earthquakes, volcanos, and tsunamis are natural disasters with potential to cause mass devastation. The Economist last year discussed the risk of solar flares wreaking havoc on electricity grids. What about an asteroid strike? Weapons of mass destruction, be they nuclear or biological, are man-made threats. So is terrorism and conventional war. The latest SolarWinds incident again highlights the danger of cyberthreats. One critical question: Can private-sector insurance companies realistically provide economic protections against such risks?
· With the 2020s now underway, future technological developments herald disruptions across a vast range of industries, from mobility and transport to banking and finance to health and medicine. Artificial intelligence, quantum computing, blockchain data storage, autonomous vehicles, 5G telecom, next-gen supersonic jets, gene editing, and yes, new vaccines… these are just a small sample of the innovations people will be talking about in 2021.
· And finally, a word of optimism about 2021, from Tim Duy of the Oregon Economic Forum. Speaking with KGW News, he points out some major differences between now and the aftermath of 2009-09 crisis. For one, the financial sector isn’t damaged like it was then. In addition, household wealth has actually increased during this crisis, thanks to rising stock and house prices, plus federal stimulus money. Credit card debt is down. Savings are up. The economy, furthermore, entered the current crisis in a rather healthy state, unlike the pre-crisis period of the mid-2000s, when it was distorted by a giant housing bubble. Another factor is demographics: The large millennial generation is just now entering its peak income and home-buying stage. “This is not the last recession. This is something very much different.”