Trade, Oil And China

The jump in the US trade deficit over the past two years
primarily reflects a rising oil bill. Not only did oil
rise sharply in price since 2004, but the US also added
substantially to its strategic petroleum reserve. The
sharp drop in the monthly deficit in October reported
yesterday resulted from the recent weakness in the oil
market. The chances now seem reasonable that the
deterioration of the US trade position will either end
or be substantially ameliorated for the next several
quarters as US growth may trail global growth in a world
with the oil supply / demand balance still in favor of supply.
A continuing sizable trade deficit will provide ample
liquidity to the global financial system, but the growth
of such may be at a trickle compared to the $100 billion
annual increments witnessed in recent years. This
expected slowing of liquidity increments may start to
affect marginal offshore credits adversely as 2007 progresses.

Control of the US Congress has passed back to the Democrats.
Old hands will hold leadership posts, but the new arrivals
are far more skeptical of the economic policies of recent years,
particularly free trade and globalization. I doubt we are
looking at a new crop of wild eyed populists, but rather a
group more intent on sensible inquiry into policies that may be
seen as hurting US jobs and wages. Moreover, small business, whose
views on the US trade stance have been continually rebuffed by
the staunchly plutocratic Bush administration, may find a more
sympathetic ear with Democrats. Couple this with a high oil
import bill compared to just a few years back and you have a
recipe for a far more prickly period regarding trade issues.

Treasury Sec. Paulson (good cop) and Fed chief Bernanke (bad cop)
are off to China this week with a high level delegation to
discuss economic and political issues with senior Chinese officials.
This could be a strange series of meetings, since the Chinese have
to admit that both Paulson and Bernanke could be lame ducks in
what is shaping up as an open race for the roses in 2008. Moreover,
antagonism toward China's economic policies has increased
substantially here in the US, and will receive greater voice in
the next couple of years unless China and other Asian mercantilists
suddenly reverse course and accelerate the opening of their
markets and push for stronger consumption at home. To add to the
tension, Europe, no slouch when it comes to protectionist policies,
is also voicing some concerns about Asian economic policies.

I bring all of this up because as Bush 43 fades into the sunset,
there could be some interesting and provocative discussions of
trade policies over the next couple of years that could just
be raw enough to upset the capital and currency markets from
time to time. Major Asian economies are well past the "take off"
stage, so mercantilism is now pointedly self serving. If all
the players, US and Europe included, are interested in cooperation
and compromise, a transition to a more balanced global economy
is feasible without substantial destabilizing events. Otherwise,
the road through, say 2011, could have some unhappy bumps.