by Simon Hunt   

  This will be a shortened version of our usual monthly economic reports, since we have posted several short notes on the economic and financial markets.This year is likely to be a year of surprises. Global economic growth will disappoint. The intrusion of governments into all matters financial, economic and even personal is a cause for uncertainty associated with policy risks; and markets hate uncertainty. It is these policy risks which could have the biggest impact on the potential global recovery in the economy and financial markets.

2010 should also be the year when many countries from the USA to the UK to China will experience the first moves towards policy tightening and the gradual withdrawal of financial and monetary stimulus. Moves by China to begin tightening monetary policy, even though they are only tinkering with the problem of excess liquidity, are a leading indicator to world markets of this changing environment. The consequences of this tightening are not yet visible, but could well become far reaching.

The West’s response to China’s undisputed rise in power and influence will be all-important. The history of empires suggests that America will not allow its global superpower status to be handed over willingly. There are bound to be geopolitical clashes over the coming decade, whether over the Middle East, Taiwan, Japan etc. These will be an intrinsic part of the global transition from a unilateral world to a world dominated by two powers.

In the meantime, trade will be the central issue, a theme which we have focused on for a long time, so will not express again our thinking beyond concluding that the trend is now towards manufacturing being based close to points of final consumption, rather than in some distant country or region like China and Asia.

This is both a political and economic conclusion. Pete Peterson, for instance, calls for business leaders to re-enact the non-partisan Committee for Economic Development that was formed in the midst of WW11 by folks like Paul Hoffman, Bill Benton and Marion Folsom, or something along those lines, in order to try and solve the nation’s structural problems, ranging from rising budget deficits, the $60 trillion in unfunded government liabilities and promises, to the growing intrusion of government into business and finance.

Part of this coming revolution will surely be to bring back within American borders much of the manufacturing capacity needed for its own economy, rather than having that capacity located offshore. Government has begun this process by wielding a stick, threatening to curtail many of the financial benefits and tax breaks that US companies currently enjoy from their offshore operations. The next stage will be to offer the carrot – by granting tax and other incentives for US multinationals to make that move.

This relocation of capacity will not happen on its own: it will be an integral part of the US using its scientific and engineering prowess to produce state-of-the art products, whether by the development of intelligent cars, telemedicine, smart robots, artificial intelligence and other devices. In short, it will be a combination of America’s power of technology and the political and economic forces pulling manufacturing back home which will revolutionaries the global economy with similar developments to be seen in Europe and Japan. It will not be just competition by price, but competition by quality and design which will allow America to reemerge as a dynamic economic power sometime by the end of the 2010s.

First, though, there must be the Schumpeterian destruction of outdated plant and the financial system which then allows a return to traditional ratios of capital structures with a focus on long-term investment. It is this destruction which always occurs in the Winter of the K-Wave, probably starting around 2012/13 in a succession of down-waves which don’t terminate until circa 2018. This does not mean that the entire period is one long depression, but that recoveries are relatively short within an overall downturn.