Guest Blogger 2012: What’s Ahead for the World Economy by John Manzella

Slow growth, high unemployment, political gridlock, European fallout, Chinese tension, and a bright spot in manufacturing.

Caution, volatility and uncertainty are three key words we will continue to hear in 2012. Due to slow economic growth, which is projected to hover around 2 percent, the unemployment rate likely will continue to remain in the 8 to 9 percent range this year. Prior to the Great Recession, the United States had not experienced similar unemployment levels since 1983. When including those who have stopped looking for work or have reluctantly accepted part-time jobs, the rate could be as high as 16 percent, analysts say.

Several factors will continue to put a drag on growth. For example, some estimates indicate one in five homeowners owe more on their mortgages than their homes are worth. Until home values stabilize and consumers feel more confident about their future, consumer demand, which typically represents 70 percent of gross domestic product, will continue to lag.

In addition, declining U.S. federal and state government spending will depress U.S. growth in 2012. And with the presidential election this November, we can expect continued gridlock and an inability of our policymakers to come together to execute necessary reforms, restructure entitlement programs, increase investment in education, research and infrastructure, and improve immigration laws and the tax code.

Gerrymandering, the redrawing of congressional districts to assure dominance by one party over the other, shares some responsibility. It has enabled politicians to stake out extreme positions and no longer seek approval of the moderate-voting public. This makes compromise difficult.

European Fallout

A major factor impacting U.S. growth this year will be the European debt crisis. Although this was a big story in 2011, its impact certainly will be felt in 2012.

On a cumulative basis, Europe is the source of 72 percent of foreign direct investment in the United States. It‘s also the destination of 22 percent of our exports. A disruption in U.S.-European trade and investment, as well as major European defaults, can have serious consequences on this side of the Atlantic.

The 27 members of the European Union (EU) have different economies, fiscal disciplines, democracies, histories, values, and languages. Holding together a group this diverse is difficult in the best of times. Now, due to its debt crisis, many are wondering if the eurozone, the 17 EU member countries using the euro, will survive.

An underlying problem with many EU members has been their inability to adapt to globalization. When a country recognizes the rules of the free market and globalization, and decides to abide by them, it puts on what author and New York Times columnist, Thomas Friedman, in 1999 called the “Golden Straitjacket.” But to fit, Friedman said, countries must adhere to various policies to enhance national competitiveness.

The United States began squeezing into the Golden Straitjacket in the 1980s. However, one could argue that Greece, and perhaps Spain and Italy, haven’t donned the straitjacket or, in some ways, adapted as well to globalization as the United States or several northern European countries like Germany, Austria and the Netherlands.

Stronger American Manufacturing

According to the Institute for Supply Chain Management, economic activity in the manufacturing sector expanded in December for the 29th consecutive month. Output will continue to rise as it has for decades. Surprising to many, American manufacturing value-added output has tripled since 1980, rising from $558 billion to $1.7 trillion in 2010.

However, due to new technologies and automation, fewer employees can produce much more in less time. Consequently, manufacturing employment has fallen from its high of 19.5 million in 1979 to 11.7 million last November. In December, Americans were reminded of this fact by President Obama, who said “Steel mills that needed 1,000 employees are now able to do the same work with 100 employees, so layoffs too often became permanent, not just a temporary part of the business cycle.”

In turn, labor as a percentage of a product’s total costs has decreased to approximately 10 to 30 percent, on average, analysts say. As the labor component continues to shrink, and Chinese labor rates, fuel costs and expenses related to long distance supply chain logistics continue to rise, it makes sense for some U.S. producers to “backshore” or return previously offshored manufacturing from China to the United States.

Rising U.S.-Chinese Tensions

Due to upcoming U.S. elections and the selection of new Chinese Central Committee members, including China’s presidency, expect harsh rhetoric on both sides this year to escalate as political candidates pander to their constituents. Plus, difficult issues, including piracy of American intellectual property, the protection of certain Chinese strategic sectors, and the Chinese military buildup, will continue to fuel the fire. But the currency issue will continue to remain a primary irritant.

Since July 2005, when the Chinese yuan, also known as the renminbi, was allowed to climb in value, it has risen from about 8.28 to nearly 6.36 per U.S. dollar. Nevertheless, most economists agree that it still is considerably undervalued giving Chinese exporters an unfair advantage that’s boosting the U.S. trade deficit. But much of the tension here is caused by misinformation. Why? The true U.S. trade deficit with China is not accurately reflected in conventional trade statistics. Thus, Chinese value-added, as a component of Chinese exports to the United States, is about 50 percent, according to the U.S. International Trade Commission. Others put this figure much lower.

Consider Apple’s Ipod. When imported into the United States from China, the iPod‘s value is identified at approximately $150. Yet, only about $4 of this is Chinese value-added derived from Chinese labor and components, according to the University of California. The remaining $146 represents the value of components produced in the United States, Japan, Singapore, Taiwan, and Korea. Nevertheless, $150, not $4, is added to U.S. import statistics, artificially increasing the U.S.-China trade deficit.

Long-Term Optimism

Although our economy will remain weak this year, American optimism, free market capitalism, acceptance of immigrants and a brilliant Constitution will propel the United States forward for generations to come.

John Manzella is a frequent speaker, author of "Grasping Globalization," and president of Manzella Trade Communications (www.ManzellaTrade.com), a strategic communications firm focusing on global business and today’s leading economic issues. His firm provides insight and analysis, and crafts communications programs to help clients educate stakeholders and decision makers. Services include custom publishing, public affairs, public relations, marketing, consulting, and speaking engagements.