Let­ter From Davos, 2018

Policy - - In This Issue - Kevin Lynch

Af­ter Xi Jin­ping’s vic­tory lap at last year’s World Eco­nomic Fo­rum an­nual meet­ing, it was the man whose un­likely as­cen­sion to the White House fu­eled the Chi­nese pres­i­dent’s tri­umphal­ism in the head­liner slot this year. While a surge in global growth and Don­ald Trump’s tax poli­cies buoyed mar­kets and the peo­ple who move them, fears of com­pla­cency were com­mon­place. BMO Fi­nan­cial Group ViceChair Kevin Lynch con­jures Al­lan Greenspan and warns against ir­ra­tional ex­u­ber­ance.

The theme for Davos 2018 was a com­bi­na­tion of op­ti­mism and re­al­ism: “Cre­at­ing a shared fu­ture in a frac­tured world.” Pres­i­dent Don­ald Trump’s last-minute de­ci­sion to at­tend and speak added po­lit­i­cal drama, celebrity in­ter­est and a deep funk among ad­her­ents of a lib­eral, glob­al­ist trad­ing order.

A surge in eco­nomic growth, syn­chro­nized across the global econ­omy for the first time since the on­set of the fi­nan­cial cri­sis a decade ago, shaped the mood at this year’s World Eco­nomic Fo­rum an­nual meet­ing to an ex­tent that not even Trump and the forces of pop­ulism and na­tion­al­ism could fully dampen. Busi­ness lead­ers, par­tic­u­larly from the United States, sounded al­most eu­phoric as they ru­mi­nated on

what the stim­u­la­tive ef­fects of U.S. tax re­form, lighter reg­u­la­tion, soar­ing stock mar­kets and surg­ing eco­nomic ac­tiv­ity would do for busi­ness prospects in 2018 and be­yond.

De­cry­ing the dan­gers of com­pla­cency, Chris­tine La­garde, head of the In­ter­na­tional Mon­e­tary Fund, re­peat­edly em­ployed the metaphor at­trib­uted to John Kennedy: “The time to re­pair the roof is when the sun is shin­ing.” The IMF man­ag­ing di­rec­tor warned that we are en­joy­ing a cycli­cal eco­nomic burst, not a new higher growth nor­mal, and we still face a longish list of struc­tural growth in­hibitors, eco­nomic and so­cial vul­ner­a­bil­i­ties and geopo­lit­i­cal risks. These in­clude: poor pro­duc­tiv­ity and spotty in­no­va­tion; ex­ces­sive and grow­ing in­equal­ity; ris­ing pro­tec­tion­ism and de­clin­ing in­ter­na­tional co­or­di­na­tion; fi­nan­cial fragili­ties; and grow­ing trust deficits be­tween the govern­ing and the gov­erned. Much of the dis­cus­sion at Davos 2018 was about the na­ture and ex­tent of the re­quired re­pairs.

Prime Min­is­ter Justin Trudeau used his Davos speech to reaf­firm Canada’s lead­er­ship on the is­sue of gen­der equal­ity, both at home and at the up­com­ing G7 meet­ing, which Canada will chair. Gen­der equal­ity and women’s rights were core themes at Davos this year, and Trudeau’s mes­sage clearly res­onated widely.

A pa­rade of Western po­lit­i­cal lead­ers made their way to the Swiss Alps to at­tempt to shape these de­bates, un­like last year when their voices were miss­ing in in ac­tion and clev­erly sup­planted by Pres­i­dent Xi Jin­ping of China.

Pres­i­dent Trump, the first Amer­i­can pres­i­dent to ad­dress the WEF since Bill Clin­ton in 2000, had Davos on ten­ter­hooks all week, dom­i­nat­ing the cor­ri­dor con­ver­sa­tions as he no doubt in­tended. In the end, he de­liv­ered a speech that took a vic­tory lap for the strong Amer­i­can econ­omy, broke no new ground on his in­ter­na­tional trade agenda, and de­clared that Amer­ica First was not Amer­ica alone—to con­sid­er­able scep­ti­cism. His Cab­i­net sec­re­taries were less pub­licly be­nign, with Trea­sury Sec­re­tary Steve Mnuchin ap­pear­ing to talk down the U.S. dol­lar and Com­merce Sec­re­tary Wil­bur Ross ap­pear­ing to talk up trade wars.

Else­where on the po­lit­i­cal podium at Davos, Pres­i­dent Em­manuel Macron of France clearly won the vi­sion and lead­er­ship award with an ad­dress that could have been ti­tled “France is back”. Macron’s speech was clev­erly aimed si­mul­ta­ne­ously at global in­vestors, Euro­pean part­ners and the French pub­lic: a re­newed French econ­omy within a re­newed Eu­rope lead­ing the charge to re­new the in­ter­na­tional lib­eral order. Prime Min­is­ter Theresa May of the U.K., en­snared in the Brexit labyrinth, gave a speech that only deep­ened feel­ings of doom about the path for­ward for the U.K. and Eu­rope. Ger­man Chan­cel­lor An­gela Merkel, still wait­ing for her coali­tion and clearly play­ing se­cond fid­dle to Pres­i­dent Macron, was nonethe­less a clear and strong voice against the forces of pop­ulism, na­tion­al­ism, pro­tec­tion­ism and iso­la­tion­ism in Eu­rope and across the pond.

Prime Min­is­ter Justin Trudeau used his Davos speech to reaf­firm Canada’s lead­er­ship on the is­sue of gen­der equal­ity, both at home and at the up­com­ing G7 meet­ing, which Canada will chair. Gen­der equal­ity and women’s rights were core themes at Davos this year, and Trudeau’s mes­sage clearly res­onated widely. At the same time, pol­icy un­cer­tain­ties around NAFTA, U.S. tax changes, trade di­ver­si­fi­ca­tion to China, pipe­lines and reg­u­la­tory com­pet­i­tive­ness clouded the “Canada nar­ra­tive” at Davos among the in­ter­na­tional busi­ness com­mu­nity and in­vestors who would other­wise be at­tracted to Canada’s so­cial ad­van­tages over the United States.

The Chi­nese pres­ence, build­ing on Pres­i­dent Xi’s 2017 Davos speech, which sup­planted the tra­di­tional Amer­i­can em­brace of glob­al­iza­tion and lib­er­al­ized trade, was an ef­fec­tive mix of tech be­he­moths (Alibaba, Ten­cent, Baidu), ar­tic­u­late gov­ern­ment pol­icy ad­vis­ers, om­nipresent Chi­nese me­dia and a global tech­nol­ogy lead­er­ship nar­ra­tive.

So, how well did Davos 2018 suc­ceed in tack­ling its stated ob­jec­tive of “cre­at­ing a shared fu­ture in a frac­tured world?” Given the ex­tent and depth of the frac­tures, and the ab­sence of an im­me­di­ate cri­sis de­mand­ing at­ten­tion, it is prob­a­bly not sur­pris­ing that nei­ther a clear nar­ra­tive nor a com­mon path for­ward emerged. How­ever, a num­ber of piv­otal is­sues sur­faced.

First, with re­spect to the ac­cel­er­at­ing global econ­omy, there was some con­cern we are at risk of “ir­ra­tional ex­u­ber­ance”, to use Alan Greenspan’s fa­mous term, in the strongly op­ti­mistic busi­ness re­sponse to the surge in eco­nomic growth, which may be more cycli­cal than sus­tain­able for most economies.

At Davos, the IMF re­vised up­wards its es­ti­mates for global growth (Chart 1) to 3.9 per cent for both 2018 and 2019, sig­nalling a broad-based and

syn­chro­nized global up­swing. U.S. tax cuts are stim­u­la­tive, par­tic­u­larly in the near term, as are mon­e­tary and fis­cal poli­cies in most coun­tries. Euro area and U.S. growth is con­sid­er­ably stronger, Asian growth is con­tin­u­ing to be ro­bust, and firmer oil and nat­u­ral re­source prices are sup­port­ing bet­ter growth prospects in com­mod­ity ex­port­ing coun­tries. Stock mar­kets, par­tic­u­larly Amer­i­can, are ex­tremely buoy­ant, the U.S. dol­lar has re­treated from its highs of re­cent years, and volatil­ity is rock bot­tom.

So why not be ex­u­ber­ant? For a num­ber of coun­tries, Canada and the United States in­cluded, this burst in growth is mainly cycli­cal, and will largely close re­main­ing out­put gaps that date back as far as the fi­nan­cial cri­sis and the en­ergy price col­lapse. Cer­tainly not bad news, but as economies ap­proach ca­pac­ity, stim­u­la­tive de­mand trans­lates more into higher in­fla­tion (and higher in­ter­est rates) than it does into stronger growth, and the econ­omy’s growth rate moves back to­wards its po­ten­tial or struc­tural growth path. In the case of Canada this po­ten­tial growth path is lower than cur­rent growth, likely well be­low 2 per cent, due to ane­mic pro­duc­tiv­ity per­for­mance and shrink­ing labour force growth. Re­flect­ing this, the IMF fore­cast shows Canada down-shift­ing from 3 per cent growth last year, best in the G7, to 2 per cent growth next year.

Hence the cau­tion on break­ing out the bub­bly un­til coun­tries tackle the “roof re­pairs” Chris­tine La­garde warned about—poor pro­duc­tiv­ity, weak in­no­va­tion, in­clu­sive­ness gaps, fi­nan­cial vul­ner­a­bil­i­ties and risks to the global trad­ing sys­tem.

Se­cond, on the in­ter­na­tional trade front, how do coun­tries want­ing to sus­tain the rules­based mul­ti­lat­eral trad­ing sys­tem re­spond to the U.S. Ad­min­is­tra­tion’s ap­par­ent cult of trade vic­tim­hood? This nar­ra­tive com­bines a mantra that the U.S. has been hood­winked in ev­ery mul­ti­lat­eral and re­gional trade agree­ment it has signed, and a seem­ing world view that bi­lat­eral agree­ments where the U.S. can ex­ert max­i­mum lever­age is the way for­ward for us all.

U.S. Com­merce Sec­re­tary Wil­bur Ross cer­tainly set a cer­tain tone for how a U.S. ad­min­is­tra­tion with an avowedly Amer­ica First pol­icy prism sees the past, present and fu­ture of trade. His view of China’s pro-glob­al­iza­tion stance: “They are good at free trade rhetoric but not free trade ac­tions.” His view of ex­ist­ing Amer­i­can trade agree­ments: “There is an ac­cu­mu­lated pile of de­bris from pre­vi­ous U.S. trade poli­cies and agree­ments that need to be dealt with.” His view of mul­ti­lat­eral trade agree­ments: “We pre­fer bi­lat­eral agree­ments which are more ef­fi­cient to ne­go­ti­ate.” Not sur­pris­ingly, many oth­ers did not find com­mon ground with these views. Canada’s For­eign Af­fairs Min­is­ter Chrys­tia Free­land made a strong pitch that NAFTA has served all three coun­tries very well, it can and should be mod­ern­ized, and all coun­tries have to shore up pub­lic sup­port for free trade, which is why Canada is push­ing a “pro­gres­sive trade agenda.” Her Mex­i­can coun­ter­part, Sec­re­tary of Com­merce Ilde­fonso Gua­jardo Vil­lar­real, was equally strong in his de­fence of NAFTA, took is­sue with Canada’s pro­gres­sive trade agenda, ar­gu­ing that you can­not ask trade agree­ments to solve do­mes­tic so­cial is­sues, and posed the rhetor­i­cal ques­tion to Ross that, if trade agree­ments are re­spon­si­ble for Amer­i­can trade deficits, how can he ex­plain that Amer­ica’s largest trade deficit of $350 bil­lion is with China, a coun­try with which the U.S. does not have a trade agree­ment. On var­i­ous Davos pan­els, Amer­i­can busi­ness CEOs spoke favourably about NAFTA from their per­spec­tives and cau­tioned that the way to mod­ern­ize NAFTA is not by rip­ping it up.

Third, there is a grow­ing “tech­lash” to­wards tech­nol­ogy be­he­moths such as Face­book, Google, Ama­zon, Twit­ter and oth­ers, driven by con­cerns about their dom­i­nant mar­ket po­si­tions and their con­trol over enor­mous amounts of per­sonal in­for­ma­tion and how they use it. This shift in mood against big tech was quite ev­i­dent at Davos this year, with sev­eral prom­i­nent speak­ers ad­vanc­ing the analo­gies to “big oil” and “big to­bacco”, nei­ther of which big tech is ac­cus­tomed to be­ing com­pared to.

Eu­rope is clearly lead­ing the charge on both the tech com­pe­ti­tion and data us­age fronts, for a va­ri­ety of rea­sons in­clud­ing an ab­sence of home­grown global tech play­ers. China is clearly at the other end of the spec­trum, with few data pri­vacy or us­age reg­u­la­tions and a clear strat­egy that data can be­come a Chi­nese ad­van­tage in the global com­pe­ti­tion to dom­i­nate AI and ma­chine learn­ing. The U.S. is some­where in be­tween these two po­si­tions, shar­ing with China the dom­i­nant global tech ti­tans but fac­ing grow­ing con­sumer con­cerns about how their per­sonal data is be­ing used and who should profit from it. The U.S. is very wary of Chi­nese strate­gic tech in­ten­tions and very anx­ious about cy­ber se­cu­rity risks, con­cerns that were com­mon to all coun­tries, with the fi­nan­cial sec­tor from a num­ber of ad­vanced economies de­bat­ing whether to con­sider new cy­ber­se­cu­rity part­ner­ships with gov­ern­ment.

Another aspect of the myr­iad tech talks at Davos fo­cused on how to re­spond to the pub­lic’s grow­ing angst

There is a grow­ing “tech­lash” to­wards tech­nol­ogy be­he­moths such as Face­book, Google, Ama­zon, Twit­ter and oth­ers, driven by con­cerns about their dom­i­nant mar­ket po­si­tions and their con­trol over enor­mous amounts of per­sonal in­for­ma­tion and how they use it.

about the im­pacts of mas­sive tech­no­log­i­cal change on work and so­ci­ety. Fu­ture jobs yet to be cre­ated are un­clear while the risk to ex­ist­ing jobs is only too clear. Anec­do­tally, there is a grow­ing re­al­iza­tion of the mag­ni­tude of the jobs at risk, with Ama­zon’s re­cent cashier-less check­out putting, po­ten­tially, the 3.5 mil­lion cashier jobs in the United States at risk just as the ad­vent of au­ton­o­mous trucks places the al­most 5 mil­lion long dis­tance U.S. truck driv­ers at risk.

How do in­di­vid­u­als rein­vent them­selves for the new world of work? How do so­ci­eties re­train and reskill huge swaths of the work­force? What are the re­spec­tive roles of gov­ern­ment, busi­ness, ed­u­ca­tional in­sti­tu­tions and in­di­vid­u­als in all this? Will gov­ern­ments at­tempt to pro­tect jobs or peo­ple in this tran­si­tion? Should coun­tries re­spond to con­cerns about the ethics of al­go­rithms or the val­ues em­bed­ded in a tech­nol­ogy-driven so­ci­ety, and if so, how? More ques­tions than an­swers, but the in­ten­sity of the pub­lic and po­lit­i­cal dis­cus­sions around these is­sues is heat­ing up.

Fourth, trust, or the lack there of, was a con­stant theme at Davos this year. To pro­vide some quan­ti­ta­tive con­text, Edel­man re­leased at Davos its 2018 Global Trust Barom­e­ter (Chart 2), which sur­veys trust in some 25 coun­tries with a fo­cus on the gen­eral pop­u­la­tion’s trust in the core in­sti­tu­tions of gov­ern­ment, busi­ness, me­dia and civil so­ci­ety (NGOs).

The re­sults point to trust deficits (less than 50 per cent of the gen­eral pop­u­la­tion ex­press­ing trust in the four core in­sti­tu­tions) in a ma­jor­ity of coun­tries in­clud­ing Canada. Among these trust deficit coun­tries, the U.S. ex­pe­ri­enced a “stag­ger­ing lack of faith in gov­ern­ment” ac­cord­ing to Richard Edel­man. For the first time, me­dia is the least trusted in­sti­tu­tion glob­ally and in­ter­est­ingly this is driven by a sharp drop in trust in plat­forms and by a sharp rise in con­cerns about fake news. On the busi­ness side, there was a sig­nif­i­cant uptick in trust-abil­ity and height­ened ex­pec­ta­tions: busi­ness is now ex­pected to be an agent of change in­stead of wait­ing for gov­ern­ment. If there was an emerg­ing con­sen­sus at Davos, it was that ex­ces­sive and ris­ing in­equal­ity is not only a driver of grow­ing dis­trust, but also a key risk to sus­tained growth over the medium term. For Canada, there were mixed mes­sages. Com­pa­nies head­quar­tered in Canada were the most trusted across the 25 coun­tries sur­veyed. How­ever, Canada was among the coun­tries ex­pe­ri­enc­ing over­all trust deficits, with gov­ern­ment (46 per cent), busi­ness (49 per cent), me­dia (49 per cent) and NGOs (50 per cent) taken to­gether gar­ner­ing the trust of less than 50 per cent of Cana­di­ans ac­cord­ing to the 2018 Edel­man Trust Barom­e­ter.

In sum­mary, Davos 2018 was a good re­flec­tion of the con­flict­ing forces at play in to­day’s frac­tured world. On the one hand, eco­nomic growth is un­ex­pect­edly strong, un­em­ploy­ment rates are at lows not seen in decades, stock mar­kets are boom­ing, in­ter­est rates re­main be­low any def­i­ni­tion of nor­mal, and tech­nol­ogy firms are churn­ing out mind-bend­ing new gad­gets. At the same time, the ris­ing geopo­lit­i­cal risks and grow­ing trust deficits are daunt­ing. Ian Brem­mer, CEO of the Eura­sia Group, char­ac­ter­ized these im­bal­ances as: “Let’s be hon­est: 2018 doesn’t feel very good. Yes, mar­kets are soar­ing and the econ­omy isn’t bad, but cit­i­zens are di­vided, gov­ern­ments aren’t do­ing much govern­ing, and the global order is un­rav­el­ling.”

Global order re­quires es­tab­lish­ing and en­forc­ing clear rules of the game for how glob­al­iza­tion will work in a highly in­ter­con­nected, mul­ti­po­lar world that is in the midst of a tech­no­log­i­cal rev­o­lu­tion. The Wash­ing­ton Con­sen­sus, which pro­vided that frame­work for many years in a very dif­fer­ent global con­text, is no more. If a new con­sen­sus is to be found, will it be driven by rein­vig­o­rated Western lead­er­ship (a Paris con­sen­sus?), by the new world­view of China (a Bei­jing con­sen­sus?) or from else­where? Hope­fully, next year’s Davos will shed more light on where com­mon ground is to be found.

World Eco­nomic Fo­rum photo

Chart 1: UP­DATED IMF FORE­CAST

Chart 2: 2018 TRUST BAROM­E­TER

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