By Patrick Wolff
In today’s world, one of the few
points on which everyone seems to agree is that the pace of
globalization will only accelerate. Economies around the globe
will become ever more interconnected, and poorer countries will
continue to catch up to the West. An optimistic interpretation
suggests a richer world where everyone gets along better, while
pessimists see a more dangerous world where rising powers pose
risks to peace and stability. Either way, the relative decline
of the U.S. is presupposed.
Investors would do well to consider the contrary view that
globalization is more likely to slow down or even reverse.
Indeed, the rapid pace of globalization during the past decade
looks like a bubble now poised to burst. If true, economies may
become less integrated, and emerging economies may see slower
growth than anticipated. Seen in this light, America looks like
an attractive place to invest.
Consider first the prospect for economic integration,
à la the European Economic and Monetary Union. Ten years
ago the euro replaced such venerable currencies as the German
mark, the French franc and the Italian lira. For a while this
seemed to be the height of globalization.
In hindsight, the economic boom ushered in by the euro was
primarily driven by unbalanced trade and capital flows:
Germany’s exports were subsidized by a
comparatively weak euro, while the resulting current account
deficits in the importing nations with too-strong currencies
caused debt-fueled bubbles. It is now evident that the EMU was
a case of false globalization, because leaders were not
forthright about the costs and commitments involved in creating
a common currency. German citizens never understood the costs
of financing their exports by making bad loans to the likes of
Greece; Greek citizens never understood the risks of accepting
a currency that was stronger than the underlying fundamentals
of their economy.
Europeans as a whole were never told that a common currency
might require integrating their fiscal and monetary policies
— essentially surrendering their national economic
sovereignty. Just as the true test of a marriage comes after
the honeymoon, the true test of globalization comes after the
boom. As the bust deepens, the prospect of divorce looms large
The European Union is not the only place where a boom gave
birth to this false globalization. The rise of emerging markets
and the so-called BRIC nations (Brazil, Russia, India and
China) has largely been the story of China’s
extraordinary economic growth and its associated appetite for
commodities. China’s boom has been powered by its
supernormal investment in fixed assets such as housing,
railroads and airports. According to official statistics,
fixed-asset investment is roughly half of the level of
China’s GDP and an even greater share of the
growth of its GDP. These numbers are historically unprecedented
and more than twice the amount for the world on average.
For China to keep growing its economy at the same rate, one
of two things must happen: Either it must keep increasing the
buildings, roads and railroads it builds by the same amount
each year, or at whatever point it stops, all those assets must
produce a very good return on investment. Investors generally
assume that all this investment has been made intelligently,
but why should we believe it, given China’s lack
of transparency and notorious corruption? The typical response
is that the destiny of poorer countries is to catch up to the
West, yet this belief reveals the triumph of hope over
experience: Economic history over the past century and a half
teaches that convergence is the exception, not the rule.
Things may seem tough for America today, but the U.S. has
prospered throughout its history in the face of many
adversities. What about dysfunctional politics?
It’s true that Will Rogers once said, "I
don’t make jokes. I just watch the government and
report the facts." (Or maybe that was S&P . . .) But he
said it almost 100 years ago! Not only has the U.S. always
prospered before, it can do so on its own if necessary. The
economy is largely self-sufficient, as gross trade is only a
little more than 20 percent of total GDP and a good deal lower
than most other large, developed countries. Yes, the rising
tide of globalization lifts all boats, but the U.S. will stay
afloat either way.
Meanwhile, the U.S. economy is slowly recovering, and it
continues to attract both people and capital. U.S. equities and
the dollar, after being two of the worst investments of the
past decade, are now cheap. And that may be the best argument
of all in their favor.
Patrick Wolff is the founder and managing member of
Grandmaster Capital Management, a long-short equity hedge fund
firm based in San Francisco.