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America s economy - The lonely locomotive

2014-12-02 11:34:49

A weaker world economy does not hurt, and may help, America

Nov 29th 2014 | From the print edition

THERE is a spring in America s step these days. A revision released this week

raised annualised economic growth in the third quarter to 3.9%; it has averaged

more than 4% in the past two quarters. The irrepressible stockmarket keeps

hitting new highs, the most recent on November 26th. Job growth is

accelerating. This is all the more remarkable because the rest of the world has

hit the buffers. Japan has slid into recession, Europe is flirting with

deflation and China has cut interest rates as growth flags. On November 25th

the OECD, a club mainly of rich countries, said its members economies will

grow just 1.8% this year and 2.3% next, about half a point slower than

projected in May. Risks, it said, are on the downside.

Why the divergence? In part, it is a statistical quirk. America s economy

shrank in the first quarter, so its recent strength is from a low base. Output

in the third quarter was up an unspectacular 2.4% from a year earlier; the pace

of growth in the current quarter will probably be similar. That is still much

better than the rest of the world, though, for which there are two main

reasons: trade remains a small part of America s economy, and the rest of the

world s misfortunes actually help, by lowering interest rates and the oil

price.

To be sure, feeble foreign markets have taken a toll: American exports are up

just 1% this year while imports are up 3%. Trade has thus been a modest drag on

growth, after making a small contribution in 2012 and 2013. Nonetheless,

exports, at just 13% of GDP, are less important than in any other OECD country,

and exposure to the euro zone is particularly modest. The OECD simulated the

external repercussions of a downturn in the euro zone in which expectations of

inflation fell by half a percentage point, stockmarkets dropped 10% and

households had to pay an additional percentage point to borrow. It concluded

that growth would fall by 0.17 percentage points in Britain, 0.15 in Japan,

0.14 in China and just 0.08 in America. While American multinationals have seen

foreign profits suffer, domestic profits have more than compensated, so overall

profit margins remain near record highs (see chart).

Looser monetary policy in Europe, China and Japan is pushing down interest

rates in all those places. That has driven their currencies down and the dollar

up about 6% on a trade-weighted basis since July, to the detriment of American

exports. But in the long run America will benefit if other big economies stave

off disaster thanks to this stimulus; in the meantime, low interest rates

around the world have helped to restrain borrowing costs in America, propping

up housing.

Subdued global demand has also lowered oil prices, as has stronger supply from

both America and OPEC. Surging domestic production and falling imports make

cheap oil less of a boost than it once was, but it is still good for the

economy.

Bruce Kasman of JPMorgan Chase says only three times in the past 25 years has

the dollar risen and oil prices dropped as much as this year: in 2001 and 2008,

when the world was entering recession, and in 1997-98, during the Asian

financial crisis. The latter event was followed by a consumption boom in

America, and he reckons it is the best parallel with the present. Global

consumption, he notes, has been inversely related to headline inflation in

recent years and this time will be no different. Lower inflation in America, he

reckons, will boost purchasing power by 2% at an annualised rate over the

current and coming quarters.

There is a potential pitfall, however. Global recessions are seldom spread

through trade linkages, but by a common shock, such as a financial crisis or a

sharp jump in oil prices. Another European recession or a debt crisis in China

could, via financial markets, fray confidence everywhere, America included.

That would expose another problem. Although inexpensive oil is good for

consumers, it may also lead them to expect lower inflation, thereby raising

real (ie, inflation-adjusted) interest rates. There is little the Federal

Reserve could do about that: nominal interest rates are already close to zero,

and cannot fall below it, since people would just hold their savings in cash

instead.