Daily Comment (March 7, 2017)

by Bill O’Grady, Kaisa Stucke, and Thomas Wash

[Posted: 9:30 AM EST] In Washington, the wheels of policy continue to move forward.  The GOP has offered its first swing at replacing the Affordable Care Act (ACA).  It keeps many of the more popular measures, such as pre-existing condition coverage and child coverage up to age 26.  It does jettison the individual coverage mandate, replacing it with a 30% penalty to renew coverage if allowed to lapse.  All the taxes surrounding the ACA would be repealed.  Two popular proposals, including a national market for insurance (allowing policies to be sold across state lines) and malpractice reform, failed to make it into the bill because these measures would require a filibuster-proof majority in the Senate.  This new version would be part of budget reconciliation, which only requires a majority in the Senate.

We place low odds that this proposal will pass in its present form.  We expect the Democrats to oppose the measure since it reverses the bill the party passed under President Obama (the ACA).  But there isn’t all that much unity in the GOP for the bill either.  This new version is strikingly similar to the ACA and that won’t be lost on most observers.  Still, some movement on health care will allow Congress to move forward on a budget and tax policy.

China’s forex reserves rose modestly in February to $3.005 trillion, up from $2.998 trillion, a $6.92 billion rise.  This is the first rise in reserves in eight months.  China has tightened rules on foreign investment, which has thwarted a number of overseas mergers and acquisitions.  The rise in reserves could be signaling that these measures have had some effect, although we note that the Chinese New Year also fell mostly in February, which may have distorted the measure.  Still, the rise in reserves does give the Xi regime some breathing room and may ease pressure on the government to add additional measures to restrict outflows.

The Reserve Bank of Australia left rates unchanged, as expected.  The AUD rose modestly on the news.  The ECB meets on Thursday; although no change in policy is expected, the markets will pay close attention to forward guidance.  The Eurozone economy is showing signs of improvement and inflation has lifted, although the latter has mostly been a function of rising oil prices.  If the ECB’s guidance remains unchanged, we could see the EUR weaken.

Peter Navarro, President Trump’s head of the National Trade Council, again called out Germany for its massive trade surplus and accused the country of using the Eurozone as a cover for policies that triggered the growing surplus.  Although Navarro’s economic nationalism lies outside mainstream economic thought, we agree with his analysis of Germany’s policy mix.  Germany has effectively colonized the Eurozone through its saving and investment policies, creating conditions where other nations in the group, especially in the southern tier of Europe, cannot compete with German productivity.  Without the ability to depreciate their currencies, these states must either depress their labor costs through unemployment to improve competitiveness or rely on Germany to expand its economy to raise wages in Germany and improve the southern tier’s competitiveness.  Germany is forcing the former condition on the southern tier, which has been negative for their economies.  However, this inter-Eurozone condition has tended to weaken the euro, making it more competitive with the rest of the world.

What does seem to be lacking from Navarro’s analysis is a recognition of the dollar’s reserve status.  As the supplier of the reserve currency, the U.S. must run trade deficits because a surplus would effectively reduce the global money supply, cutting global economic growth.  If the Trump administration makes good on its promises to reduce the trade deficit, there will be fewer dollars available for the global economy and, very likely, a slowdown in the global economy.  We note today that the OECD is warning that the upswing in financial markets and surveys, by itself, won’t necessarily guarantee a stronger global economy.  The OECD is currently forecasting global GDP growth of 3.3% for 2017 and 3.6% for next year.  This is roughly average for the past decade.  The G-20 meets next week in Germany.  We will be watching to see how the Trump administration handles its first major international meeting.

Finally, in an update to this week’s WGR, North Korea has banned Malaysians in the country from leaving in response to the ouster of the North Korean ambassador from Malaysia.  This makes Malaysians in North Korea virtual hostages of the regime.

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