With domestic production representing one-quarter of the world total at purchasing power parity, annual growth above 3%, spending on energy equivalent to one-quarter of world consumption, the United States constitutes the world's main economic driver. It boasts powerful instruments: a national currency in which most financial reserves and commercial transactions are denominated, as well as vast research and development resources.
Those qualities have been a magnet for both people, manifested by high immigration rates, and for foreign capital inflows offsetting the current account deficit.
The United States may nonetheless be living beyond its means with recurrent fiscal and trade deficits that, if no corrective measures are taken, could end up triggering a dollar collapse and an upsurge of interest rates, affecting the rest of the world.
>> Strengths and weaknesses
Strengths
The predominance of the American dollar and economy has facilitated financing public sector and current account deficits.
High immigration rates, great geographic mobility, and flexible labour legislation have been conducive to balancing labour supply and demand.
The high level of research and development and the cooperation between the private and public sectors have permitted universities and companies to attract talent.
The reactivity and flexibility of companies and public officials have permitted rapid adjustments to fluctuations in economic conditions.
Strong growth potential has held foreign investor interest over the long haul.
Weaknesses
The scale of the twin deficits could lead to sudden economic and financial adjustments.
Inadequate restructuring in many industrial sectors has affected their competitiveness and prevented them from fully exploiting the dollar's weakness.
Unequal access to education and the social safety net has exacerbated the increasing dispersion of incomes. Wealthy states can devote more resources to education and prosperous companies can offer supplementary retirement and health insurance benefits.
The ultimately aging population has been jeopardising the survival of the federal Medicare and Social Security programmes intended to cover the health and retirement of those 65 and over.
>> A slight downturn in the 2005 first quarter
After a year marked by exceptional growth in 2004 (up 4.4%), economic activity registered a moderate slowdown in the first quarter this year (up 3.5%) linked to a decline in industrial investment and, to a lesser extent, household spending. Moreover, trade imbalances have continued to be a drag on growth. Although higher, inventories have remained at very reasonable levels in relation to sales. This essentially modest downturn — doubtless linked to the waning effects of ultra-accommodating economic policy — will be unlikely to last. A stabilisation is expected in coming months, however, a new upturn is possible in the second half, which would permit full-years growth to reach 3.5 to 4% for 2005.
>> A still-favourable monetary and fiscal environment
The Federal Reserve has manifested its intention to resume neutral economic policy with its key rate likely to rise to about 4% by early 2006. The albeit temporary increase in underlying inflation, excluding energy and food, in the first quarter, the concomitant increase in unit labour costs, and continued growth of employment have tended to bear out the soundness of that policy with the eighth hike in a year pushing the rate to 3% early May. It is nonetheless true that real interests are still at accommodating levels at this juncture.
The fiscal environment, considering the resolution adopted by Congress end April on the 2005-2006 budget, should remain unchanged and thus expansionary. With the priority given to the defence and security sectors, discretionary spending in other areas should only remain stable, which should not allow a reduction in the fiscal deficit exceeding 4% of gross domestic product. Although economic players may realise that the era of tax breaks and easy money (2001-2003) warranted by the poor shape of the economy at that time may be over, they are nonetheless not convinced that the time for housecleaning has come.
>> Still-robust household spending
Representing 70% of GDP, household consumption has remained the main economic driver. The slight slowdown registered early this year mainly affected durable goods purchases like household appliances. Sales of household goods and cars have remained firm. The property market has remained dynamic, still buoyed by low mortgage rates. With the continued income and employment growth, household spending should remain robust, even if it will remain sensitive to trends in energy product and property prices as well as to interest rate increases. In a worst-case scenario, these three factors could combine to provoke a reversal in trend. For example:
Oil prices rocket again > fear of inflation > interest rate rise > fall in property prices > dissipation of wealth effect > slowdown in consumption > fall in financial markets > crisis
>> Company investment essentially dependent on the steadiness of domestic demand
The slowdown registered in industry during the first months this year does seem to be the normal consequence of the upsurge posted in 2004. In any case, it has only concerned traditional industrial capital goods. High technology equipment has not been imputed. For the full year, company spending should continue to increase at a good rate.
>> A record trade deficit
Imports will remain very robust since the euphoric effects on domestic demand of particularly expansionary economic policy will take some time to dissipate. With the value of their property wealth having surged and continuing to rise, American households have felt little motivation to reduce their spending in favour of savings, which have declined to very low levels.
Despite a 17% decline in the trade-weighted value of the dollar since it peaked in February 2002 and 6% since end 2004 (source : IMF April 2005), export growth has been straining to catch-up to the pace of imports. Although a gradual depreciation should persist in the medium term, the recent — and probably temporary — strengthening of the dollar along with the slight foreign demand downturn could impede that catch-up process. Further out, that trend will continue to be hindered by the persistence of moderate growth in Japan and Europe as well as by the under-valued levels of Asian currencies against the dollar.
The trade deficit had been responsible for nearly the entire current account deficit, now representing 5.7% of gross domestic product. Satisfied at this juncture to acquire American assets, the rest of the world, notably Asia, the Near East, and Europe, has continued to compensate for the shortage of domestic savings. Should that appetite for USA assets decline significantly due for example to a level of debt considered excessive, a drop in company earnings, or an upsurge of inflation, the dollar exchange rate could fall and interest rise more rapidly.
>> Companies
In that generally favourable economic environment, company earnings performance has continued to improve overall. At the same time, the trend in the Coface payment incident index has remained at good levels. Industrial and retail companies have recovered some control over their prices, a welcome development in a context of rising costs and higher prices for imported products.
Earnings growth should nonetheless sag throughout the year as a direct result of the increase in unit labour cost resulting from the slowdown in productivity gains and the increased cost in borrowing, caused by the renewed rise in interest rates. However, considering the excellent financial health of most companies when the year began, payment behaviour now appears unlikely to deteriorate except perhaps in sectors like the car industry, air transport, or textiles where their situation has already been relatively poor and they have sometimes had to assume debt at rates already relatively high due to their poor ratings.
>> Steel
Slower world demand growth with China moving from a net importer to net exporter position, particularly high stocks at both the service centre and processor levels, and sluggish demand from the car and home appliance industries are all factors that have been weighing on flat steel prices. Their levels have nonetheless remained far above historic averages and should stabilise due to the greater discipline exercised by producers and the maintenance of protective tariffs against imports from Russia, Brazil, and Japan. The situation has been better for long products due to firmer demand in non-residential construction and public works. In total, apparent consumption should decline 4% in 2005. Less favourable prices coupled with continued high production costs will affect company earnings in the sector, which should nonetheless remain satisfactory due notably to an excellent first half. In addition, substantial productivity gains have been underpinning very significant improvement in earnings performance. Payment incidents will remain uncommon and limited to non-integrated processors and distributors experiencing difficulties passing higher prices on to customers.
>> Pharmaceuticals
Although the United States represents the largest consumer region with 40% of world sales, drug sales there registered their lowest growth rate in nine year, up 8% in 2004. American laboratories have particularly suffered from the generic drug phenomenon and the decline in new drug launches. Moreover, the entire sector has been the subject of suspicion due to successive withdrawals of best-selling products. Despite the stabilisation of market growth expected in 2005, the losses suffered by manufacturers due to the growing market share of generics and the increased cost of therapeutic risk prevention, company payment behaviour should remain satisfactory. Wholesalers, meanwhile, will continue to perform well since, unlike manufacturers, they should realise higher margins on generic sales.
>> Chemicals
Producers registered 14% sales growth in 2004 thanks to both strong domestic demand and the upsurge in exports. Increases in production, capacity utilisation, and sales have contributed to sharp improvement in their financial performance despite high energy and raw material prices. Although sales growth should be much slower in 2005 (up 2.5% after up 5% last year), notably from the second half, their profits will continue to improve. The high proportion of natural gas in their supply needs will remain an advantage in relation to European competition more dependent on oil whose price has been comparatively high.
>> Industrial capital goods
Sales rose 16% in 2004. Exports (30% of sales) were notably up 22%, thanks to booming Asian markets with the domestic market also up 13%. Although pushed higher by the increased demand, sales prices have not returned to the levels prevailing during the boom years of the nineties. The slowdown expected in 2005 should be relatively limited due to a sectoral and geographic specialisation conducive to exports and with domestic sales remaining at satisfactory levels. Even with high intermediate product prices (steel) and competition on standard product prices sometimes undermining profitability, payment behaviour should remain relatively good.
>> Mass distribution
After a slowdown late last year, household spending has recovered its dynamism, buoyed by an improved employment situation and increasing incomes. Meanwhile, the department store segment has been undergoing major upheavals with the merger of Kmart and Sears and the acquisition of May (with leading trade names like Lord & Taylor, Hecht's, Marshall Field's, or Robinsons) by Federated Department Stores (the owner of Macy's and Bloomingdale's). In response, industrial companies have been regrouping (purchase of Gillette by Procter & Gamble) to deal more effectively with the price pressure exerted by discounters and the dominant position of a few giants, notably Wal-Mart. Despite the fiercely competitive context, the company financial situation has remained generally satisfactory. High-end players have notably posted significant improvement in earnings performance while discount specialists have been registering slower growth.
>> Paper
With a higher growth rate and better control over prices and production in the United States, the sector has performed better there than in Europe. Groups with forestry and woodworking operations have benefited moreover from the dynamism of the single-family-dwelling sector. Overall, company earnings performance has been improving despite the effects of the heavy debt burdens often resulting from buyouts of competitors and the high cost of inputs (energy, fibres, chemical additives) and freight. The situation of the various paper types has also varied. Demand has thus been sluggish for newsprint and woodfree paper due to increasing competition from the Internet on want ads and to substitution of other paper types for several uses (books, envelopes, mailers, advertising). Conversely, the uses for coated paper have been increasing and demand for packaging materials and tissue paper has been growing. Sales and prices should continue to rise in coming months but at a slower pace with the greater control over production contributing to that trend.
>> Car industry
In the United States, 2005 should be characterised by weak growth of passenger car production (up 1%) and stability of sales at a good level. Except for Daimler-Chrysler and BMW, however, North American and European manufacturers are losing market share to Asian brands, notably Japanese and Korean. Rising petrol costs have tended to dissuade households from buying fuel guzzlers like sport utility vehicles and pick-up trucks, which have represented, however, the core and the most profitable segment of the GM and Ford ranges. While not sufficing to stem the sales decline, promotional campaigns have continued to affect their profitability. Moreover, American manufacturers have been suffering from the soaring cost of medical coverage for their active and retired staff and from the losses registered by their European operations (Opel, Saab) with restructuring programmes in progress. Prudence will be in order for traditional local manufacturers and their suppliers especially since they will have to renegotiate their raw material supply contracts with impending increases of 20% to 50%. The Chapter XI protection already sought under American bankruptcy law by the Tower Automotive and BBi Group parts manufacturers constitutes a reflection of those difficulties. In the utility vehicle segment, however, carmakers and parts manufacturers should continue to post excellent performance in both production and profitability terms due to continued strong demand for heavy goods vehicles.
>> Telecommunication services
The four Bell companies have been faced with the decline of fixed telephony and competition from large cable operators like Time Warner and Comcast, which offer the same services and hold dominant positions on the Internet segment. They have attempted to fight back with bundled offers including telephony, high-speed Internet, and television and, for three of them, have also been compensating with their mobile telephony business. However, they also have to contend with the presence of two independent national mobile operators, including one resulting from the Nextel-Sprint merger, and from numerous regional and virtual operators. In that competitive context, the market has been undergoing a concentration process with the buyout of AT&T by SBC and the struggle between Verizon and Qwest for control of MCI.
>> Construction
So far this year 2005, individual housing construction — unlike the non-residential segment — has continued to post excellent performance. However, that situation should gradually reverse starting in the second half. Overall, the sector could thus suffer a slowdown in 2005 mainly attributable to a slight downturn in single dwelling construction (45% of total sales) under the combined effects of tightening monetary policy, the now high proportion of homeowner households, and high property prices. The housing renovation segment, meanwhile, should retain its dynamism. Although non-residential business activity (office buildings, hotels, factories, and sales outlets) should begin to grow again, the pace of that growth should be moderate due to the negative impact of higher material costs on investment decisions. Finally, the improved financial health of state governments should allow resumption of school and hospital construction.
>> Air transport
Traditional North American airlines, particularly affected by fierce competition from low-cost carriers — which represent 30% of domestic business and have been preventing them from passing on the entire increase in fuel prices in ticket prices — have continued to suffer heavy losses. Recourse to Chapter XI bankruptcy law protection has doubtless allowed several historic companies to survive by reducing their payroll costs and transferring responsibility to a public body for pension payments to retirees. They have also benefited from the good performance of subsidiaries handling regional connections. These positive factors will not suffice, however, to allow them to return to profitability considering the still high cost per seat-mile (excluding fuel). The bankruptcy law protection has, moreover, had the perverse effect of sustaining surplus seating capacity, which only a concentration process could remedy (cf. discussions under way between US Air and America West).
>> Textiles and clothing
The textiles and clothing sector is still in difficulty. The end of the multifibre arrangement on 1 January this year could further weaken many companies. According to the WTO, China and India should increase their market share in clothing respectively from 16% to 50% and from 4% to 15% in the United States by 2008. At this juncture, the initial figures on imports from China of sensitive products have reflected soaring growth. According to the department for trade, American imports of Chinese cotton shirts rose by 1,275% and cotton trousers by 1,573% during the first quarter of 2005. The volume of undergarments imported from China has more than tripled in the same period. In order to check this tide, the United-States has brought into effect safeguards to limit the import of several products at 7.5% compared to 2004. The Chinese authorities have reacted harshly. Some criticisms have even reached the heart of the United-States through the large textiles groups, who have already set up operations in China and who have retained domestically only creation activities such as design and conception. Nevertheless, such conservative measures are aimed purely at low value-added products and, as a general rule, the end of quotas appears to have been achieved across the whole of the textiles sector. Retailers may ultimately be the big winners, since they will benefit from a 5% to 22% reduction in purchase prices. That will notably be true for mass distribution groups, which may not entirely pass on the reductions to consumers.