Risk level: Yellow - Elevated


RED: Severe (+/- 4%) ORANGE: High (+/- 2%)  YELLOW: Elevated (+/- 1%)  BLUE: Guarded (+/- ½%)


THE BOOSTER SHOT
•             McCain's vision of a U.S. beacon is under threat from the Trump administration.
•             A threat to leave the WTO is a forfeit of the liberal order the U.S. designed.
•             Development, according to Henry Kissinger, requires a "spirit of cooperation."


This week's narrative was driven by the U.S. political meaning of the death of Sen. John McCain. In some ways, it marked an end of an era in American politics. Delivering his eulogy, former Vice President Joe Biden said the Arizona senator "understood that America was first and foremost an idea." And that idea is changing. With a Mexican trade proposal on the table, President Trump turned his ire toward Canada, which has one of the most comprehensive defense arrangements and $1.7 billion in daily bilateral trade with the United States. Later, the president suggested he would pull out of the World Trade Organization, an organization the United States helped design. Perhaps after decades of management fatigue, it's understandable for the U.S. government to seek some sort of new leadership configuration. But any drastic change in the rule-making mechanism of global order is disruptive to the entire international system. Trump's decisions have consequences that extend beyond his myopic commitments to campaign-trail pledges. Hegemony comes from the ability rather than desire. In a note to clients this week, J.P. Morgan said "something will give" and we wonder what that dropped shoe will look like in economic terms.

For Sen. McCain, the former vice president said, the United States was "the world's last best hope [and] the beacon to the world." And for the decades after the indoctrination of The Marshall Plan, that was largely true. Through the post-WWII reconstruction effort, the United States was able to undermine the appeal of the Soviet Union while at the same time integrating the economies of Western Union into its sphere of influence. The world order that emerged out of the 1940s was one of liberalism; the idea that order comes through rule-making regimes and cooperation. The international system under this order is a non-zero sum game that's played over many rounds, rather than one single turn. Since the end of World War II, this international system was bound to U.S. hegemony, as it was the only power in the system with the capacity to lead.  Since the end of World War II, the international system was largely a U.S. creation. Integration is now taboo as President Trump seeks to dismantle a system that was largely of U.S. design.

"If they don’t shape up, I would withdraw from the WTO," Trump told Bloomberg News on Thursday.

Evolved from Bretton Woods, the WTO is largest international economic organization in the world. The aim of interdependent mechanisms like the WTO is to coordinate parties around a core group of rules and, ultimately, shared interests. With power concentrated around the United States and Europe, management of this system becomes easier because of the capabilities of the major players.  Management also gives the major powers greater control over how the game is played. But as obligations accumulate for the lead powers, management becomes a burden. Former Secretary of State Henry Kissinger addressed this concern in 1974 not with a determination to back away from the burden, but with a determination to take the challenge on directly.

"Development requires, above all, a spirit of cooperation," he said.

Rather than cooperate collectively, the Trump administration aims to reshape U.S. relations in a one-on-on, round-by-round fashion. Kissinger wrote that, whatever the ideological belief, all nations are part of an international system and all nations are therefore interdependent and liberal. Under the realist tradition embraced by Trump, a tradition that pits every man against every man, the game is zero-sum and it's uncertain which pole in the global balance of power losses out.

Canadian Foreign Minister Chrystia Freeland said she's hoping for a "win-win-win" arrangement on North American trade. Brushing off comments by the president (and perhaps brushing off the president himself), the Canadian minister said her negotiating partner wasn't Trump, but U.S. Trade Rep. Robert Lighthizer. Trade talks are set to resume next week and we wonder about the energy implications. Chapter 6 of the North American Free Trade Agreement prohibits direct government intervention in the energy markets, either through export taxes are direct disruption of supply channels.  Without NAFTA, the price for Canadian crude oil to the United States could jump. With even a 10 cent per barrel increase, that would cost the U.S. economy an extra quarter million dollars or so per day. That's a zero-sum loss for the United States, which imports most of its crude oil from Canada. Meanwhile, Canadian producers are already looking to markets outside of North America for oil customers, though Canada faces its own problems in approving new infrastructure.

There could be tailwinds for the price of crude oil given the latest 4.2 percent annual rate increase for U.S. real gross domestic product in the second quarter. But a more careful look in the government data found real GDP increased sequentially 1.8 percent, compared with a 3.9 percent increase in the first quarter. Meanwhile, core PCE inflation hit the U.S. Fed target of 2 percent, but that may be the peak given some curve-based predictions of a slowdown next year. Against that data, meanwhile, is the consistent threat of the loss of Iranian barrels at time when U.S. holiday travelers are paying the highest retail gas prices in four years. That too is a zero-sum loss.

Next week could be a down one for the price of oil as it's expected the Trump administration will hit China with another round of tariffs. Meanwhile, Canadian negotiators look to Wednesday as a pivotal day for multilateral trade.  Monday is a federal U.S. holiday so trading will be light. Tuesday gets off with a bang as the Institute for Supply Management publishes both its U.S. manufacturing and employment survey. We may get a peek inside Canadian economic thinking with a rate decision on Wednesday, which will also be a key market day with EIA inventory figures. And it's big-data Friday, with U.S. payrolls for August and a gauge of Mexico's Consumer Price Index.

We're going Yellow this week, looking at WTI setting more of a ceiling than a floor at $70 per barrel on Thursday. Expect the price of oil to drop lower if trade tensions heat up on both sides of the Pacific. Some sustained pressure may be present given the dwindling movement in Iranian barrels.

Comments