Global Economic Global Economic Shifts in 2007 and Shifts in 2007 and

BeyondBeyondRobert F. Wescott, Ph.D.Robert F. Wescott, Ph.D.

Pioneer Investments ColloquiaPioneer Investments Colloquia

PraguePrague

29 November 200629 November 2006

A Major Geopolitical Shift

Global Liquidity Now Global Liquidity Now Slowing Slowing

U.S. monetary base plus world foreign U.S. monetary base plus world foreign exchange holdings (percent change, year on exchange holdings (percent change, year on

year)year)

0%

5%

10%

15%

20%

25%

30%

2000

Q1

2000

Q3

2001

Q1

2001

Q3

2002

Q1

2002

Q3

2003

Q1

2003

Q3

2004

Q1

2004

Q3

2005

Q1

2005

Q3

Sources: Federal Reserve, IMF COFER database

Oil: A Continuing Oil: A Continuing Burden on the World Burden on the World

EconomyEconomy

Source: EIA, IMF WEO

0%

1%

2%

3%

4%

5%

6%

7%

1970

1974

1978

1982

1986

1990

1994

1998

2002

2006

Global Slowdown Trigger Level?

What’s Hurting Investment What’s Hurting Investment Climate “A Lot”?Climate “A Lot”?

54% 53% 52% 36% 26%

Source: UBS Index of Investor Optimism, Nov. 27, 2006

Housing Prices Rising Housing Prices Rising WorldwideWorldwide

-50% 0% 50% 100% 150% 200% 250%

Hong KongJapan

GermanySwitzerland

SwedenCanadaFrance

DenmarkBelgium

N. ZealandItalyU.S.

NetherlandsAustralia

BritainSpain

IrelandS. Africa

Percent Change, 1997-2005

Source: The Economist

5.3%

29.6%

20.6%

81.3%

Share of TotalEmployment, 2005

2004 2005 2001- 2005

Housing’s Disproportionate Housing’s Disproportionate Contribution to U.S. Job Contribution to U.S. Job

GrowthGrowth

Source: BLS

Mortgage Equity Withdrawal Can Mortgage Equity Withdrawal Can Almost Entirely Explain the Almost Entirely Explain the

Decline in U.S. SavingDecline in U.S. Saving

Source: Federal Reserve, BEA, Office of Thrift Supervision, ISI

-2%

0%

2%

4%

6%

8%

10%

12%Household Savings RateMortgage Equity Withdrawal

Housing’s Contribution to Housing’s Contribution to U.S. GDP Growth, 2001-05U.S. GDP Growth, 2001-05

ChannelChannel Growth, Growth, ‘01-’05‘01-’05

Effect on Effect on GDPGDP

ContributioContribution to GDP n to GDP GrowthGrowth

Residential Residential InvestmentInvestment $343 billion$343 billion 100%100% $343 billion$343 billion

Housing Housing WealthWealth

$4,286 $4,286 billionbillion 7%7% $300 billion$300 billion

Cash Out Cash Out From From

RefinancingRefinancing

$1,219 $1,219 billionbillion 100%100% $1,219 $1,219

billionbillion

Total housing contribution to GDP Total housing contribution to GDP growth:growth:

$1,862 $1,862 billionbillion

Total U.S. GDP growth:Total U.S. GDP growth: $2,918 $2,918 billionbillion

Housing share of GDP growth Housing share of GDP growth (percent):(percent): 64%64%

U.S. Housing Downturns Tend to U.S. Housing Downturns Tend to be Deepbe Deep

-70%

-60%

-50%

-40%

-30%

-20%

-10%

0%1973-75 1978-80 1981-82 1984 1986-91

Decline in Housing Starts, Last Five Housing Market Downturns

Source: Census Bureau

Average Decline: 51.2%

40

45

50

55

60

65

70

75

2002.02 2002.10 2003.06 2004.02 2004.10 2005.06 2006.02

U.S. Housing Bubble Already U.S. Housing Bubble Already Burst!Burst!

Source: National Association of Home Builders

NAHB/Wells Fargo Housing Market Index, 2002-2006

8 Ways Global Economy Will 8 Ways Global Economy Will Change in 2007 and BeyondChange in 2007 and Beyond

1. Centers of activity will shift1. Centers of activity will shift 2. Consumer landscape will change2. Consumer landscape will change 3. Energy and environmental problems will grow3. Energy and environmental problems will grow 4. Emerging markets will have both inflationary 4. Emerging markets will have both inflationary

and and deflationary effectsdeflationary effects 5. Battleground for talent will heat up5. Battleground for talent will heat up 6. Emerging markets will have faster productivity 6. Emerging markets will have faster productivity

growth growth and appreciating currenciesand appreciating currencies 7. Investors beware: diversification will keep 7. Investors beware: diversification will keep

fallingfalling 8. Disequilibrium pressures will correct8. Disequilibrium pressures will correct

1. Centers of economic 1. Centers of economic activity will shift activity will shift

profoundly – globally and profoundly – globally and regionallyregionally

Today Asia (excluding Japan) Today Asia (excluding Japan) represents 13% of world GDP; the represents 13% of world GDP; the E.U. represents 30%.E.U. represents 30%.

In 2025 Asia and the E.U. will each In 2025 Asia and the E.U. will each be 20%-22% of the world economy.be 20%-22% of the world economy.

The U.S. will remain the world’s The U.S. will remain the world’s largest economy.largest economy.

Regional shifts: toward regional Regional shifts: toward regional capital cities (Kansei, Kanto)capital cities (Kansei, Kanto)

China’s Trend Has China’s Trend Has Been Sharply Been Sharply

UpwardUpwardShare of World Economy, PPP Basis

0

5

10

15

20

25

30

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

pe

rce

nta

ge

Source: IMF

0

3

6

9

12

15

1980 1986 1992 1998 2004

Sources: Angus Maddison, The World Economy: A Millennial Perspective and International Monetary Fund

0

2

4

6

8

10

1820 1845 1870

0

5

10

15

20

25

1860 1882 1913

0

2

4

6

8

10

1950 1956 1962 1968 1974

China, 1980-2005

U.K., 1820-1870 U.S., 1860-1913

Japan, 1950-1974

GDP, % of World Total, PPP BasisGDP, % of World Total, PPP Basis

2. The consumer 2. The consumer landscape will expand landscape will expand

significantlysignificantly $5,000 in income is a threshold above which $5,000 in income is a threshold above which

spending can go to discretionary items (like spending can go to discretionary items (like Italian silk scarves)Italian silk scarves)

Spending power in emerging markets will Spending power in emerging markets will jump from $4 trillion today to $10 trillion in jump from $4 trillion today to $10 trillion in 2025.2025.

Already Poland has more people with a Danish Already Poland has more people with a Danish income level than Denmark.income level than Denmark.

Soon China will have more people with a Soon China will have more people with a German income level than Germany.German income level than Germany.

Vehicles Registered per Vehicles Registered per CapitaCapita

Vehicle Vehicle RegistratRegistrat

ionion

Country/YearCountry/Year Per Capita Per Capita IncomeIncome

0.010.01

(1 in (1 in 100)100)

China, 1997China, 1997 $3,695$3,695

Korea, 1973Korea, 1973 $3,465$3,465

0.050.05

(1 in 20)(1 in 20)Korea, 1988Korea, 1988 $8,934$8,934

Taiwan, 1981Taiwan, 1981 $6,628$6,628

Mexico, 1974Mexico, 1974 $7,639$7,639

0.10.1

(1 in 10)(1 in 10)Korea, 1991Korea, 1991 $10,973$10,973

Taiwan, 1987Taiwan, 1987 $9,992$9,992

Mexico, 1981Mexico, 1981 $10,030$10,030

0.20.2

(1 in 5)(1 in 5)Japan, 1971Japan, 1971 $11,400$11,400

Korea, 1995Korea, 1995 $13,864$13,864

Taiwan, 1992Taiwan, 1992 $13,458$13,458

3. Demand for natural 3. Demand for natural resources will grow; put resources will grow; put

strain on the strain on the environmentenvironment

Oil demand projected to grow 50% Oil demand projected to grow 50% in the next 20 yearsin the next 20 years

But China cannot use oil and coal But China cannot use oil and coal as U.S. and Europe doas U.S. and Europe do

Growing demands for steel, Growing demands for steel, aluminum, copper, minerals, wateraluminum, copper, minerals, water

Pressing need for alternate fuels, Pressing need for alternate fuels, new transportation technologynew transportation technology

4. For Goods that China 4. For Goods that China BuysBuys……

0%

10%

20%

30%

40%

50%

60%

70%

1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

Copper Iron Aluminum

China’s Share of World Imports of Metal Ores & ConcentratesChina’s Share of World Imports of Metal Ores & Concentrates

Source: UN ComTradeSource: UN ComTrade

……Prices Go Prices Go UpUp

0.6

0.7

0.8

0.9

1

1.1

1.2

1.3

1.4

1.5

1.6

1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

Copper Iron Aluminum

Source: United States Geological SurveySource: United States Geological Survey

Average US Market Spot Prices, Indexed to 1996 PricesAverage US Market Spot Prices, Indexed to 1996 Prices

0

1,000

2,000

3,000

4,000

5,000

6,000

7,000

8,000

9,000

10,000

1990 1992 1994 1996 1998 2000 2002 2004 2006

Bil

lio

n Y

uan

But for Goods that China But for Goods that China SellsSells……

China’s exports have increased 3X in 5 years

……Prices Are Held Prices Are Held DownDown

95

105

115

125

135

145

155

1991 1993 1995 1997 1999 2001 2003 2005

U.S. Import Non-energy Import Price Index 1990 = 100

U.S. Core CPI, Index 1990 = 100

5. Battleground for talent 5. Battleground for talent will shiftwill shift

Shift from production to knowledge-Shift from production to knowledge-intensive industries (science, technology, intensive industries (science, technology, culture, arts, entertainment)culture, arts, entertainment)

In U.S., 5% of jobs were in these industries In U.S., 5% of jobs were in these industries in 1900, but 40% today are.in 1900, but 40% today are.

In Italy, 13% are today, but this will In Italy, 13% are today, but this will increase.increase.

33 million university-educated young 33 million university-educated young professionals in developing countries today professionals in developing countries today (more than twice the number in advanced (more than twice the number in advanced countries)countries)

TalentTalent

0%

5%

10%

15%

20%

25%

30%

Denm

ark

Austri

a

Portu

gal

Italy

Franc

e

Irela

nd

Greec

e

Belgi

um

Sweden

Finlan

d

Germ

any

Spain

U.K.

Nethe

rlands U.S

.

Percent of population ages 25-64 with a B.A. degree or above

Source: Florida and Tinagli, “Europe in the Creative Age,” Feb. 2004

6. Key Attractions of Emerging 6. Key Attractions of Emerging Markets:Markets:

Rapid Productivity Growth & Appreciating Rapid Productivity Growth & Appreciating CurrenciesCurrencies

0

5

10

15

20

25

30

35

40

45

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

Source: IMFSource: IMF

While Poland’s productivity has

increased 4.2% a year, the Zloty has

appreciated by roughly 3% per year against the

currencies of all its trading partners.

Polish Zloty, real effective exchange rate, % change from 1995

Average Correlation Between US & Emerging Market Average Correlation Between US & Emerging Market Equity Indices Equity Indices

-0.3

-0.1

0.1

0.3

0.5

0.7

0.9

1989 1991 1993 1995 1997 1999 2001 2003 2005

7. Global Markets Move as One!7. Global Markets Move as One!Tighter Linkages Between Equity Tighter Linkages Between Equity

MarketsMarkets

Source: Global Financial Data. Equity market indices for Argentina, Brazil, China, India, Mexico, Source: Global Financial Data. Equity market indices for Argentina, Brazil, China, India, Mexico, South Africa, South Korea, Taiwan, Turkey, Venezuela, and the United States. South Africa, South Korea, Taiwan, Turkey, Venezuela, and the United States.

8. Risk: Can Disequilibrium 8. Risk: Can Disequilibrium Continue?Continue?

Source: IMF WEO

-8

-6

-4

-2

0

2

4

6

8

1980 1983 1986 1989 1992 1995 1998 2001 2004 2007

Current Account Balance as a Percent of GDP

China Produces

The US Consumes