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The US economy is fine, but trade storms are gathering

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Workers assemble cars at the newly renovated Ford’s Assembly Plant in Chicago, June 24, 2019.

Jim Young | AFP | Getty Images

A former colleague of mine at the OECD (a Paris-based public policy research organization financed by member country governments) smiled at me over a five-o’clock beer with a cutting remark that reports of economic analysis were “a dime a dozen.”

I felt like wiping the floor with him, but gulping down my drink, I thought again how low a once revered profession of “worldly philosophers” had fallen.

Economists, of course, bear the onus of that reputational collapse. The person who put the imprimatur on our reports had no formal economic training, and his main criterion for the reports’ passing grade was that they should be “pleasingly non-strident.”

So, in that spirit, here are a few thoughts on the current state, and, bravely, on the outlook of the U.S. economy, based on the evidence available at the close of trading in New York last Friday.

Steady activity and strong drivers

The latest comprehensive survey evidence on 90% of the U.S. economy, reported earlier this month by the Institute of Supply Management (ISM), showed that output continued to grow during July in 13 out of 18 non-manufacturing industries under review. 

The activity for the sector as a whole indicated uninterrupted growth for 114 consecutive months.

According to that survey, employment was growing, supplier deliveries were slowing, inventories were falling and prices were declining. All those are encouraging signs for a steady growth of output and employment in the months ahead.

The ISM also reported that the index of manufacturing activity last month remained in the positive territory, while staying on a downward trend for nearly three years. The manufacturers’ employment grew, customers’ inventories were too low and prices decreased at a faster rate, the index showed.

And there was more evidence last week on the largely outsourced U.S. manufacturing sector. The monthly survey of the Federal Reserve showed that the industrial output was stagnant since the beginning of the year, but it still eked out a 0.5% increase in the 12 months to July.

That is the freshest snapshot of the U.S. economy we have at the moment.

Now, to gauge where the economy is likely to go in the months ahead, we have to look at the variables driving demand, output and employment.

Jobs, household incomes and credit costs directly underpin private consumption, residential investments and business capital outlays — and make up 87.2% of the U.S. economy in the second quarter of this year.

With an unemployment rate of 3.7% in July, most people agree that the U.S. has a fully-employed economy. Others may beg to differ, because the real unemployment rate is 7.1% — if you add 4 million involuntary part-time workers (because they cannot find a full-time job) and another 1.5 million who are no longer looking for a job, to the 6.1 million people who officially reported out of work.

Things get worse and uglier if you consider that only 63% of the U.S. civilian labor force is in the labor market, while 96 million of Americans are wasted resources.

Trade disputes and hybrid wars

With all those caveats, it seems that jobs are plentiful, with some sectors of the economy, such as retail trade and public administration, reporting labor shortages.

The real after-tax household incomes are also looking good – growing at an annual rate of 3.3% in the first half of this year, with savings as a percentage of disposable personal income hitting a stellar 8.1% as of last June.

Credit flows? A real bonanza, with the Fed’s high-powered money hitting last week a mind-boggling $3.3 trillion, and excess reserves in the banking system (money banks can lend) at $1.4 trillion. The right-hand side of the Fed’s balance sheet is now four times larger than during the pre-crisis months in 2008.

And that’s not enough. President Donald Trump wants more, much more, while the Fed’s cacophony of contradictory statements fails to deliver an authoritative and compelling defense of one of the most important parts of American public policy.

Exports — 13% of the U.S. economy — are the only other major GDP component I left out because they are mainly determined by demand coming from the European Union, China, Japan, Canada and Mexico. In the first half of this year, those economies took $537 billion of American goods sales abroad — about two-thirds of the total — and 2% less than a year before.

China looms large in the U.S. trade picture owing to a systematic and outsized trade surplus on American goods trade, running at an annual rate of $334 billion in the first six months of this year.

The China trade story is a comedy of errors. The U.S. is left holding the bag for squandering an unassailable case where Beijing had to yield — and was apparently willing to yield until Washington tried to use trade to impose changes on China’s economic and trade policies under a permanent threat of American sanctions.

As a result, problems of China trade have now gone far into the political and security minefields. Beijing believes that the ongoing violent social unrest in Hong Kong is being spearheaded by the U.S., and is suspecting that Washington wants to open another front with large arms sales to Taiwan. The Korean Peninsula and Japan are also part of the U.S.-China confrontation, with potentially highly damaging economic implications for Tokyo and Seoul.

China is cutting down purchases of American goods and services, and is ready to retaliate against any further impositions of American tariffs on Chinese goods shipped to U.S. markets.

In spite of that, Trump says that the U.S.-China trade war will be a short one, and that any trade deal will be on Washington’s terms. Don’t believe a word of it.

Investment thoughts

A fully-employed U.S. economy, operating above its noninflationary growth potential, needs no further help from an already extraordinarily easy monetary policy with negative real short- and long-term interest rates.

The monetary policy has nothing to do with tanking equity markets.

The problem is elsewhere, because traders see no end to America’s unfolding trade disputes with Europe and China. Markets are also watching the burning fuse on tinderboxes in the Persian Gulf, Hong Kong, Taiwan, the Korean Peninsula and the contested maritime borders in the South China Sea.

Will the French President Emmanuel Macron summon the courage and wisdom, during this week’s G-7 summit in the French city of Biarritz where leaders of U.S., Japan, Germany, France, U.K., Italy and Canada will meet? Will Macron be able to calm down an American president furiously pushing his European allies into open hostilities with China and Russia?

Macron’s pointedly scheduled meeting on Monday, Aug. 19 — five days before the G-7, with Russian President Vladimir Putin at his summer residence on the French Riviera is a message that France wants Europe out of a senseless military confrontation with unmovable European and Asian nuclear superpowers. He apparently wants to do that with no concession to Russia — a repeat of his frank and robust talk with China’s president in Paris last March.

Commentary by Michael Ivanovitch, an independent analyst focusing on world economy, geopolitics and investment strategy. He served as a senior economist at the OECD in Paris, international economist at the Federal Reserve Bank of New York, and taught economics at Columbia Business School.

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America is ignoring Iraq’s protests at its peril: security experts

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A demonstrator carries an Iraqi flag during ongoing anti-government protests in Baghdad, Iraq November 4, 2019.

Thaier Al-Sudani | Reuters

Iraq is descending into its most violent days since the battle against ISIS concluded in late 2017 — and the world is completely underestimating its significance, regional experts told CNBC at the Middle East’s premier oil and gas conference this week.

The second-largest OPEC producer has seen protests every summer for the last several years over economic grievances, met time and time again with empty government promises of reform that go unfulfilled. But this year’s demonstrations are different, spilling over into demands for a full-on political overhaul and attracting elements like Iranian-backed forces and other extremists that threaten to hijack the protest movement and potentially bring the U.S. into deeper involvement.

“From a security perspective, I would say that the Iraq story is the most under-covered story in the region right now,” Amos Hochstein, former special envoy for international energy affairs under the Obama administration, told CNBC on Wednesday.

“Because the forces that are outside, the external forces that have decades of interest (in Iraq) are not going to go away quietly. They will affect the economics of the region potentially, and they can affect the security beyond the region of Europe and eventually the United States.”

Some 300 people have been killed and more than 2,000 injured as protests rocking the country of 38 million draw a harsh response from state security forces and other unidentified entities. Authorities have taken extreme measures like shutting down the internet and using live ammunition against protesters in an attempt to crack down on the uprising.

Amnesty International has described the government response as “nothing short of a bloodbath.”

Protesters report plainclothes snipers shooting and killing civilian demonstrators, with many Iraqis pointing to Iranian-backed paramilitary fighters or “anonymous thugs” as some of the forces sowing further violence and confusion.

What we do know is that our adversaries, both groups like ISIS, al-Qaeda or Iran, thrive in chaos and a vacuum. What we’re seeing in Iraq today is vacuums being created and then occupied.

Amos Hochstein

fmr U.S. special envoy for international energy affairs

Iraqis across the country, particularly in Baghdad and cities of the country’s oil-rich south, are angry over grievances that lie at the heart of protests similarly taking place in Lebanon and Algeria: rampant state corruption, high unemployment, and a lack of basic services provision.

Iraqi cities regularly suffer power cuts, garbage is left uncollected and there is a broad consensus that the state serves the interests of the elites, not the people — and all this in a country that is a major crude oil producer, sitting on the world’s fifth-largest proven oil reserves and pumping nearly 5 million barrels per day. Its southern Basra province, afflicted with some of the worst poverty and lack of public services in the country, hosts international oil hegemons like Exxon, BP and Total.

Rocket attacks on US forces?

The comments come just days after 17 Katyusha rockets were fired at an Iraqi military base south of Mosul that houses U.S. troops. Some 5,000 American troops remain in the country, providing training and security assistance and supporting a U.S.-led coalition fighting what remains of ISIS.

Responsibility for the rocket attack has not been claimed and no casualties have been reported, but commodities expert and former CIA analyst Helima Croft sees this as a dangerous risk that could bring the U.S. into further confrontation with Iran. Hardline Iranian-backed Iraqi militias regularly threaten to attack Americans inside the country.

“If they hit that base and if you had dead U.S. servicemen, that would certainly be a red line where we could be hitting something in Iran, could we be bombing (Iranian port) Bandar Abbas? Potentially,” Croft said. “Iraq is where I think this whole thing comes to a head.”

The rocket attack, and protester anger at the corruption bred in a government system the Americans helped set up, is a sobering reminder that 16 years after its invasion, the U.S. remains tethered to the turbulent story of Iraq.

‘If you break it, you own it’

The protesters in Iraq are also fed up with foreign influence in their country’s affairs — many protest signs and chants say “No America, no Iran.” Observers say this presents a threat to Iran’s deeply held influence in the country, something that Tehran is not likely to take lightly.

“You have a battle for who is going to win the proxy war in the Middle East,” Croft said. “Think about Lebanon and Iraq, these two places where Iran has a strong foothold. The question is, are they going to want to surrender their foreign policy and strategic influence? I don’t think they will.”

For Hochstein, who opposed the 2003 U.S. invasion of Iraq, the U.S. has a serious responsibility — and the Donald Trump administration is ignoring it.

“There is a basic rule of if you break it, you own it,” Hochstein said. “It was us who broke it. And the consequences of that, we are living through today.”

Demonstrators run as Iraqi security forces use tear gas during a protest after lifting of the curfew, following four days of nationwide anti-government protests turned violent, in Baghdad, Iraq October 5, 2019.

Thaier Al-Sudani | Reuters

The solution, the former diplomat believes, is engagement — but that doesn’t need to be boots on the ground.

“We have come to this dichotomy now, we’ve come to this extreme where it’s either we have to be involved, meaning troops, or the alternative is nothing. And that is not the case here. What we’re seeing now is that during the Trump administration, we’re seeing no troops and no diplomacy.”

Hochstein stressed the need for American engagement to “at least put the path of dialogue on the table so that you can see a horizon for solutions, versus a total absence from the scene that allows the protests and the violence to take on a life of its own.”

“And then you don’t know where it ends. And what we do know is that our adversaries, both groups like ISIS, al-Qaeda or Iran, thrive in chaos and a vacuum. What we’re seeing in Iraq today is vacuums being created and then occupied. And the more we retreat, both militarily and diplomatically, the more vacuums we’re creating to be occupied by our opponents.”

‘All of them out’

Former Secretary of State Condoleezza Rice, speaking at the Abu Dhabi International Petroleum Exhibition & Conference (ADIPEC) this week, told CNBC, “We certainly have a responsibility in Iraq.”

“The Iraqi situation is one I have great sadness for because I think the Iraqis have a chance to govern wisely. Unfortunately they’ve not really delivered the services the people expect, the jobs people expect,” she said.

Rice was a leading proponent of the 2003 Iraq invasion, and remains a controversial figure from the Bush administration. Critics of the Iraq War say the former diplomat remains responsible for the chaos and violence that engulfed the country as a result.

Iraqi Prime Minister Adel Abdul Mahdi, who came to power only a year ago, has promised more public sector jobs and limited economic reforms, but the pledges have failed to satisfy popular anger. The U.S. embassy in Baghdad on Sunday called for new elections, but Iraqis protesting say that will only result in the same faces reappearing in power. The leaderless movement has seen demands ranging from a new generation of leaders to a return to military dictatorship.

“It reminds me of what we saw in Lebanon — protester demands have morphed into ‘all of them out’,” Croft said, referring to the mass protests sweeping neighboring Lebanon where citizens are calling for the removal of the entire political class. She noted the same happening in Algeria, where popular protests have endured since last spring.

“‘All of them out’ seems to be a movement sweeping across the region. And I think this is an under-reported story,” Croft said. “A movement sweeping across the Middle East.”

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Airbnb CEO Brian Chesky on the most bizarre customer complaint

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Since launching Airbnb in 2008, CEO Brian Chesky has pretty much heard and seen it all when it comes to customer complaints.

But one stands out as the most bizarre.

“One day, a customer calls us and says they want a full refund. We say, ‘why do you want a full refund?’ They said because the house is haunted and there’s a ghost,” Chesky said at The New York Times DealBook event on Nov. 6.

As with any other complaint, Chesky’s team called the hosts to relay the message and find out what happened. Chesky said he expected the hosts to say there was no ghost and that would be the end of it. But that’s not what happened.

“The host confirms the ghost [but] says that it’s a friendly ghost named Stanley and that the ghost is in its listing description,” Chesky said.

Sure enough after reading the listing, Stanley “the ghost” was mentioned, Chesky said.

“So we go back to the guests and the guest says, ‘Yes, we knew about Stanley. That’s why we booked it, but Stanley has been harassing us all night,'” Chesky told the crowd at DealBook. They were upset he wasn’t a friendly ghost. “How do you adjudicate that?” Chesky said. (He didn’t say whether the guests received a refund.)

For Chesky, the story is not just funny, it also illustrates that in today’s sharing economy, where businesses are built on trust — Airbnb only works if people are willing to trust their homes to complete strangers — companies need to be flexible and open to a wide range of issues.

“There is no playbook for this stuff,” he said.

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Customers cautious due to trade war, Brexit

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Cisco Systems Chairman and CEO Chuck Robbins told CNBC on Thursday the company’s larger customers are pausing their spending plans due to global economic uncertainties.

“They’re just expressing caution that they’re concerned about what’s going on in the macro environment,” Robbins said on “Squawk on the Street.”

Dow stock Cisco tumbled after the technology conglomerate late Wednesday reported fiscal second-quarter earnings that came in below estimates and lowered forward guidance. Cisco blamed the disappointing results on reticence in the face of a slowing global growth — partly based on fears of that Britain’s exit from the European Union and the U.S.-China trade war won’t get solved.

“We don’t see anything in the short term that will definitively resolve the issues we’re seeing around the world,” Robbins said. Though he did says that progress on a “phase one” trade deal between the world’s two largest economies “would help” with customer confidence.

Shares of Cisco were down more than 7% on Thursday morning and on pace for their worst day since mid-August. Cisco is up almost 5% year-to-date compared to the S&P 500‘s nearly 24% advance in 2019.

Robbins cited similar global pressures when speaking to analysts on Wednesday’s post-earnings conference call. Cisco saw “a bit of a pause” in the quarter and that some large deals were made but “got done smaller,” he said.

Beijing and Washington are working to cement a “phase one” trade deal, which was announced in principle last month. However, negotiations have hit a snag over a number of issues.

The U.S. is trying to secure stronger commitments from China on intellectual property protections, amounts of agriculture purchases, and an end to what it sees as forced technology transfers. China wants a rollback of tariffs, while reportedly balking on putting a specific number on farm good buys. Washington has placed tariffs on more than $500 billion in Chinese goods. Beijing has put duties on about $110 billion in American products.

In August, Robbins told CNBC that Cisco saw an impact on its business in China due to the ongoing trade war.

“We certainly saw an impact on our business in China this quarter. A lot of state-owned enterprises, I think where they have options, they’re choosing local manufacturers,” Robbins said at the time. “We don’t know if that’s a short-term thing or a long-term thing.”

— CNBC’s Jordan Novet contributed to this report.

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