US and China Economies Confront Significant Challenges Ahead
Two preeminent authorities on the global economic landscape caution that both the United States and China are poised to encounter formidable obstacles in the forthcoming years, extending beyond mere trade tensions.
During the UBS investment conference in Sydney, US Federal Reserve chair aspirant Marc Sumerlin, alongside seasoned China expert Michael Pettis, articulated their apprehensions regarding the trajectories of these economic powerhouses.
Mr. Sumerlin, recently interviewed by US Treasury Secretary Scott Bessent for the role of Fed chair—set to become vacant in May—expressed little concern over recent surges in US inflation, positing that these increases are unlikely to persist.
Signs of Stress in the US Banking Sector
Analysts have noted that recent fluctuations on Wall Street indicate certain segments of global money markets are experiencing strain, prompting anxiety among investors.
However, his concerns are increasingly directed at a deceleration in the US economy. He advocates for further interest rate reductions by the Fed, suggesting cuts in December and potentially additional adjustments next year.
“We imposed a tax on the economy through tariffs, which hindered job creation,” he remarked to The Business. “We are perilously close to generating no new jobs, and should the economy enter a recession, the recovery could extend over four years. This must remain at the forefront of the Fed’s considerations.”
Moreover, Mr. Sumerlin noted emerging indicators that artificial intelligence (AI) may be contributing to subdued job creation in the United States, even if it has yet to replace workers directly.
“I am genuinely concerned that businesses might think, ‘I am not seeing worthwhile returns on AI just yet, but I anticipate it will arrive, so I will halt recruitment of young talent now,’ causing unemployment rates among recent graduates to rise,” he remarked.
“It appears that prior to reaping the benefits of AI, we may first encounter its negative consequences, which include reduced hiring.”
Potential Bubble on the Horizon
Mr. Sumerlin cautioned that there are valid reasons for the Federal Reserve to exercise restraint with regard to extensive interest rate cuts in the US.
US President Donald Trump has recently proposed on social media a $2,000 tariff “dividend” for Americans not earning high incomes. Mr. Sumerlin, a former economic adviser to President George W. Bush, indicated that such a move could exacerbate inflationary pressures.
“My apprehension about inflation would substantially increase if they were to utilize tariff revenues to finance a significant tax cut,” he conveyed to The Business.
“Implementing a $2,000 tax cut for every American could cost around $700 billion, while tariffs are currently generating approximately $300 billion. If such an action were taken, the potential for inflationary escalation would be considerable.”
Additionally, Mr. Sumerlin acknowledged the growing possibility of a debt bubble forming within the AI sector, marked by an uptick in substantial investments.
“We may very well be at the inception of a burgeoning bubble,” he warned. “Valuations are inflated, and indications of credit strain are beginning to manifest, although we remain in the preliminary phases.”
He elaborated that investments in AI now appear to extend well beyond the current cash flows produced by the major technology firms, necessitating increased borrowing.
“September saw significant circular financial maneuvers wherein companies pledged funds they do not possess, suggesting reliance on debt, probably sourced through private markets—a point at which we should become increasingly concerned,” he added.
Even in the absence of a debt-induced bubble, Mr. Sumerlin cautioned that the elevated risk of an equity market downturn poses a significant threat to the US economy.
“A 20 percent decline in stock prices could very well trigger a recession.”
China Faces Fundamental Arithmetic Issues
While the US economy grapples with its share of difficulties, Michael Pettis, a finance professor at Peking University and a senior fellow at the Carnegie Endowment for International Peace, pointed out that its superpower counterpart, China, is confronted with profound structural dilemmas.
Michael Pettis addressed these critical issues with The Business during the UBS investment conference.
“China is grappling with a fundamental arithmetic dilemma, as it is over-investing significantly,” he remarked. “However, when pursuing a GDP growth target, a slowdown in consumption growth precludes a corresponding reduction in investment, as both metrics collectively contribute to economic expansion.”
“Consequently, since 2009, each economic disturbance has prompted China to escalate investment in alternative sectors.”
“The pervasive trend is that they are overexposed across various sectors, leading policymakers to discern which areas would be least adversely affected by further overinvestment.”
Professor Pettis explained that local governments, eager to appease the central government, funneled excessive investment into prioritized sectors such as solar energy, batteries, and electric vehicles, resulting in unsustainable economic dynamics.
“Resources flooded into these sectors to the extent that profitability became nearly unattainable,” he noted. “Many entities found themselves operating below variable costs, a phenomenon devoid of economic logic but politically advantageous.”
“Beijing intervened around May, acknowledging the destructive nature of intense price competition in these industries and deeming a cessation necessary to halt the adverse trend,” he remarked.
Impending Decline in Iron Ore Prices Expected
Another domain of considerable overinvestment in China has been infrastructure, alongside real estate, a sector facing significant turmoil due to governmental interventions.
“Iron ore prices have surged primarily because China possesses the highest investment ratio globally as a percentage of GDP, and it urgently needs to curtail this rate; yet it remains impeded,” Professor Pettis elaborated.
“As long as overinvestment persists, debt will continue to accumulate, and eventually, this must cease. When that occurs, Chinese investment will contract far more rapidly than GDP, particularly affecting property and infrastructure, which would likely precipitate a sharp decline in iron ore prices.”
“The timeline for such a shift remains indeterminate—it could unfold within two to five years, but it is inevitable.”
China Eases Certain Tariffs on US Agricultural Products
China has lifted retaliatory tariffs on various US agricultural goods but continues to maintain a 10 percent tariff on all US imports in response to President Trump’s duties.
Amidst this evolving landscape, both nations remain embroiled in a trade conflict that Professor Pettis believes lacks an imminent resolution, even with sporadic concessions from either side.
“The US trade deficit continues to swell. The contraction in China’s trade surplus this month is marginal, yet it has been expanding rapidly,” he observed.
“Ultimately, these pressures will remain unmitigated until substantive resolutions are achieved, which is not yet foreseen. We still have a considerable distance to traverse before a resolution is realized.”
Anticipated Leadership Change at the Fed
Regarding future monetary policy in the United States, Mr. Sumerlin foresees further rate reductions.
“I believe the Fed will implement one more rate cut,”
he stated.
“The timeline remains uncertain; they have adopted a relatively hawkish stance, yet they may choose to postpone any cuts until the appointment of the new chair.
“In May, Chairman Jerome Powell is scheduled to be succeeded by a nominee selected by President Trump. The President has expressed a strong preference for lower interest rates, suggesting that the new chair will likely advocate for a reduction of another 50 basis points upon assuming office.”
Speculation surrounding the identity of the next chair persists, with Mr. Sumerlin indicating that a determination may still be two months away, despite his prior interview with the Treasury Secretary.
“The Treasury Secretary noted that of the eleven candidates, he would present three or four names to President Trump following Thanksgiving,” he stated.
“Subsequent to that, the President will conduct interviews throughout December. Consequently, I anticipate an announcement regarding the new Fed chair between mid-December and mid-January.”
Source link: Abc.net.au.
