Reindustrialisation Risk
Comment of the Day

April 16 2013

Commentary by Eoin Treacy

Reindustrialisation Risk

Thanks to a subscriber for this report by Gerard Minack for Morgan Stanley which may be of interest to subscribers. Here is a section
The reindustrialisation of America, if it occurs, will likely be bearish for US equities. The biggest medium-term issue for equity investors is whether current high profits can be sustained. One factor boosting margins was the Asian-led surge in global labour supply, which squeezed returns to labour and boosted returns to capital. This was particularly pronounced in America. Reindustrialisation implies that this process has run its course, suggesting that returns to capital will revert to normal over the medium term.

Most see the prospect of America reindustrialising as bullish. In my view, that depends on whether you are an economist or whether you are an investor. The ‘deindustrialisation' of America was bad for economic growth, but the increased global supply of labour lifted margins and total profits. The effect of wider margins on profits far outweighed the effect of two weak US GDP cycles (the cycles following the 2001 and 2008-09 recessions). Reindustrialisation may reverse this mix: Economic growth may improve, but margins worsen.

Eoin Treacy's view The reindustrialisation of the US economy is a phenomenon we have espoused for more than a year but it would be more appropriate to refer to it in terms of the themes which contribute to it. These are the USA's competitive advantage in energy costs and the country's position at the forefront of technological development, not least embedded processing, industrial automation and microchips.

For sectors where these themes contribute to higher margins the case for re-shoring is compelling. In a global economy where companies increasingly make decisions based on a nuanced process taking a wide number of conditions into account, they cannot be expected to relocate production capacity unless there is a compelling reason to do so. Therefore, the case for reindustrialisation is not absolute but will be dictated by the decisions of individual companies from various sectors with very different goals.

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