Open
Letter to the Next President, Part 3
By John Mauldin
“The
liberating army we need in the Americas today is one of leaders who come
together in peace, in the spirit of cooperation.”
–
Oscar Arias
“There
are two Americas – separate, unequal, and no longer even acknowledging each
other except on the barest cultural terms.”
–
David Simon
![](http://ggc-mauldin-images.s3.amazonaws.com/uploads/newsletters/160327-01.jpg)
Today
we continue my series of open letters to the presidential candidates. In the
meantime, we’ve drawn a little closer to knowing whom the two major parties
will nominate. A few people are vowing to consider minor parties, too.
In any
case, whoever replaces Barack Obama will face a world of challenges. The good
news is that most (not all) of the challenges are manageable – given the
willingness to make very difficult choices. Remember, in this letter we are
focusing on the economic realities that the new president will face, and those
realities will force stark choices in other arenas such as healthcare, defense,
and geopolitics. The economic picture is unequivocal – more so than in any era
since Roosevelt – and will compel the president to either choose among merely
very difficult options at the beginning of his or her term, or to put off
choosing and be left with only seriously bad choices toward the end of a first
term. There will be no easy choices, and the process will be messy, but I think
we’ll will muddle through.
In Part
1 we looked at China and Japan. Part
2 covered Australia, India, the Middle East and Europe. That leaves Africa,
South America, and North America. Let’s dive back in.
Dear
Presidential Candidates:
Many
Westerners still think of Africa as the Dark Continent – a mysterious, unknown
place brimming with danger. Many Africans think the same of the West. Faraway
lands are always mysterious and a little forbidding until you visit them, or at
least try to learn about them.
Having
been, at last count, to 15 African nations, I have learned how little I know
about Africa. It is a land of astonishing economic and cultural diversity. As
president, you shouldn’t have an African policy – you should have a whole
series of policies for different parts of Africa. One size will most definitely
not fit all.
You
should also remember that your actions as president will have consequences for
future presidents. Demographic projections suggest that by the year 2100
Nigeria will have a larger population than China will. Africa is going to make up
for lost time. From an economic standpoint, Africa as a whole is unlikely to
directly impact the United States for years to come, but there is an
opportunity in Africa that we have neglected for 100 years.
Owing
to the original colonial presence of the European powers, the various nations
of Africa are still economically connected to Europe. I remember being in Zaire
(now Congo), and meeting a young man who, oddly enough, is now one of the
country’s leading politicians. Kinshasa was a town of multiple millions of
people, and the local TV station did a story on “the” American who was visiting
and looking to do business. Talking with the European expatriates there, I was
left with the impression that in the early 1990s there may have been fewer than
100 adventurous souls from the United States on the whole continent. Given the
ease with which Europeans bribed their way into business in the countries I
dealt with – and the fact that if a US businessman acted similarly, he would go
to jail – US entrepreneurs started with one hand tied behind their backs.
Thankfully,
attitudes and practices are changing, and there is an anticorruption movement
in a host of African countries today. Africa is going to be one of the growth
stories of the coming 30 years, and it is a place where US businesses should
definitely be involved. The US can facilitate that involvement by appointing
ambassadors who are not just career diplomats looking to check another box on
their résumés but are instead actually US businessman with connections who can
introduce US businesses that would like to get involved. Not only would this
approach help our trade balance, it’s just good basic policy. In general,
Africa doesn’t need aid, but it does need our business acumen.
Oddly
enough, Africa’s relative lack of development may help it leapfrog the rest of
the world. Instead of slowly replacing outmoded telecom and energy
infrastructure, Africa is right now expanding mobile internet and solar energy
capacity faster than some developed nations are. Kenya’s M-Pesa payments
platform is helping millions of the “unbanked” enter a thriving economy, even
as the US struggles to adopt microchipped credit cards.
South
Africa, where I have many good friends, is struggling a bit from the
commodities downturn and some unwise decisions by the Zuma government. (I have
met with Zuma three times, and each time he affirmed that he wanted to create
economic growth and change. Instead, he has done nothing and made the situation
far worse.) Thankfully he will be leaving soon, and South African
businesspeople may once again have an opportunity to prosper.
As
president, you can set up the US to have good relations with Africa, or you can
create damage that will take decades to fix. Choose wisely.
Our
next flight takes us westward to South America. Here we find a blend of good,
bad, and very bad news. We’ll start with the country in the worst fix, which is
definitely Venezuela. The word meltdown
is no exaggeration here. Years of socialism are having the predictable result.
Unlike
the Socialism Lite that Senator Sanders represents, Venezuela has the real
thing. Government controls the means of production and so produces the wrong
things. The result is massive inflation and a crazy mix of excesses and
shortages – but no shortage of misery.
The
oil price collapse hasn’t helped. Venezuela’s high production costs made it one
of the first victims of the downturn and will also make the country’s recovery
that much harder. I do not know a painless way to pull Venezuela out of its
hole. I feel terrible for the people who must live in this manmade economic
disaster zone.
A
collapse in Venezuela could lead to a possible interruption in a significant
part of our oil supply. It’s not that there’s not plenty of oil in the world,
but many of our refineries are set up to handle the rather thick, low-grade oil
that comes from Venezuela. Retooling the refineries would be time-consuming and
very expensive. There is little that you as president can do to keep
Venezuela’s oil flowing, but the situation is one to watch.
You
will not be able to ignore Brazil, the world’s eighth-largest economy and
fifth-most populous country. The outlook there is better than in Venezuela, but
not by much. You are no doubt aware of the enormous scandal that is going on at
the highest levels of government over bribery and corruption charges involving
major government figures and Brazil’s national oil company, Petrobras.
President Dilma Rousseff is deeply implicated and will likely face impeachment.
A recent conversation between her and former President Lula has been made
public and furthers the impression of corruption.
The
Brazilian economy shrank 3.8% last year and is still heading south. It is not
likely to turn around until the political situation has been settled. Ordinary
Brazilians are making their displeasure known through massive street protests,
but it is hard to know from afar exactly who is unhappy with whom. Brazil’s
poorest have been in dire straits for a long time. The wealthy Brazilians caught
up in the scandals also control the country’s media outlets.
Making
a bad situation worse, the mosquito-borne Zika virus has brought to Brazil a
heartbreaking wave of deformed infants, with more on the wayexpected. And the
country will host this year’s summer Olympics, diverting resources from the
other problems and showing the whole world a nation in distress. (The Zika
virus is a real concern, as it is likely to come to the United States sooner or
later, and the Southeastern part of the US is home to the type of mosquito that
carries the virus.
There are companies developing both a cure and a preventive
vaccine, but their efforts are bogged down in bureaucracy, which you as
president could cut through.
As
with Venezuela, you may not be able to help Brazil much, but you also can’t
ignore it. US businesses and investors poured capital into Brazil when it
looked like a promising emerging market. Those investments don’t look so hot
now.
Argentina
is another economic basket case, but one that actually appears to be improving.
Argentina cycles through huge ups and downs. The government defaulted on about
$100 billion in international debt back in 2001. It is now in final
negotiations with some creditors who declined to accept previous restructuring
offers. If the parties can reach a deal, Argentina will again have access to
global capital markets.
That
deal can’t happen too soon. New President Mauricio Macri says he will reduce
deficit spending and keep inflation down to “only” 20–25%. He has already
lifted currency controls and done away with agricultural export tariffs. These
are important steps but only a beginning.
Finally,
let’s head up to Mexico, our North American neighbor and trading partner. I
find it stunning how ignorant most US citizens are about Mexico. On a
purchasing-power-parity basis, Mexico is the 11th-largest economy in
the world – larger than Italy, South Korea, Canada, Australia, or Spain. It is
generally growing faster than the countries ahead of it on the list. It is not
located in a faraway continent like Africa – many of us could easily drive from
our homes to the border in less than a day. Yet we still have a caricatured
view of Mexico. The caricatures do fit in some instances, but Mexico is so much
more.
My
colleague George Friedman recently shattered some misconceptions in an
excellent article, “Mexico
as a Major Power.” A quick excerpt:
Mexico
is commonly perceived, far too simplistically, as a Third World country with a
general breakdown of law and a population seeking to flee north. That
perception is also common among many Mexicans, who seem to have internalized
the contempt in which they are held.
Mexicans
know that their country’s economy grew 2.5 percent last year and is forecast to
grow between 2 percent and 3 percent in 2016 – roughly equal to the growth
projection for the US economy. But, oddly, they tend to discount the
significance of Mexico’s competitive growth numbers in a sluggish global
economy.
Here,
therefore, we have an interesting phenomenon. Mexico is, in fact, one of the
leading economies of the world, yet most people don’t recognize it as such and
tend to dismiss its importance.
Some
of you candidates are having great success spinning Mexico as some kind of
conspiracy of nefarious people wanting to sneak into our country and do us
harm.
Yes, people do cross the border illegally and ought to be stopped. But
the irony is that today more Mexicans here illegally are going back to Mexico
than are coming in.
This has been the case since the Great Recession hit. Over
one million Mexicans, including US-born children, have left the US for Mexico
since 2009, far more than have entered illegally. They cross the border headed
south because they see better
opportunities in Mexico than they do in the US. That is the real problem you
should talk about – and try to change, if you reach the White House.
I am
not arguing that we don’t need to control our borders. Of course we do. Every
nation should. But we need to remember that we have right next door to us a
country that is quickly becoming an industrial powerhouse. In 20 years Mexico
is likely to be one of the five largest economies in the world. We need to
figure out how to do more business with Mexico, not less. The country is going
to become a huge potential market for us.
Our
other neighbor, Canada, managed to avoid much of our last financial crisis, but
its turn finally came. Instead of housing, it was energy prices that pushed
Canada toward the edge. The country is now in a technical recession, one from
which the new Justin Trudeau government promises it will escape by resorting to
old-fashioned fiscal stimulus. Keynes himself would be proud.
Will
Trudeau fail? Maybe, but it won’t be for lack of trying. The forthcoming
deficit spending will add to an already significant debt burden. I would be
very concerned if I were a Canadian. Thegovernment is well on its way to
amassing the kind of permanent debt burden we enjoy (?) here in the US.
The
whole point of fiscal stimulus is to boost consumer demand. Give people cash
and they will buy more stuff. Yet lack of demand is not Canada’s problem,
especially in the energy-driven provinces. Depressed oil prices are the
problem. Trudeau’s stimulus plans will do nothing to raise oil prices. That
problem is far outside his control.
I fear
Canada will fall into the same trap we are in. We ran deficits thinking they
would restore growth, boost tax revenue, and let us pay down our debt. In fact,
we got growth that is mild at best, not enough tax revenue, and yet more debt.
As I
wrote recently, growth
is the answer to everything. Enable economic growth and your other presidential
mistakes won’t matter so much. Suppress growth and even your best efforts will
not be enough to move us forward.
On
that note, we finally arrive back home.
Obama
announced a pivot to Asia at the beginning of his last term. Given the
importance of Asia to the world’s future, that is an understandable decision.
But in the next four-year term, economic reality is going to force the
president to pivot his or her focus back to the United States. There are a
number of factors coming together that are going to require serious crisis
management.
When
you take office in January 2017, the weakest recovery in modern history will
have stretched on for 81 months. It will already be the third-longest recovery
without a recession since the Great Depression. By 2018 it will be the second
longest. Only during the halcyon economic daze of the 1960s have we seen a
longer recovery; but that record, too, will be eclipsed sometime in 2019 – if
we don’t see a recession first. And note that we were growing at well over 3%
in the ’60s, not the anemic 2% we have averaged during this recovery and
certainly not the positively puny 1.5% we have endured lately. As we have
surveyed the economic scene around the world for this series of letters, it has
been clear (and IMF and BIS data confirms) that global growth is slowing down.
Given the fact that the US economy is barely growing at stall speed, it won’t
take much to nudge us into recession.
The
odds that you will see a recession during your first four years are therefore
quite high. Maybe not in your first year in office, but a recession is
something you need to plan for. Given the fiscal reality that you will be
facing and the limited number of arrows left in the Federal Reserve’s monetary
policy quiver, your administration is going to have a difficult time dealing
with the fallout from a recession.
Let’s
look at fiscal reality. Sometime in your first year the US national debt will
top $20 trillion. The deficit is running close to $500 billion, and the
Congressional Budget Office projects that figure to rise. Add another $3
trillion or so in state and local debt. As you may imagine, the interest on
that debt is beginning to add up, even at the extraordinarily low rates we have
today.
Sometime
in 2019, entitlement spending, defense, and interest will consume all the tax
revenues collected by the US government. That means all spending for everything
else will have to be borrowed. The CBO projects the deficit will rise to over
$1 trillion by 2023. By that point entitlement spending and net interest will
be consuming almost all tax revenues, and we will be borrowing to pay for our
defense. Let’s look at the following chart, which comes from CBO data:
![](http://ggc-mauldin-images.s3.amazonaws.com/uploads/newsletters/160327-02.jpg)
By
2019 the deficit is projected to be $738 billion. Almost every president wants
to run for a second term. To forge any hope of being successful with that
second run, a president needs to able to say that he or she made a difference
on the budget. There are only three ways to reduce that deficit: cut spending,
raise taxes, or authorize the Federal Reserve to monetize the debt. At the
numbers we are now talking about, getting rid of fraud and wasted government
expenditures is a rounding error. Let’s say you could find $100 billion here or
there. You are still a long, long way from a balanced budget.
But
implicit in the CBO projections is the assumption that we will not have a
recession in the next 10 years. Plus, the CBO assumes growth above what we’ve
seen in the last year or so. Let’s contemplate what a budget might look like if
we have a recession. I asked my associate Patrick Watson to go back and look at
past recessions and determine what level of revenue losses occurred because of
the recessions, and then to assume the same average percentage revenue loss for
the next recession. We randomly decided that we would hypothesize our next
recession to occur in 2018. Whether it happens in 2017 or 2019, the relative
numbers are the same, and so is the outcome: it would blow out the budget.
Here’s a chart of what a recession in 2018 would do. Entitlement spending and
interest would greatly exceed revenue.
![](http://ggc-mauldin-images.s3.amazonaws.com/uploads/newsletters/160327-03.jpg)
The
deficit would balloon to $1.3 trillion, and if the recovery occurs along the
lines of our last (ongoing) recovery, then unless we reduce spending or raise
revenues, we will not see deficits below $1 trillion over the following 10
years. The deficit will climb to $1.5 trillion just as you dive into the thick
of your second campaign in 2020. Not exactly a great campaign platform.
But
before I get all gloom and doom on you, let me say that I think there is a path
by which you can actually prevent a recession. There is a path to stimulating
growth, creating new jobs, and spurring a real economic recovery – but not by
doing the same things we have done for the past 16 years. If we continue in the
same general direction that we have been going, the economic realities I talked
about above are going to clobber you and what will be a very scared Congress in
the next four years.
No
Senator or Representative is going to want to run for election in the middle of
a recession, with deficits topping $1 trillion. If you think people are
vehement in demanding change today, they will really be out with the pitchforks
in 2018 in 2020 if we don’t get a grip on our budget and our economy. If we
can’t figure out how to engender growth and create new jobs – and real jobs – the general
rejection of “establishment candidates” will continue to intensify. You have an
opportunity to really change things, and the public clamor should give you a
great negotiating base for forcing Congress to deal with the realities in the
above charts.
But
you are going to have to have a plan, and that is where the rubber meets the
road. Every president chooses a chairperson for his or her Council of Economic
Advisers. Whom you should choose is going to be in large part a function of the
type of policies you will try to pursue. In the past, presidents have tended to
choose an economic advisor who was more or less mainstream (great academic
background, general acceptance in the economic community, etc.) –in short, an
establishment economist.
And I
don’t want to demean economists, but presidents and politicians of all stripes
tend to choose economists who will tell them what they want to hear. If you
feel that a certain policy is needed, you can probably find an economist who
will give you a well-thought-out academic justification for what you want to
do.
You
are going to be faced with problems that are the culmination of hundreds if not
thousands of previous decisions by US presidents and governments.
If you
choose to listen to economists who tell you that you can continue to run large
deficits – and you can find Nobel Prize-level economists who will oblige you –
the country will generally continue in the same direction it has been going
until the only real choice will be the one faced by Japan a few years ago: they
essentially realized they had to monetize their debt, and over time that
decision is going to significantly reduce the value of their currency and thus
the buying power their citizens depend on.
For
some economists, deficits are not a problem. They look at economists who argue
for a balanced budget and reduced leverage as antediluvian throwbacks. They
seem to feel that a small group of well-educated economists know how to run the
world economy better than the market of billions of people working in their own
self-interests can run it. They see a market-run economy as messy and
inefficient, prone to all sorts of problems.
Sadly,
there is no nirvana. Economic policy comes down to philosophical choices.
And
they are ones you are going to have to make.
Radical
monetary policy such as is being applied by developed-world central banks is
one of those things that work well in theory but not in practice. In theory,
ultra-low rates and quantitative easing are supposed to generate a boom in
investment and spending, which in turn will lead to growth and jobs. However,
we can look around the world where these solutions are being applied and see
that growth is lacking. And as nearly all economists agree, growth is the one
thing that can get us through the problems that are coming. There are just some
minor quibbles about how that growth should be achieved!
And
this is all before we even start talking about the accelerating pace of change
in the business and technological worlds, a global network of trade and other interactions
among countries that is vastly more complex than it was even a decade ago, and
the increasing dissatisfaction of a large group of citizens who feel left out
of the new era. As science fiction writer William Gibson said back in 1993,
“The future is already here. It’s just not evenly distributed.”
Of
course, I’m just focusing on the economic decisions you will have to make.
People will be pressing you to somehow solve a myriad of other problems as
well.
You
are going to get a great deal of advice as to what economic path and solutions
you should choose. The choices you make will determine the future of this
country and to a great extent the future of the world. That pressure and impact
comes with the Oval Office. You have chosen to step into that office at a
particularly stressful time in US and world history.
However,
the situation is merely hopeless but not critical. There are choices you can
make that I believe will reinvigorate the American economy and enable us once
again to grow at 3%-plus, deal with the deficits and debt, and as a side
benefit solve the problem of how to deliver healthcare. Choosing the right
economic team can make that transition doable. And you will actually have the
advantage of a potential crisis unfolding in your first term that will force
both sides of the political divide to seriously consider and agree on
outside-the-box solutions. You just have to come up with those solutions, as
very few embroiled in the partisan debate will see past their own time-worn
answers to conceive truly unique, workable, and productive policies.
Next
week I’m going to outline some of the policies that I think have the potential
to do all that. I can guarantee you that there are elements in my proposals
that will annoy almost everyone, but that is the nature of a compromise –
nobody gets everything they want.
If on
the other hand you’re content to go along in the same direction we are today,
with only minor course adjustments, I can just about guarantee that we’ll will
end up on the shoals, where all of your choices will be bad ones.
I fly
out on Monday for Rob Arnott’s fabulous annual client conference, where he
brings in some of the leading economic thinkers of the world to hash out
portfolio construction. The fact that he is one of those leading thinkers helps
him attract others. It is one of the few conferences I attend where I sit in
the back of the room and take notes and only rarely have the temerity to ask a
question. I have learned that you do not go head-to-head with Harry Markowitz
unless you are on really solid ground. The last time I was at the gathering, a
few years ago, I looked around and saw about $1 trillion of managed capital in
the room. And there were only about 50 people. Who take this stuff rather
seriously.
Next
week I go to New York and Chip Roame’s Tiburon gathering, which is essentially
for idea sharing and networking among financial services executives, focused on
what’s happening in the industry. I’m really looking forward to it. It looks
like a little media time is being slipped in here and there as well, and I will
let you know. Then I’m back to Dallas, where I go back to work on my book (like
I can ever forget about it – the weight of deadlines hangs heavy) before I head
out in the middle of May for Abu Dhabi; work in a quick trip to Raleigh, North
Carolina; and then fly home in time for my conference in Dallas.
Now,
I’m going to close with a story that I was reminded of as I was writing about
Africa earlier. As I said, I’ve been to about 15 African countries, mostly
during the ’90s, for a business venture I was pursuing. It was an expensive but
interesting pursuit. Back then pretty much every major capital had a few hotels
where all the foreign travelers and expatriates gathered. More often than not
the hotel was an Intercontinental. I learned that if I went to the bar toward
the end of the evening, I could meet old Africa hands who had been banging
around the continent for decades, and for the mere price of a drink they would
begin to tell me stories. And such marvelous stories. There were a few times
when I simply marched up to the bar and loudly announced, “I will buy the
drinks for the best Africa story in the room.” Somehow it seemed that the last
liar of the evening always won. Those were great times, and if you ever get a
chance to do som ething like that you should, though I am sure that Angola and
Mozambique and Congo and Côte d’Ivoire have all changed. Given the hellholes
that some of them were, that is a good thing.
So let
me relate my favorite African story. It was told to me by Pat Mitchell, who had
lived all over Africa for 30 years by that time, working as a lawyer after he
graduated from Stanford. The story was about his friend Alejandro Beradone, an
Argentinian running (I believe it was) a Rayovac battery-manufacturing plant in
Kinshasa, Zaire. I later met Alejandro, and we became friends and met on a few
occasions in Buenos Aires, where he introduced me to the concept of going out
to a steak dinner at 10:30 PM, which is considered normal behavior in Buenos
Aires. But then a lot of interesting things are considered normal in Buenos
Aires.
It
seems that the French Foreign Legion had a small outpost in Kinshasa. They came
to Alejandro and asked him if he would sponsor a four-man team to go to Liberia
to compete in a parachuting contest. He agreed, with the stipulation that he
and his 12-year-old daughter could go along. So a few weeks later they
chartered an eight-seat, twin-engine plane and flew to Liberia. It turned out the
French team won the contest, so they all went out and partied very hard, along
with the pilot (as is the wont in Africa), and then stumbled back onto the
plane the next morning. The pilot got them up into the air, set the controls on
autopilot, and told everyone to wake him in three hours. At which point
everyone promptly went to sleep.
Somewhat
more than three hours later, someone woke up and roused the pilot. He looked at
his instruments and got quite upset that nobody had awakened him. The plane was
running out of fuel. The pilot pulled out his maps and looked for an airfield
where he could set the plane down. The only real option was a grass field in
the People’s Republic of the Congo, a former French colony that was essentially
socialist/communist and really didn’t enjoy warm relations with the French, to
say the least. So when the plane landed, it was immediately surrounded by
guards who pretty quickly figured out that the French Foreign Legion was
aboard. They detained the group, took them to the capital city (Brazzaville),
and put them all in jail. The government decided that this was an international
incident because the French were clearly invading the country. It was a big
deal in the local papers. They put the entire group, including Alejandro’s
daughter, into the cell w ith him. Understand, this was an African jail. Not
exactly luxurious.
There
was basically no food, so the guards would come in and say, “Give us some
money, and we’ll go get you some food.” It didn’t take more than a few days before
they ran out of cash. They were still hungry, though; and the guard asked,
“Don’t you have any other way to pay?”
Alejandro
reached into his pocket and pulled out his American Express card. The guards
took one look at it and exclaimed, “Why didn’t you tell us about this in the
first place?” Then they gathered them all up and installed them in suites at
the Meridian Hotel (the finest hotel in the city), where they stayed for the
remainder of their “detention,” basking in luxury. (Remember, il est l’Afrique. Different
rules.)
That,
to me, is the ultimate “The American Express card – don’t leave home without
it” story.
You
have a great week. Walk into a bar or bang on your glass at a dinner gathering
and announce, “Everybody has to tell a story,” and then sit back and enjoy the
evening. I have never really found anybody who didn’t have a story. You’ll be
glad you asked, and you’ll walk away with a smile.
Your
always ready for a great story analyst,
John Mauldin
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