“The American economy is adrift, like a huge sailing ship,” C.D Howe Institute senior fellow Glen Hodgson wrote in an intelligence memo Friday. “When tides are high and winds are favourable, it can be headed in the right direction. But when conditions darken, the U.S. economy will have no mooring or anchor. It could even end up crashing on the rocks again as it did in 2008.”
Hodgson’s memo, “Four (Macroeconomic) Reasons to Worry,” comes after a month of rebounding equity markets. S&P Dow Jones Indices reports an 8% January gain for the S&P 500, with small caps performing even better.
Canadian equities were stronger, as the S&P/TSX Composite started the year with a 9% gain.
Volatility moderated in equity markets, with a more dovish Fed, an oil rebound and improvement in the U.S.-China trade outlook driving results, an S&P DJI commentary said.
After a brutal end to 2018, investors have welcomed the results. Hodgson acknowledged reasons for short-term optimism, including low unemployment and forecasts for solid growth in 2019. But he points to four macro concerns with the U.S. economy.
- Large deficits and public debt: While problems pre-date the financial crisis, the Trump administration tax cuts have made the situation worse, Hodgson said. The Congressional Budget Office projects a US$1-trillion fiscal deficit by 2020, with public debt exceeding 90% of GDP that year. Many economists have forecast a recession beginning next year, partly due to the stimulus from U.S. tax cuts running out and the debt consequences becoming more apparent.
- “Monetary morphine”: The U.S., like much of the global economy, has been “medicated for a decade with truly exceptional monetary stimulus,” Hodgson said, calling it “monetary morphine.” The drop in stocks in the fourth quarter of 2018 shows the U.S. economy hasn’t “completed its withdrawal.” This forces the Fed to tread very carefully to avoid destabilizing the recovery.
- Lack of trade strategy: The Trump administration’s withdrawal from the Trans-Pacific Partnership, its insistence on a new NAFTA while maintaining steel and aluminum tariffs, and its trade war with China have all been made “without an overarching strategy and with no consideration of the collateral damage,” he said.
- Climate change: The U.S. has withdrawn from the Paris Accord and pulled back other environmental regulations, ignoring “the ultimate existential threat facing the United States and the world,” Hodgson said.
All Canada can do is prepare itself to deal with the consequences of these four factors, Hodgson said, and implement strong policies.