After a long hiatus, VIEW is re-initiated with this edition and we feel a little like a bear coming out of hibernation. The sun and people are out, things are bustling and Covid looks to be on the decline. Yet, divisions politically are actually sharper, savings are inflating away, superpower relationships continue to fracture and shortages are common from labor to semiconductors to power and there is a distinct mood of the "re" out in the world. "Re-imagining", "re-setting", "re-building" are common in political messaging at the highest levels. Using a crisis as acute as Covid or the climate (COP26 anyone?) to bring one's longstanding and favorite political system forward as the "answer"? Who would have thought?
Over a year ago, we wrote about Covid-19 just after a February trip through Southeast Asia, all the while lock-downs, travel bans and human suffering to-come nipped at our heels. In retrospect, we were lucky to put that trip in the books, waiting another month would have meant we would still be waiting stateside. In spring of 2020, VIEW posited that Covid-19 was in fact the "last globalist" and that it would prove to catalyze the end of the current multi-decade cycle of globalization. While we were not making a qualitative call on the concept itself and we still aren't, we detected a negative reception to our idea that internationalism would hold less sway worldwide than at any time in the last thirty years. There are many in the mainstream political economy that are substantially invested in the idea of a more centralized global structure and they remain convinced this idea of supranational confrontation against the world's big problems is the right path to their solutions. Despite evidence of its effectiveness to the contrary, collectivism and centralization remain a common component of the really "valid" solutions to the really "big" problems we face. Never mind probably half of the problem definitions could be loudly debated, if that sort of thing were possible in a stifled post Covid dialogue. Naturally, calling for a continued decline in momentum of a favored trend puts the cheerleaders in a sour mood. And they are digging in their heels, starting with this week's COP26 in Scotland, yet our sense is they are on the wrong side of momentum in this regard. For what it's worth, we believe we remain on the backside of the long-term cycle of inter-connectivity that peaked with the Beijing Olympics back in 2008. Is the EU more solidly positioned today than two years ago? Is there more or less push-back to the centralized mandates from Brussels? Unruly members remain so and challenges continue to surface from the likes of Poland and Hungary. We thought the localized differences in the way Covid was handled inside countries and across nations would fragment a sense of global unity, not cause it to coalesce. Judging by the friction created in numerous countries and states in response to various pandemic control measures, not to mention competing theories of the virus' origin, one size has not fit all. This has created some measure of political risk for incumbents that were unlucky enough to have had to deal with virus stopgap tactics. And what of the relationship with one of the greatest beneficiaries and drivers of globalism, China, with its global partners? Worse than 2008? For sure. Getting better? Not from what we see.
The inflationary impulse currently running through economies and affecting consumers across the consumption and investment basket is needlessly debated in terms of its "transitory" or not, nature. The fact is, it is here, it is pervasive and it is punishing purchasing power and creating a meaningful tax on savings. Its causes we can debate but the reaction by governments to it will likely be individualized, if they react at all. Indeed, some might believe certain governments welcome inflation because it fits their political worldview and as a practical matter, deflation is much less constructive to a gargantuan debt position which central governments cannot but help themselves to establish. Still, we can't help but remember other periods of inflation where political power structures were challenged as standards of living were pressured.
The supply chain has not received so much attention since "lean manufacturing" and "just in time" inventory were staples in the consultants' slide decks. When VIEW lectures its graduate students on the risk/return dynamic, our point is that historically more attention has been paid to the return component of that relationship. Risk is a negative subject and most humans much prefer to dwell on the positive and dream the dream. Focus on risks is for curmudgeons and in certain corners, such as Wall Street, being negative is never in one's best commercial or career interests. Yet, an objective view on the supply chains constructed over the last thirty or so years should reveal two glaring violations of risk management. First, as manufacturing capacity has become increasingly dominated by China, where a country that has roughly 15% of global GDP produces 29% of the world's manufacturing production (its was sub 10% in 2003), we have constructed substantial concentration risk for our product sourcing. Secondly, because one of the objectives of an efficient supply chain is to increase asset turns, safety measures such as buffers do not figure as much into the math as does a focus on the ability to forecast demand level and patterns, thereby syncing availability to necessity. The less excess inventory the better. This is in fact what a business does when top-line gains are increasingly difficult to realize and the only way to increase returns on capital is to work on the capital account, not the income statement. So, not only did the global supply chain become very lean (read, without as much room for error) but it became increasingly concentrated in one country. In short, the system constructed by numerous corporations and countries as China emerged turned out to be the polar opposite of "anti-fragile". What will be common reactions to the exposed risks of un-hedged concentration? Countries and regions will try to incentivize production re-alignments as we see in the semiconductor industry with European government discussions with Intel and others to bring manufacturing to the continent and TSM already announcing a factory to be built in the state of Arizona.
To us, this all sounds much less like a more collective, interconnected world than an environment of more nationalist tendencies to secure one's own borders, trade relationships, energy sources, technology inputs, etc. For VIEW, this does have a potential influence on global growth rates and more importantly, their correlation. By our math, GDP correlation between the US and global rates of growth hovered around .50 from 1970 to 2003 (China entered WTO in late 2001) but ratcheted up to .90 from 2003 to 2020. China's development pace and size literally influenced global trade such that China really became, for that period, "the market". That was then however, and what is now is a China with a third of its GDP in peril of a lengthy unwind (property sector), a manufacturing sector on the margin potentially losing share back to Europe and the US and the same old demographic issues that were covered up by share gains post the country's WTO entrance rearing their ugly head. The UN projects China's population growth rate will be zero by roughly 2030. We at VIEW don't need more inputs than these to come to a conclusion that GDP growth over the next two decades or so will be far from what we have been accustomed to, especially compared to the eerily stable "official" growth rates. Given China's now significant proportion of global GDP and with their super-normal growth days in the rear view mirror, global growth could well average closer to 2% compared to the 2.8% we witnessed as an average the last 20 years. So, slower growth, less correlated across countries and many medium term policy actions creating a favorable environment for inflation seems a likely outcome as we put together our secular VIEW and think about asset allocations.
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