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The Inflation Beat
Q & A
Inflation Forecasting Methodologies
Globalization can be thought of as greater faciliation of trade amongst the nations of the world.  Truth be told, there is tremendous inequality amongst the nations of the world.  Some are simply more develped and more rich than others.  Those that are less developed and less rich have a labor force that is, in some cases, substantially cheaper than using labor in the US.

Having advanages in technology or industrial know how to our competitors is one thing.  However, having a large pool of cheap labor is another.

Over the last 50 years or so in particular, America benefited tremendously from lower inputs costs via moving production of mostly goods, to other countries with lower labor cost and less regulations.

First with NAFTA in 1994, which faciliated free trade with Mexico, a country with wages less than those of the US. It allowed for US companies to move production to Mexico and lower the input costs to the overall cost of producing the good or service.  

The manufacturing company I worked for produced circuit boards.  Many of these circuit boards were for automobiles.

As many automobile companies began to open plants in Mexico, just south of the border, the company I worked for followed suit opening a back end operations plant to do testing and final inspection, before sending the finished boards either back to the States or right next door to the automobile company's assembly plant located in Mexico.

The bottom line is, we reduced input costs by having a plant in Mexico to provide lower costs to the back end operations.  

This could very well be argued as a win win for everyone. 

Then, in 2001, China was granted permission to join the World Trade Organization (WTO) opening up China's market for imports but also allowing China to sell more to the world.

China's entry into the WTO would prove to be a very deflationary force.  In 2001, just when things started moving to China, the same products my company was making could be made in China for what we were told was 15 cents on the dollar.  Workers would live in dormatories and earn $50 a month while working 6 days a week and 12 hours a day.  At that time, to the Chinese living in the countryside, this was a good opportunity.  

Wages in China have since increased substantially, but are still lower than that of the US.

China would also start to make auto parts for US automobile companies and this would be a deflationary force.

Here is a chart of the consumer price index of New Cars:
The price of new vehicles stop rising by 1997 and began to fall into 2008.  The low inflation in cars really captures the extent of globalization's deflationary force.  By moving car manufacturing facilities, for both parts and assembly, overseas, first to Mexico and then to China, we replacing the labor of domestic employees with cheaper foreign labor. 

Now take a look at this chart showing the number of jobs in the US that are in the motor vehicle and parts sector:

Beginning after 2000, jobs in the US auto sector started dropping like flies.  They fell especially hard prior to the 2008/2009 recession.  These jobs were not lost to robots or gains in productivity, they were lost to globalization.

The benefit was we got deflation in our new cars.  

Per the chart below, imports as a percent of GDP peaked in 2008 and has been in a bearish trend since then.

So what we're looking out for, when forecasting inflation, is to see what the trend is for imports as a percent of GDP coupled with what the value of the dollar is.

In an environment of a stronger dollar and imports rising as a percent of GDP, that would be a very deflationary force.  At the same time, a weakening dollar coupled with imports as a percent of GDP shrinking, meaning we're relying more on domestic production, that would prove a highly inflationary force.

So what I'm concerned with is the diretion of imports a percent of GDP.  Is it rising or declining.

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