Wednesday, December 14, 2005

The red economy and the red metal

No one doubts that China's dramatic growth spurt over the past 4 years has been the driving force that has pushed commodity prices higher. Even though the Chinese economy is still going at full blast (industrial output is growing 16% yoy), past experience has taught us that there are limits to how much commodity prices can go up.

For one, with higher prices there are more incentives to ramp up production. In addition, price increases blunt demand, as buyers turn to cheaper alternatives (for example, according to INCO, the nickel content of stainless steel has fallen in response to higher prices for this metal).

The market for copper offers a great example of how these forces work, sometimes in a very odd fashion.

While Chinese copper demand has remained robust, in the industrialized nations it has plunged this year due to high prices, leading to an overall drop in world consumption of 1.4%, according to this forecast. According to the IMF, copper prices rose 43% last year and 38% in 2003.

Yet, despite the fact that refined supply is forecast to grow 3.1% this year, prices have risen an additional 36% (up to November).

What gives? Well, in 2003 and 2004 demand --driven by China and other emerging economies--far outstripped supply, depleting existing stocks. With latent demand very strong, the market has needed dramatic price hikes to partially close the demand-supply gap.

Obviously, it's hard to ramp up the production of minerals in the short run. But eventually market incentives lead to the expected response: in 2006, the ICSG forecasts that supply will rise 8%, surpassing demand for the first time in 3 years (although prices will likely stay high while inventories are built back up)

Sunday, December 04, 2005

Moving on to football

Don't miss this article by Michael Lewis on how a coach of a minor Texas university is turning football (or American ovoid handball, as a tetchy friend would have it)strategy on its head. Basically, it involves a pass-heavy approach that seeks to stretch the field as much as possible, both horizontally and vertically.

This is definately the wave of the future. Besides the violence, what I really lack about football is that it has a much larger strategic component compared to other sports. Alas, the sad fact is that most NFL coaches stick to very conventional/conservative playcalling, wasting the potential to achieve victory through greater creativity and flexibility (with some partial exceptions, such as the Patriots, Eagles and, until recently, the Rams).

This is not precisely a new idea. Bob Oates, who writes for the LA Times, has consistently favored this approach.

By the way, if you like football, go visit Football Outsiders if you haven't done so already. Aaron Schatz and his crew are doing a great job by applying statistical modelling to evaluate performance on the gridiron. It simply is a must read, although I do hope that in the future they'll also include --to the extent possible--on the impact of stategy.

The manufacturing rat race

Last week, Brad DeLong speculated that one of the reasons that U.S. auto manufacturers faced such daunting legacy costs was that the wages and benefits paid to their employees reflected the expectation of maintaining oligopolistic profits.

I don't know that much about the auto industry, but I reckon that if those profits existed, they couldn't have lasted much beyond the 1970's.

But, in any case, the auto industry does illustrate the degree to which even a relatively sheltered industry (in terms of barriers to entry) is a rat race.

Taking some BLS data, I found that new cars today cost around 60% less in inflation and quality adjusted terms than they did in 1953 (the first year with data). This number is in line with the trend observed for durable goods as a whole.

This basically means that you face constant pressure to become more efficient or develop some type of competitive advantage to protect your pricing (such as better design or some other form of strong intellectual property). Obviously, U.S. car producers haven't kept up, at least with their Japanese counterparts, event though they've surely made huge gains in productivity over the last few decades.

Friday, December 02, 2005

Foreign policy amnesia

Why does the U.S. never learn from its foreign policy mistakes? I can't find a good answer. But to my horror they just keep coming. As if the Irak debacle weren't enough, the idea of treating Mexicans as the Israelis treat the Palestinians is gaining ground.

Let's start with President Bush's big speech this week, in which he laid out (again) his plan to deal with the large flow of illegal immigrants to the U.S.

The President's proposal --a hybrid guest-worker programme that includes the possibility of obtaining citizenship, but also contemplates measures to crack down on illegal immigration---sounds fairly sensible. Nonetheless, it is, as expected, very flawed and it faces substantial opposition from his own party. As a result, it's fairly likely that something far worse than the President's proposal will be enacted.

Why is it flawed? Simple. It assumes that the U.S. can --by itself--fully regulate the flow of immigrants.

Bush's plan aims to admit "enough" workers to satisfy the needs of its farmers and firms while keeping out all others who wish to come by cracking down on the employment of illegals and stepping up security on the Mexico-U.S. border.

Let's start with Economics 101. There is a huge, huge number of people willing to come and work in the U.S. There is no way the U.S. will allow all of them to come, even if there are enough jobs available. In other workds, supply will always exceed (artificially regulated) demand. Hence, the proposal's mechanisms to limit supply.

Will they work? Not likely. As the President himself admits, the greatly increased spending on border security has not made a dent on the flow of immigrants. There is no reason to believe that further spending, short of building a 2,000 mile Israeli-style wall on the border and massive deportations.

Such a wall would, undoubtedly, reduce the flow (but not stop it, by far). But just think for a second about the symbolism (let alone the expense). It would mean that the U.S. is turning its back --literally--on Mexico and the rest of Latin America. (Am I exaggerating? Just read what the people who want to build such a wall say).

Let that sink in. In a world where the U.S. has few friends, it will work to alienate (even more) a region to which it already has significant cultural, economic and ethnic ties.

Is there a better way? Yes. Actually, a very simple way: be more generous. The U.S. provides its "friends" in the Middle East (Egypt, Israel, Jordan) more foreign aid in one day than it has ever given to Mexico. Why not propose a bold development partnership to Mexico and Central America? Sure, it would cost money, but probably no more than the cost of fences and the like. It would engender goodwill and reduce immmigration in the long-run. And it would give the U.S. a lever to push for reforms in Mexico.

A guest-worker programme should be established, but it will only be a net positive if it is realistic (for example, it actually deals with issues such as the workers' families). And, yes, the U.S. whould have more control in areas such as employment.

Sadly, there is little or no chance of something like this happening. Bush never even mentioned talking to Mexico in his speech and the fence-builders don't give a damn about anything south of the border. The only hope I have is that the American people at least seem to recoil at some of the nastier policy options in this area.