Business Intelligence Brief: November 17, 2021

Brief Notes on the US Economy

•           Retailers Still Seeing Activity – The level of retail sales jumped by 1.7% last month. This would not come as any kind of surprise in any other year but this one. It is the holiday season after all and the time that even the most frugal of consumers open up their wallets to buy the kind of stuff that one buys for friends and relatives. The reason that this buying comes as a bit of a shock this year is that prices have been hiking across most of these categories and it would have been expected this would slow down consumer activity to some degree. As is discussed later in this issue the fact is that consumers have more money to work with than usual due to all the stimulus activity in the last few years and that has made them somewhat immune to this inflation – at least for the time being.

•           Down to Powell or Brainard at the Fed – Biden has indicated he will make his selection regarding the extension of Jerome Powell’s tenure at the Fed in the next four days. There is certainly some suspense within the investment and banking community as there is never support for changing horses in mid-stream but the choice is between keeping Powell or naming Lael Brainard as the new Chair. These are not radical choices either way. Powell is supported by the bulk of the financial community and has the support of key Biden insiders but the progressives want him gone and replaced by someone with a hardline position on regulation and climate change. Brainard has not exactly been a major advocate for either of these positions but is seen as more sympathetic. The person taking this position will be facing the biggest shift of Fed policy in years – moving from stimulating to exerting control in order to face down inflation. This will not be a popular set of moves.

•           Oil Producers Elect to Meet Demand – As indicated later in this issue the oil producers have been reluctant to react to the current demand for oil because they do not know how long the gas crisis will last in Europe. The German decision to reject the Russian pressure on the pipeline has prompted the major producers to assume that the demand for oil will stay high and they are now moving to bring production levels up. The current shortage will start to erode within a matter of weeks. The price per barrel is now unlikely to crest above $80 again and may head back to the 60s in the weeks to come.

Brief Notes on the Global Economy

•           US Strives to Expand Asian Trade – The latest effort from the US Trade Representative has been aimed squarely at China through expanded relations with the other Asian economies. The US will be extending more deals and opportunities to Japan, Korea, Taiwan and others. The fact is the US seems to be trying to resurrect the Asia deal that was scotched in the beginning of the Trump term. To be accurate that agreement had already been killed by lack of support within the Democrats and the objections revolved around giving additional access to the US market. Now the idea is resurfacing as a means by which to isolate China and to give these nations more of an incentive to work with the US. It will not be as formal as the original plan was.

•           Turkey’s Manufacturers Under Stress – Turkey has been one of the major manufacturing states in Europe for many decades and they have never faced the kind of economic stress they face now. The prices of inputs have soared to levels not seen in over twenty years – a 46% increase in the producer price index and a 20% increase in consumer level inflation. There have been any number of motivations for this surge and not the least of them have been government related. The Erdogan government has been scrambling to shore up its popularity and that has triggered a great deal of deficit spending. Pressure has been put on the central bank to keep rates lower than the inflation threat would seem to call for. The result has been commodity prices surging along with wage rates and the financial community sees no sign of the government backing away from all this spending.

We Have Met the Enemy and the Enemy is Us

     The following piece appeared in the Black Owl Report this week. Many alert readers of the BIB know that the BOR is our other regular publication. The primary writer for the BOR is Keith Prather but on occasion I sneak a story or two in. This is one of them. If you have not taken a look at the BOR as yet – you are cordially invited to do so. We offer a free trial so you can get acquainted and if you decide to add it to your reading repertoire it is a whopping $7 a month. Drop me an e-mail and I will get you on the list.

      There is nothing that evokes more hand wringing than economic news. Throughout the last couple of years there have been crisis situations piling on top of crisis situations and it has been hard to keep up. The 2020 story was simple enough – a massive global recession triggered by reactions to a threat nobody had ever seen before. We are now quite obviously out of that recession but now have to contend with the aftermath. The problems we confront today all have the same origin – growth. The supply chain is overwhelmed by demand that few saw coming, inflation has burgeoned as these shortages coursed through the system, wages went up as there were too few people. The consumer came charging out of the gate eager to make up for lost time and producers were not ready. The good news is that production will catch up with that demand for two reasons. The first is that some of this surging demand will start to fall off as the year ends and the second is that producers are generally scrambling to catch up. That said there are two developments to watch that could upset predictions in some sectors.

     Some of the producers are wary of the current level of demand and frankly they do not trust it. The oil sector is one of these. They look at the current energy crisis and realize that it is largely artificial. The 600% hike in natural gas prices in Europe has been driven by the Russians and their hardball tactics around gas. To put pressure on the EU the Russians have not provided the gas they had agreed to. Then the wind farms in Europe have been producing at less than 20% capacity. This forced US utilities to turn towards oil and prices surged. The point is that these crisis situations could end in a matter of days and prices could tumble along with demand. Until the oil producers see the daily commute return, they are not confident enough to go full speed on additional production and this same dilemma has affected most of the commodity categories. The producers want to see more stability before they make the large-scale commitments.

     The second development has been getting a lot of attention lately. The inflation threat has been pushing the Federal Reserve to act and they have. Thus far they have focused on reducing the stimulus activity undertaken in 2020 but it is now apparent that interest rates are headed up and there will be other moves such as adjusting the reserve ratio and changing the rates that banks are offered to keep money on deposit at the Fed. The consensus was that rates would start to rise towards the end of 2022 but the thinking now is that rates will rise by the end of second quarter. The conversation thus far suggests that these hikes will be quarter point increases over a several month period and that they will end up around 1.25% to 1.50% by the end of the year. Slowing the economy is always a delicate process. If the rates go up too fast the recovery in growth is stalled. If they go up too slowly the inflation threat worsens and that eventually forces rates even higher.

     There is a silver lining as far as higher interest rates are concerned – especially for manufacturers. The banks have been operating with very low loan margins for years and that has made them very cautious as regards lending as they can’t afford many of their loans to go south with narrow margins like these. The higher rates will allow some additional flexibility and the manufacturer is generally seen as a good risk as they have something to capitalize that loan with. The bottom line is that inflation has become a real issue for the first time since the 1990s but it is nowhere near a crisis. The consumer continues to be flexible when it comes to reacting to the inflation surge as they still have money in reserve but that level has dropped significantly through the holidays and by next year that inflation insulation will be mostly gone. This means a sharper reaction to higher prices – more postponing of buying decisions, more interest in substitute goods and more potential for lifestyle changes.

Consumers Seem to be Ignoring Inflation – For Now

    There has been an aspect of the current inflation situation that has been unusual and challenging. The consumer is not really reacting to the higher prices. They are certainly complaining and worrying about how far all this will go but they have continued to pony up the cash and the plastic. This is a result of all the trillions that have been poured into the economy over the last year as the pandemic has dominated thinking. The US has plowed an immense amount of stimulus cash into the hands of business and consumer alike – more than $2 trillion more than the entire GDP of Japan in a year (the third largest economy in the world)

Analysis: There is a certain amount of built-in control when inflation rears its ugly head. The simple fact is that a point is reached when the consumer either can’t pay the steeper costs or just refuses to. The desire to push prices higher runs into this very real resistance and the pace of that increase starts to slow. The consumer today is not expressing that resistance to the degree one would expect with inflation rates this high because they still have accumulated savings left over from the stimulus efforts. It was only a few months ago that it was noted there was over $7 trillion in global excess savings. That level has been coming down fast as the holidays provide an excuse to spend more while at the same time people are resuming their old patterns as far as travel and entertainment. By the middle of next year, it is anticipated that most of this extra cash will have been spent. This is when the issues of growth begin to fade – the shortages, inflation and the rest.

No End in Sight for European Energy Crisis

     Over the last several weeks the world has become well aware of the nature of international energy. A ripple or issue anywhere becomes a problem everywhere. The Europeans are dealing with a 600% increase in the cost of natural gas and that has triggered a crisis atmosphere throughout the region. If this is another cold winter the implications are dire as people will be quite literally facing a choice between eating and heating. The Europeans continue to get the vast majority of their gas from the Russians and Putin is engaged in what amounts to blackmail over the construction of Nordstream 2. The Russians want this pipeline built and they have been demanding that Europe clear the path and contribute to the project. This is not something the Europeans want to do. To put pressure on Europe the Russians have been holding up the transportation of that promised gas. At the same time, the Russians have been selling larger and larger quantities of that gas to China.

Analysis: The Europeans thought they had found a way to reduce that dependence with the construction of wind farms but this has been the year the wind has not blown and they are getting less than 20% of the energy they thought they would get from these installations. This has forced Europe to get LNG from anybody who will sell it to them and that has included the US. The demand for US LNG has spiked as it is not just Europe that wants that gas. The producers have a major market in Asia as well and that kind of demand kicks prices up in a hurry. This has forced US utilities that burn natural gas to turn to cheaper alternatives such as oil and that has contributed to the price hike for oil.

     The global oil producers are well aware that demand is very high right now – high enough to justify a surge in production activity but they are still being cautious when it comes to ramping up. It is tempting to assert that this is all the greed of “Big Oil,” taking advantage of the opportunity to hike prices but that assumption would be inaccurate. The reality is that oil producers are looking at a potentially very short-lived shortage and crisis and they have not seen the resumption of the demand they traditionally count on. The gas crisis in Europe could end in a matter of hours if either the Russians or Europeans backed off. The latest statements from the Germans suggest that Europe is not prepared to give way on the pipeline issue as they have flatly refused to provide the authorization. Russia assumed Germany would be forced to give in but the politics in Germany now make this impossible. Any new government in Germany will have to include the Greens as they have become the kingmakers by dint of their electoral gains in the last election. The approval of a second gas pipeline running through Germany is anathema to them and they categorically refuse to be part of any government that would allow it.

     The bottom line is that Europe will continue to block the pipeline and that puts the ball back in Russia’s court. They have no real reason to back off either as they are selling their gas to China and really don’t need that European market as much as they once did. The result is high gas prices and high oil prices for an extended period of time.

India’s Power Struggle

     This time we are not referencing the political version although that one continues to rage as well. The issue is power production and the environmental costs. The toxic smog layer that has engulfed New Delhi has become unmanageable and that has provoked regulators to take draconian steps. Six of the eleven power plants that feed power to the city have been ordered to shut down and there have been a host of new regulations imposed that shut down schools, ban trucks from the city and halt private sector construction. The actions are supposed to be temporary but nobody has been able to provide a timeline and these restrictions could stay in place for months.

Analysis: The dilemma has become all too familiar. It is impossible to argue that this level of health crisis can be ignored. The pollution in the city is killing people by the score. The only reaction left is to shut down economic activity to reduce power consumption but that act throws millions of people out of work and destroys thousands of businesses. Sound familiar? This is a version of the pandemic reaction. The system has not been able to deal with the core issue for years and now is left with only the most radical and destructive options. The grim reality is that pollution will remain deadly even with the shutdown and now millions will be threatened with other crisis situations. The viral threat presented by Covid 19 was new but viral threats in general are not. The world has had plenty of opportunities to prepare for threats that come from pollution and disease and the like but there never seems to be the willingness to engage until the situation becomes impossible to ignore.

Armada Strategic Intelligence System Starts to Show Some Weaker Numbers

    The most recent data from the Strategic Intelligence System is showing some signs of weakness as the pandemic threat reignites around the world. This is consistent with many of the global economic assessments released lately. The projections are still showing progress but it is not as robust. Check this out for yourself, the latest issue has been released. Your two-month trial is absolutely free – no obligations at all. Simply go to www.asisintelligence.com and engage with us. We continue to tweak the report with every issue – adding the content that readers have requested.

     For those that do not believe it until there is a graph – here you go. The price hikes in natural gas exceed anything that has been seen in this sector in decades.

What We Are Watching – From the Black Owl Report

OSHA Seeking Comments on Applying Vaccine Mandate to Small Business. There is an ongoing comment period in which OSHA is gathering information from small businesses about their approach to vaccine mandates and how difficult it has been for them to implement such standards. Some believe that this could be a pre-cursor to the Government expanding the vaccine mandate from private companies with 100 employees to perhaps the entire business community. The current private company mandate has been pushed back to January 4th, but the act will be enforced after that. According to the best we can gather, it looks like those that expect to get vaccinated by the deadline have to have their second shot before January 4th

Craving Logic

   I know, I know. Another gripe session. What can I say, I have been on the road for almost two solid weeks and I have not recovered my travel armor quite yet? On the other hand, I have noticed that many of my encounters have been with travelers experiencing the same issues. I know full well that I live (as do we all) in a society and that means that we must take other people into consideration. This is what prompts rules and regulations in the first place and most of the time we accept them as they make sense. Traffic lights are a very good thing indeed and I appreciate the importance of rules that respect the rights of others. What is not appreciated is the capricious or illogical rule.

     As I stood in line to board, two young guys were preparing to get on with their skateboards. The guy behind me was not happy as he had just had his new putter banned from the airplane as it took too much space. ???? A skateboard is ok – a putter is not? Earlier in the day two people attending the trade show were assailed for having their masks below their nose while three guys pushing a cart of bottled water strode past the same gendarme with no face covering at all. He just waved at them while preventing the two from entering. This kind of action is extremely common and extremely irritating. Most of us are ok with rules – even those that seem pretty silly and ineffective as long as the treatment appears fair. The moment that these arbitrary restrictions are revealed as such we lose patience.

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