Beware of the upcoming shock – Twin Cities

December’s labor market numbers show great strength in our economy. About 216,000 jobs were added to the U.S. economy last month, increasing annual payrolls by 2.7 million, his third-best figure this century.

The unemployment rate remained at 3.7%. This is the 25th consecutive month that it has been below 4%, a situation not seen since the 1960s. “In many ways, the labor market is in the best shape not just since (before COVID-19), but in decades,” said Diane Swonk, chief economist at KPMG.

Total production grew at a blistering annual rate of 8.2% in the third quarter of 2023, the last year for which data is available. Compared to the same quarter in 2022, it was 6.2 percentage points higher. This is very strong.

On the inflation front, consumer prices rose by 1.2% annually in November, or 3.1% compared to 12 months ago. The overall figure for 2023 will fall within that range and be the lowest of any major developed country in the world. Average incomes are above inflation, and this is most true for low-income workers. Stock indexes remain near record highs, and interest rates are starting to fall.

So even though the economy is in very good shape by most objective measures, polls show that a majority of voters still think the economy is terrible. This gap between perception and reality is a problem not only for President Joe Biden’s re-election campaign but also for political scientists and experts.

But the question for economists is how these economic variables will behave in the future. It’s always an unknown. But the current abyss underlying one’s rational expectations is huge. Today, as in 1914, or his 1930, or the early days of 1942, there are many shocks in store that could cause everything to collapse.

why?

You need to understand some differences. The first is the difference between “risk” and “uncertainty.”

No one knows what the future holds. But risk is a more general situation, where we have historical trends, actuarial information, or prices of financial instruments to make estimates or predictions. Even if you can protect your interests by purchasing insurance, futures contracts, or options, you still face risks.

Uncertainty is more scary. These include not knowing the future and not having a data source to make objective predictions. For example, at the beginning of an earthquake year, forecasters expected a major earthquake to occur in San Francisco in 1906, the outbreak of World War I in 1914, and the collapse of the New York Stock Exchange in 1929. Or Russia could not know what would happen. On this day in 1918 and 2020, we had no idea that the deadliest pandemic in modern history was just months or weeks away.

It’s not like there aren’t any signs. It is clear that, like in 1862 and his 1942, significant events may soon unfold. Those years were when the United States was on the brink of, or had already begun, a major war. Today, fuses have already started sputtering, or actively burning, in places around the world. But we don’t know exactly what dangers we face or to what extent.

A second distinction for economists is between “endogenous” and “exogenous” shocks. What is endogenous is internal to the economic system. Although it spread internationally, the mortgage collateral market bubble that was forming two decades ago was internal to the economy. So did the Federal Reserve’s massive expansion of the money supply from 2021 to 2022 to cushion the impact of the coronavirus, anticipating the risk of rising inflation.

Exogenous factors, or “shocks”, occur outside the economy. We saw these buildings, but also Japan’s attack on Pearl Harbor in 1941, the coronavirus pandemic in 2020, Russia’s attack on Ukraine in 2022, and Hamas violence in Gaza three months ago. The uprising is an exogenous shock. So too is the potential for major presidential candidates, if elected, to upend the global trade and tariff system, even if they face multiple criminal charges. Poor tribesmen in the barren Arabian Peninsula are also using drones to shut down the world’s most economically important waterway.

So is the possibility that the long-smoldering Cold War between the haves and have-nots will turn into a full-scale global conflagration.

Unexpected results arise from unusual situations. For half a century, hundreds of economists have spent millions of dollars building mathematical economic forecasting models, but few are as useful as the ruler in a sixth grader’s backpack. Forecasters can predict fluctuations around a trend with great accuracy, as long as the trend continues. However, we are not very good at predicting when trends will suddenly change sharply.

Therefore, net of external shocks, the U.S. economy is likely to be in good shape in 2024 with continued growth in real output and earnings, low inflation and unemployment, and rising employment. Stock prices may remain stable or rise. Interest rates will go down a little.

Unfortunately, perhaps tragically, external shocks are likely to hit the U.S. economy. There is no objective answer to the question of which attack, when, and with what strength.

The Middle East today is frighteningly similar to Europe in 1914. On June 27, that year, diplomatic tensions in Europe were at their lowest level in years. The next morning, a frail Bosnian student shot and killed the Archduke of Austria. Austria threatened Serbia, which instigated the assassination. Russia supported her ally Serbia. Germany supported its ally Austria. France had signed a treaty to support Russia in case of war with Germany. Britain had an implicit promise to support France and a treaty guaranteeing that Belgium would be protected from attack by anyone. Eventually, the United States also became involved. It would take 51 months and 40 million deaths before peace returned to Europe.

Last October, Hamas in the Gaza Strip launched a brutal attack on Israel. The politically weak Israeli government responded strongly. This infuriated many Arabs and Muslims of other ethnicities. Hamas, like Lebanon’s Hezbollah, is supported by Iran. Sunni Muslim Saudi Arabia and the small Persian Gulf states hate and fear Iran, a country of Shiite Muslims rather than Arabs. Yemen is a client state of wealthy neighbor Saudi Arabia, but it is locked in a civil war with the Iranian-backed Houthi rebels.

The Houthis had only primitive rockets, but following Ukraine’s example, they have learned to use drones to deliver explosives with precision. A few major collisions with the bridges of container ships heading to or from the Suez Canal in the Red Sea could cut off a major artery of the global economy. Saudi Arabia could then launch even harsher and more indiscriminate attacks against the Houthis, setting off a domino effect. Iran may support the Houthis by blocking the Persian Gulf and attacking Saudi facilities. This will put a brake on the world economy. In the worst case scenario, Iran could use nuclear weapons. If that happens, Israel might do the same.

If China’s Xi Jinping were to muster the courage to seize Taiwan militarily, a similarly dire scenario could emerge for Ukraine, Russia, and Asia – submarines from Japan, South Korea, Australia, and India could attack the US and Taiwan. It will join submarines in blocking all imports from China. In the worst-case scenario, the United States would send a naval task force to defend Taiwan, and Chinese hypersonic missiles would successfully sink a U.S. aircraft carrier for the first time since 1944.

One could also consider “shock” scenarios within the United States, such as further political violence involving Donald Trump and his supporters. Instead of respecting objective rules of law and democracy, the very legitimacy of those rules is called into question because they are inconvenient for them. the purpose desired by humans.

In summary, unless something goes wrong, the U.S. economy will probably be fine in 2024. As my mother used to say, she “hopes for the best and expects the worst.”