NORTH AMERICA OUTLOOK

By Dr. Chris Kuehl

Shooting the Messenger

It is time for me to do some moaning and groaning. We, economists, are favorite whipping boys (and girls) –right along with meteorologists. There are many jokes that unfortunately hit pretty close to home. “The sole function of economic forecasting is to make astrologers look good.” Then there is the definition of an economist as someone who explains tomorrow why the predictions made yesterday didn’t come true today. The weatherman declares that it will be sunny, and sure enough, the outdoor wedding deals with a deluge. The reality is that economics (and weather) is affected by hundreds of variables. The economist also deals with the reality of human nature – the most volatile and changeable of all. It would be far simpler to simply throw one’s hands in the air and declare that accurate forecasting is next to impossible. Yet, the economist is asked to do this predicting and forecasting regularly. It is not unusual to be asked to forecast out five and even ten years despite how ludicrous that request is.

It is important to note two important aspects of these forecasts. The first is that most of these are better understood as warnings than predictions. The reality is that too many factors change to accurately estimate the economy in anything but the broadest terms. It is really too much to expect anyone to determine if the GDP will grow by 1.1% or 1.2%. The estimates of recession or inflation, or any other economic malady are better understood as a warning about certain policy directions or economic trends. For example, if the labor shortage is not dealt with, there will be higher levels of wage inflation. If the budget deficit is not dealt with, there will be policy implications. If the supply chain issue remains unsolved, the impact on the overall global trade pattern will alter, and so on.

The second aspect of the economic forecast is best understood by referencing our fellow travelers – the meteorologist. When one is told that there is a 45% chance for rain, it means that 45% of the specific area under investigation will receive rain, and the other 55% will not. The economist will note a recession or inflation or some other economic event, and it means that some sectors will experience it and others will not. An economy the size of that in the U.S. will always have down sectors during a boom and robust sectors during a recession. Some parts of the country will do better than others.

The bottom line is that forecasts are more reliable than they appear once the parameters are understood. The first step is understanding the limitations of any given prediction and then understanding the purpose of that forecast.

Having offered these qualifiers, what is it that economists are warning about? What are the crucial questions for the North American economy over the next several quarters? Four sets of alarms stand out as most pertinent to the overall manufacturing community – in Canada, the U.S., and Mexico.

Number One – Labor

There are many aspects of the labor issue that are causing deep concern for the economy, and they are all related in one way or another to shortages. There are not enough skilled people to take the jobs on offer – it is basically as simple as that. There have been warnings about this for decades, as the shortage was always inevitable. By the end of this decade, ALL of the Baby Boomer generation will have reached retirement age (76 million people in the U.S. alone). This has been an inexorable advance since that generation was born, and nothing much has been done to address it. There has been no federal immigration policy, no significant federal and few state job training programs, and little funding to encourage companies to implement their own.

Today the issue is wage inflation, as the most common approach to hiring is poaching another company’s employees. Add in the drain on the labor supply from the emergence of the “gig economy,” and the situation gets worse. The economic warnings have not been heeded, and now it is nearly too late to find solutions. Extend retirement age? Encourage immigration of skilled workers? These are not practical, and that leaves the expansion of robotics and technology. Canada has the same issue as the U.S. but Mexico has a different challenge as it has a much younger population but an ill-educated one and an economy that is not producing enough jobs for those with limited skills.

Number Two – Inflation

Much of the inflation issue can be laid at the feet of the labor situation at the moment, but the surge started with the collapse of the supply chain. The fact is that inflation was essentially exported when globalization began – companies could keep prices down through production in low-cost environments. The reshoring process has been great for recovering U.S. manufacturing capacity, but it has come with higher costs. Dealing with inflation from the central bank level is like taking a baseball bat to the economy as it is withdrawing money from the system. As bad as inflation is, the cure is almost worse as it pushes the economy toward recession. The economists are warning that a tough position on inflation means a significant downturn but failure to press on higher costs will place millions of people in financial jeopardy. The impact of inflation is most significant on lower-income populations, such as that in Mexico.

Number Three – Recession

The truth is that the U.S. rarely sees a universal recession. It is just too big and diverse, and that means that there is always a sector that does well when others do not (and vice versa). This is not a luxury enjoyed by Canada and Mexico. Canada is still deeply connected to commodity demand, and its industrial sector relies on the U.S. Mexico is highly dependent on U.S. engagement for all four of its economic pillars (manufacturing, oil production, tourism, and remittance from Mexican workers in the U.S.). The sense is that recession will hit the U.S. in the next couple of quarters but is likely to be relatively mild unless there is more aggressive interest rate hiking, and that is what the economic warnings have been about. Manufacturing mostly escaped the 2020 recession as the lockdown was aimed at the service sector. The downturn has now been more general and has affected manufacturing more. On the other hand, there has been growth in the automotive sector, and that benefits the U.S., Mexico, and Canada.

Number Four – Debt

All three nations are carrying more debt than is acceptable. The U.S. is carrying a debt-to-GDP ratio of 128%, Canada is at 89.7%, and Mexico is near normal levels at 45.5%. If it makes you feel any better, Japan is at 266%, and by some measures China is at 280%.

The U.S. doesn’t suffer the way that other nations do, as there is always a market for U.S. bonds, and that means the U.S. can always access cash when needed. The problem for the U.S. is that debt service is now at nearly $500 billion a year, and that makes this the fifth largest share of the federal budget (behind Social Security, Medicare, Medicaid, and the military). The U.S. also goes through the political antics of the debt ceiling. Other nations contend with spending and revenue decisions through the budget process, and the U.S. waits until there is a budget and appropriations. Then it decides if it is going to honor its commitments. The warnings have been clear for years –carrying this debt is akin to having a chronic disease and doing nothing about it.

Author profile: Dr. Christopher Kuehl (Ph.D.) is a Managing Director of Armada Corporate Intelligence and one of the cofounders of the company in 1999. He has been Armada’s economic analyst and has worked with a wide variety of private clients and professional associations in the last ten years. He is the Chief Economist for the National Association for Credit Management and is on the Board of Advisors for their global division –Finance, Credit and International Business. n

JUNE 2023