US Forecast

7/29/2019 US Forecast

1/55

2004, The PRS Group, Inc. ISSN: 1054-6278

United StatesTable of Contents

PageCountry Forecast

Map..................................................................................................................................................................... 2Highlights.......................................................................................................................................................... 3Current Data...................................................................................................................................................... 5Comment & Analysis ..................................................................................................................................... 11Forecast Scenarios

Most Likely Five-Year Regime Scenario: Republican Majority (60% Probability) ........................ 19Second Most Likely Five-Year Regime Scenario: Divided Government (30% Probability) ......... 23Third Most Likely Five-Year Regime Scenario: Democratic Majority (10% Probability) ............. 25Forecast Summary.................................................................................................................................. 27

Political FrameworkPlayers To Watch.................................................................................................................................... 29Political Players....................................................................................................................................... 30

Country ConditionsInvestment ClimateOverview................................................................................................................................................... 1Policies ....................................................................................................................................................... 2Legal Framework...................................................................................................................................... 2Infrastructure ............................................................................................................................................ 4Political Violence ...................................................................................................................................... 4Corruption................................................................................................................................................. 4Labor Conditions...................................................................................................................................... 4

Climate for TradeTrade Barriers ........................................................................................................................................... 7International Agreements........................................................................................................................ 7

Background

Geography................................................................................................................................................. 9History ....................................................................................................................................................... 9Social Conditions.................................................................................................................................... 13Government ............................................................................................................................................ 14Political Conditions ................................................................................................................................ 14Foreign Relations.................................................................................................................................... 15


2/55

Page 2 Map

Political Risk Services United States Country ForecastReproduction without written permission of The PRS Group is strictly prohibited.

Honolulu

Hawaii

JuneauAnchorage

Alaska

q

q

q q

q

q

q

q

q

q

q

q

q

q

q

q

q

q

q

q

q

qq

q

q

q

q

qq

q

q

q

q

q

q

q

q

q

Seattle Spokane

Boise

San

Francisco

Los Angeles

San Diego

LasVegas

SaltLakeCity

Denver

Albuquerque

Dallas

Houston

SanAntonio

Wichita

Fargo

q

Phoenix

St. Louis

Memphis

St. Petersburg

Milwaukee

DesMoines

BostonNiagaraFalls

New York

Miami

Tampa

Jacksonville

Atlanta

Indianapolis

ToledoChicago

Detriot

Baton Rouge

New

Orleans

MobileShreveport

Philadelphia

Norfolk

Charleston

Washington, D.C.

Canada

UnitedStates

Mexico

Cuba

Jamaica Haiti Dom.Rep.

Puerto

Rico

(U.S.)

BahamasGulf of Mexico

N o r t h

A t l a n t i c

O c e a n

N o r t h

P a c i f i c

O c e a n

Hawaiian Islands (U.S.)

Alaska (U.S.)

REV2003

Great

Lakes


3/55

Political Risk Services1-Dec-2004 Reproduction without written permission of The PRS Group is strictly prohibited.

Highlights 1-Dec-2004 Page 3

United States

Country Forecast

HighlightsMOST LIKELY REGIMES AND THEIR PROBABILITIES

18-Month: Republican Majority 80% (50%)Five-Year: Republican Majority 60% (45%)

FORECASTS OF RISK TO INTERNATIONAL BUSINESS

TurmoilFinancialTransfer

DirectInvestment

ExportMarket

18-Month: Low B+ A+ (A) A

Five-Year: Low B+ A A-( ) Indicates change in rating. * Indicates forecast of a new regime.

KEY ECONOMIC FORECASTS

YearsReal GDPGrowth % Inflation %

CurrentAccount ($bn)

1999-2003(AVG) 2.7 2.4 -420.122004(F) 4.0 2.8 -650.00

2005-2009(F) 3.0 2.7 -570.00

More of the Same

Key Points To Watch

! President Bush won re-election in early November in a contest that was notnearly as close as anticipated, while the governing Republican Party expandedits majorities in both houses of the Congress

! Consequently, the president should be able to win approval of his priorityinitiatives, including reforms of the Social Security and tax systems, and theextension of tax cuts that are due to expire before the close of the decade. Thatsaid, Bush may still face some tough battles, particularly owing to concernsamong members of his conservative wing over the large fiscal deficits run upby the administration

! The most lasting legacy of Bushs second term is likely to be the establishmentof a conservative majority on the Supreme Court. He is expected to appoint atleast three new justices to the Court over the next four years, all of whom willvery probably adhere to a narrow interpretation of federal power, particularlyas concerns the governments economic regulatory functions


4/55

Political Risk Services United StatesUnited StatesUnited StatesUnited States Country FoCountry FoCountry FoCountry Forecastrecastrecastrecast1-Dec-2004 Reproduction without written permission of The PRS Group is strictly prohibited.

Page 4 1-Dec-2004 Highlights

! In general, Bushs nominees to replace departing members of his Cabinetindicate that he has no plans to depart substantially from the policy course he

set in his first term, either at home or abroad

Deficit Concerns Will Limit Benefits of Business-friendly Policies

! Despite the efforts of the Republican administration to reduce the regulatoryimpediments to business activity, concerns about the twin deficits in the fiscaland current accounts will encourage an increasingly cautious attitude amonginvestors, limiting the beneficial impact of the governments business-friendlypolicies on economic activity in the near term

! Real GDP growth is forecast to accelerate to 4% in 2004. However, as theimpact of investor wariness arising from the large fiscal deficit become

apparent, the government will have to respond with some austerity measures.Consequently, the pace of expansion is expected to slow over the forecastperiod, and real GDP growth is forecast to average 3% per year through 2009

! The continued weakness of the dollar will contribute to some importedinflation, particularly as oil prices have not fallen as quickly as expected, andconsumer prices are forecast to increase by 2.8% in 2004. The tightening offiscal and monetary policy beyond 2004, combined with the expectedmoderation of growth rates, will help to contain inflation, which will register2.7% per year on average over the five-year forecast period

! The government has dismissed the significance of the large current account

deficit, stating that in GDP terms it is in line with the deficits previouslyrecorded at times when the economy was recovering from a recession.Consequently, no change in policy, particularly with regard to the dollar, isexpected in 2004, and the current account deficit is forecast to widen to$650 billion in 2004

! Stable, moderate growth rates over the longer term will promote currencystability and contribute to relatively healthy domestic demand, keeping thecurrent account deficit high at an annual average of $570 billion through 2009.

Economic Forecasts for the Three Alternative Regimes

Republican Majority Divided Government Democratic MajorityGrowthGrowthGrowthGrowth

(%)InflationInflationInflationInflation

(%)CACCACCACCACCCCC($bn)

GrowthGrowthGrowthGrowth(%)

InflationInflationInflationInflation(%)

CACCCACCCACCCACC($bn)

GrowthGrowthGrowthGrowth(%)

InflationInflationInflationInflation(%)

CACCCACCCACCCACC($bn)

2004200420042004 4.0 2.8 -650.00 3.8 3.0 -630.00 3.1 2.4 -665.002005200520052005----2009200920092009 3.0 2.7 -570.00 2.5 2.2 -500.00 2.2 3.2 -480.00


5/55

Political Risk Services United States Country Forecast1-Dec-2004 Reproduction without written permission of The PRS Group is strictly prohibited.

Current Data 1-Dec-2004 Page 5

Political Fact Sheet

CAPITAL:

Washington, D.C.

CONSTITUTION:

September 17, 1787

ADMINISTRATIVE SUBDIVISIONS:50 states, 1 federal district, 3 territories

POPULATION:

2003: 294.04 million

AREA:9,160,412 sq. km.

OFFICIAL LANGUAGE:

English

STATUS OF PRESS:

Free

SECTORS OF GOVERNMENT

PARTICIPATION:

transportation, electricity

CURRENCY EXCHANGE SYSTEM:free-floating

EXCHANGE RATE:

11/19/04 $1=0.77 euros

ELECTIONS:

Presidential elections are held every fouryears; last, November 2, 2004; next,scheduled November 4, 2008. Senatemembers serve six-year terms; one-thirdelected every two years. House ofRepresentative elections are held every twoyears; last, November 2, 2004; next,scheduled November 7, 2006.

HEAD OF STATE:

George Walker Bush (2001)

HEAD OF GOVERNMENT:

President Bush (2001)

OFFICIALS:

Richard Cheney, Vice PresidentAnn M. Veneman, Agriculture

John Ashcroft, Attorney GeneralDonald L. Evans, CommerceDonald H. Rumsfeld, DefenseRod Paige, EducationEdmund Spencer Abraham, EnergyTommy G. Thompson, Health & Human ServicesThomas Ridge, Homeland SecurityMelquiades R. Martinez, Housing & Urban

DevelopmentGale A. Norton, InteriorElaine L. Chao, LaborColin L. Powell, StateNorman Y. Mineta, Transportation

John Snow, TreasuryAnthony Principi, Veterans' Affairs

LEGISLATURE:

Bicameral; 100-member Senate and 435-memberHouse of Representatives. Seat distribution in theSenate: Republicans, 51; Democrats, 48;independent, 1. Seat distribution in the House:Republicans, 229; Democrats, 205; independent, 1.


6/55

United States

Databank

Reproduction without written permission of

The PRS Group is strictly prohibited.Political Risk Services1-Dec-2004

1994-1998

Average

1999-2003

Average 1994 1995 1996 1997 1998

Domestic Economic Indicators

GDP (Nominal, $bn) 7864.60 10140.90 7054.30 7400.50 7816.90 8304.30 8747.00Per Capita GDP ($) 29060 35187 27069 28135 28642 30096 31357

Real GDP Growth Rate (%) 3.8 2.7 4.0 2.7 3.7 4.5 4.2

Inflation Rate (%) 2.4 2.4 2.5 2.8 2.9 2.3 1.6

Capital Investment ($bn) 1325.10 1948.02 1034.60 1110.70 1209.50 1570.00 1700.70

Capital Investment/GDP (%) 16.7 19.3 14.7 15.0 15.5 18.9 19.4

Budget Revenues ($bn) 1497.28 1901.28 1277.50 1367.20 1474.70 1619.30 1747.70

Budget Revenues/GDP (%) 19.0 18.8 18.1 18.5 18.9 19.5 20.0

Budget Expenditures ($bn) 1575.20 1925.86 1462.10 1513.40 1585.40 1621.80 1693.30

Budget Expenditures/GDP (%) 20.1 19.0 20.7 20.4 20.3 19.5 19.4

Budget Balance ($bn) -77.92 -24.58 -184.60 -146.20 -110.70 -2.50 54.40

Budget Balance/GDP (%) -1.1 -0.1 -2.6 -2.0 -1.4 0.0 0.6

Money Supply (M1, $bn) 1258.98 1564.48 1232.00 1220.70 1237.30 1280.20 1324.70

Change in Real Wages (%) 0.4 0.8 0.2 -0.3 0.4 0.7 0.8

Unemployment Rate (%) 5.3 4.9 6.1 5.6 5.4 5.0 4.5

International Economic IndicatorsForeign Direct Investment ($bn) 95.01 178.01 46.13 57.80 86.52 105.59 179.03

Forex Reserves ($bn) 39.08 33.19 41.22 49.10 38.29 30.81 36.00

Gross Reserves (ex gold, $bn) 66.34 63.52 63.28 74.78 64.04 58.91 70.71

Gold Reserves ($bn) 11.05 11.05 11.05 11.05 11.05 11.05 11.05

Gross reserves (inc gold, $bn) 77.39 74.56 74.33 85.83 75.09 69.96 81.76

Total Foreign Debt ($bn) 615.76 2699.39 310.39 495.83 523.73 830.43 918.44

Total Foreign Debt/GDP (%) 7.7 25.6 4.4 6.7 6.7 10.0 10.5

Debt Service ($bn) 233.93 287.00 254.01 196.66 207.73 245.08 266.19

Debt Service/XGS (%) 22.0 21.7 29.0 19.4 19.1 20.4 22.1

Current Account ($bn) -137.34 -420.12 -118.20 -105.82 -117.16 -135.98 -209.53

Current Account/GDP (%) -1.7 -4.1 -1.7 -1.4 -1.5 -1.6 -2.4

Current Account/XGS (%) -12.7 -31.9 -13.5 -10.4 -10.8 -11.3 -17.4

Exports ($bn) 609.74 716.90 504.93 577.05 614.01 680.33 672.38

Imports ($bn) 802.96 1165.16 668.69 749.38 803.11 876.49 917.11

Trade Balance ($bn) -193.22 -448.26 -163.76 -172.33 -189.10 -196.16 -244.73

Exports of Services ($bn ) 233.77 291.20 199.03 217.46 236.89 254.32 261.13

Income, credit ($bn) 224.28 298.31 165.44 211.54 226.28 256.82 261.32

Transfers, credit ($bn) 8.82 10.95 6.49 7.68 10.39 9.89 9.64

Exports G&S ($bn) 1076.60 1317.37 875.89 1013.73 1087.57 1201.36 1204.47

Liabilities ($bn) 0.32 0.14 0.30 0.40 0.20 0.50 0.20

Net Reserves ($bn) 77.07 74.42 74.03 85.43 74.89 69.46 81.56

Liquidity (months import cover) 1.2 0.8 1.3 1.4 1.1 1.0 1.1

Currency Exchange Rate* 1.611 0.992 1.623 1.433 1.505 1.734 1.760

Currency Change (%)* 1.6 -1.8 -1.8 -11.7 5.0 15.2 1.5

Social Indicators

Population (million) 270.29 288.02 260.60 263.04 272.92 275.93 278.95

Population Growth (%) 1.6 1.1 1.0 0.9 3.8 1.1 1.1

Infant Deaths/1000 8 7 9 8 7 7 7

Persons under Age 15 (%) 22 21 22 22 22 22 21Urban Population (%) 75 76 76 75 75 75 75

Urban Growth (%) 1.6 1.3 2.3 -0.4 3.8 1.1 1.1

Literacy % pop. 98 98 97 97 98 98 98

Agricultural Work Force (%) 3 3 3 3 3 3 3

Industry-Commerce Work Force (%) 24 25 25 24 24 24 24

Services Work Force (%) 73 72 72 73 73 73 73

Unionized Work Force (%) 15 14 16 15 15 14 14

Energy - total consumption (1015

Btu) 92.91 97.46 89.25 91.22 94.22 94.73 95.15

Energy - consumption/head (109

Btu) 0.34 0.34 0.34 0.35 0.35 0.34 0.34

Note: *denominated in euros as of 1999

Current Data 1-Dec-2004 ~ Page 6-7


7/55

United States

Databank

Reproduction without written permission of

The PRS Group is strictly prohibited.Political Risk Services1-Dec-2004

1994-1998

Average

1999-2003

Average

Domestic Economic Indicators

GDP (Nominal, $bn) 7864.60 10140.90Per Capita GDP ($) 29060 35187

Real GDP Growth Rate (%) 3.8 2.7

Inflation Rate (%) 2.4 2.4

Capital Investment ($bn) 1325.10 1948.02

Capital Investment/GDP (%) 16.7 19.3

Budget Revenues ($bn) 1497.28 1901.28

Budget Revenues/GDP (%) 19.0 18.8

Budget Expenditures ($bn) 1575.20 1925.86

Budget Expenditures/GDP (%) 20.1 19.0

Budget Balance ($bn) -77.92 -24.58

Budget Balance/GDP (%) -1.1 -0.1

Money Supply (M1, $bn) 1258.98 1564.48

Change in Real Wages (%) 0.4 0.8

Unemployment Rate (%) 5.3 4.9

International Economic IndicatorsForeign Direct Investment ($bn) 95.01 178.01

Forex Reserves ($bn) 39.08 33.19

Gross Reserves (ex gold, $bn) 66.34 63.52

Gold Reserves ($bn) 11.05 11.05

Gross reserves (inc gold, $bn) 77.39 74.56

Total Foreign Debt ($bn) 615.76 2699.39

Total Foreign Debt/GDP (%) 7.7 25.6

Debt Service ($bn) 233.93 287.00

Debt Service/XGS (%) 22.0 21.7

Current Account ($bn) -137.34 -420.12

Current Account/GDP (%) -1.7 -4.1

Current Account/XGS (%) -12.7 -31.9

Exports ($bn) 609.74 716.90

Imports ($bn) 802.96 1165.16

Trade Balance ($bn) -193.22 -448.26

Exports of Services ($bn ) 233.77 291.20

Income, credit ($bn) 224.28 298.31

Transfers, credit ($bn) 8.82 10.95

Exports G&S ($bn) 1076.60 1317.37

Liabilities ($bn) 0.32 0.14

Net Reserves ($bn) 77.07 74.42

Liquidity (months import cover) 1.2 0.8

Currency Exchange Rate* 1.611 0.992

Currency Change (%)* 1.6 -1.8

Social Indicators

Population (million) 270.29 288.02

Population Growth (%) 1.6 1.1

Infant Deaths/1000 8 7

Persons under Age 15 (%) 22 21Urban Population (%) 75 76

Urban Growth (%) 1.6 1.3

Literacy % pop. 98 98

Agricultural Work Force (%) 3 3

Industry-Commerce Work Force (%) 24 25

Services Work Force (%) 73 72

Unionized Work Force (%) 15 14

Energy - total consumption (1015

Btu) 92.91 97.46

Energy - consumption/head (109

Btu) 0.34 0.34

1999 2000 2001 2002 2003

9268.40 9817.00 10128.00 10487.00 11004.1032869 34446 35164 36033 37424

4.4 3.6 0.8 1.8 3.0

2.1 3.4 2.8 1.7 2.2

1845.60 1983.50 1970.10 1915.50 2025.40

19.9 20.2 19.5 18.3 18.4

1858.30 2042.70 1995.30 1814.40 1795.70

20.1 20.8 19.7 17.3 16.3

1701.60 1788.10 1902.80 2044.90 2191.90

18.4 18.2 18.8 19.5 19.9

156.70 254.60 92.50 -230.50 -396.20

1.7 2.6 0.9 -2.2 -3.6

1461.80 1436.40 1599.40 1646.20 1678.60

0.9 0.0 0.3 1.9 0.7

4.2 4.0 4.7 5.8 6.0

289.44 321.27 167.02 72.41 39.89

32.18 31.24 28.98 33.82 39.72

60.50 56.60 57.63 67.96 74.89

11.05 11.05 11.05 11.04 11.04

71.55 67.65 68.68 79.00 85.93

797.08 1384.20 1979.76 2389.62 6946.29

8.6 14.1 19.6 22.8 63.1

277.80 352.32 311.14 259.70 234.03

21.9 24.6 23.9 20.7 17.6

-296.85 -413.44 -385.70 -473.94 -530.66

-3.2 -4.2 -3.8 -4.5 -4.8

-23.4 -28.9 -29.6 -37.8 -39.9

686.27 774.63 721.84 685.34 716.41

1029.99 1224.42 1145.93 1164.75 1260.71

-343.72 -449.79 -424.09 -479.41 -544.30

280.17 296.35 284.81 290.60 304.09

293.22 350.45 286.69 266.80 294.39

8.85 10.78 8.51 11.83 14.80

1268.51 1432.21 1301.85 1254.57 1329.69

0.10 0.20 0.10 0.11 0.20

71.45 67.45 68.58 78.89 85.73

0.8 0.7 0.7 0.8 0.8

1.067 0.924 0.896 0.944 1.131

0.0 13.4 3.0 -5.4 -19.8

281.98 285.00 288.02 291.04 294.04

1.1 1.1 1.1 1.0 1.0

7 7 7 7 7

21 21 21 21 2175 76 76 76 76

1.1 2.4 1.1 1.0 1.0

96 98 98 98 98

3 3 3 3 3

24 24 25 25 25

73 73 72 72 72

14 14 14 14 14

96.77 98.94 96.32 97.35 97.92

0.34 0.35 0.33 0.33 0.33

Note: *denominated in euros as of 1999

Current Data 1-Dec-2004 ~ Page 6-7


8/55

United StatesCountry Forecast1-Dec-2004 Comparison: United States

Page 8 1-Dec-2004 Current DataReproduction without written permission of The PRS Group is strictly prohibited

Regional Real GDP Growth (2003): N&C America

-1 0 1 2 3 4 5 6 7

Dominican Republic

Haiti

Mexico

El Salvador

Jamaica

Canada

Guatemala

Nicaragua

Cuba

United States

Honduras

Trinidad & Tobago

Panama

Costa Rica

(percent)

Regional Inflation Rates (2003): N&C America

0.0 5.0 10.0 15.0 20.0 25.0 30.0 35.0 40.0 45.0

Panama

El Salvador

United States

Cuba

Canada

Trinidad & Tobago

Mexico

Nicaragua

Guatemala

Honduras

Costa Rica

JamaicaDominican Republic

Haiti

(percent)


9/55

United States Country Forecast1-Dec-2004 Comparison: United States

Current Data 1-Dec-2004 Page 9Reproduction without written permission of The PRS Group is strictly prohibited

Regional Current Account/GDP (2003): N&C America

-25.0 -20.0 -15.0 -10.0 -5.0 0.0 5.0 10.0

Nicaragua

JamaicaCosta Rica

El Salvador

United States

Guatemala

Honduras

Panama

Mexico

Cuba

Haiti

Canada

Dominican Republic

Trinidad & Tobago

(percent)

Economic Performance Profile

Country's Ranking Relative to All Countries

Covered by Political Risk Services

1999-2003

! 35187

! 2.7

! 2.4

! 4.9

! 19.3

! -0.1

! -4.1

! 21.7

! -1.8

BEST 25% NEXT 25% NEXT 25%

GDP Per Capita ($)

Real GDP Growth (%)

Inflation (%)

Unemployment (%)

Capital Investment

(% of GDP)

Budget Balance

(% of GDP)

Current Account(% of GDP)

Debt Service Ratio

Currency Change (%)

WORST 25%


10/55

Political Risk Services United StatesCountry Forecast1-Dec-2004 Reproduction without written permission of The PRS Group is strictly prohibited.

Page 10 1-Dec-2004 Current Data

Social Indicators as of 2003Primary Energy

Energy Consumption (1015

Btu): 97.92

Per Capita Consumption (109

Btu): 0.33

Population

Annual Growth 1.0%

Infant Deaths per 1,000 7

Persons Under Age 15 21%

Urban Population 76%

Urban Growth 1.0%

Literacy 98%

Work Force Distribution

Agriculture 3%

Industry-Commerce 25%

Services 72%Unions 14%

Ethnic Groups

white (77%), black (13%), Asian (4%), other (6%)

Languages

English, Spanish

Religions

Protestant (61%), Roman Catholic (25%), Jewish (2%), other (5%), none (7%)


11/55

Political Risk Services

1-Dec-2004 Reproduction without written permission of The PRS Group is strictly prohibited.

Comment & Analysis 1-Dec-2004 Page 11

United StatesCountry ForecastComment & Analysis

Four More Years

On November 2, President George W. Bush won a second term in the presidency,defeating the opposition challenger, Sen. John Kerry, in a closely fought contest thatfollowed an unusually acrimonious campaign. Defying expectations that the race wouldbe so close that the outcome might be determined by the courts, as was the case whenBush won for the first time in 2000, the incumbent garnered 51% of the popular vote, andhis 60.6 million votes (including provisional and write-in ballots that were not included inthe immediate tally) are the most ever won in a US national election. That said, thecontest did go down to the wire, with the outcome eventually hinging on the result in thecrucial battleground state of Ohio, as Kerry won 57.3 million votes, more than anyprevious winning presidential candidate.

Vice President Dick Cheney wasted no time declaring the result a clear mandate for theBush administration, while the president held a press conference at which he declaredthat he had earned political capital and that he intended to spend it. Among the toppriorities for his second term, Bush included the partial privatization of the Social

Security system and reform of the tax code (an issue that barely received mention duringthe campaign).

Given the high degree of polarization that was evident among the voting population inthe months leading up to the electionlargely stemming from divided opinions on thewar in Iraq and the recognition that the winner would likely appoint at least three, andpossibly four, justices to the nine-member Supreme Court over the next four yearstheclaim of a mandate might be dismissed as suspect, if not for the results of the legislativeelections held on the same day. The Republicans increased their majorities in both housesof the Congress, and beginning in early January 2005 will control 55 seats in the 100-

member Senate, and 231 seats in the 435-member House of Representatives.

This is not to say that the new administration will be able to run roughshod over theopposition. The Democrats can still avail themselves of the filibuster, which was veryeffective in blocking the approval of several judicial nominees during Bushs first term.Moreover, there are a handful of independent-minded Republican senators who have


12/55


Page 12 1-Dec-2004 Comment & Analysis

made clear that they have no intention of marching in lock step with the White Houseand their party leadership.

Nor can the majority of the Republican congressional delegation be treated as a monoliththat is prepared to do the presidents bidding. During the lame-duck congressionalsession held in the immediate post-election period, a bill to reorganize the intelligenceapparatus along lines recommended by the 9/11 Commission, which presumably isbacked by the president, was shelved in the House of Representatives after two powerful,conservative committee chairman objected. Thus, the measure was not approved, despitehaving sufficient bipartisan support to have ensured easy passage.

Such incidents indicate that the president will have to face down the various factionswithin his party if he hopes to implement the agenda he has laid out for his second term.

It is not clear that he has the strength of will to do so, particularly when it comes tobutting heads with the Republican right wing. That said, except in the case of a completebreakdown of discipline on the Republican side, President Bush will be able to winapproval of priority legislation, but not without some struggles along the way.

The Values Myth

In the immediate aftermath of the elections, much was made of the impact of moralvalues on the outcome. According to exit polls, 22% of voters cited this factor as key totheir choice of candidate, and some 80% of those who voted on that basis cast their ballotfor Bush.

As the other choices included such matters as the economy, Social Security, and the warin Iraq, issues on which values presumably do not come into play, the clear implicationwas that voters understood moral values to mean such matters as abortion rights,same-sex marriage, and other hot-button issues that are at the center of the culture warsupposedly taking place in the US. It followed, then, that it was the Democratic Partysstand on these issues that cost them the election.

This perception was reinforced by the fact that referendums on measures to ban gaymarriage (and, in some cases, even civil unions between same-sex couples) were held in

11 states, and passed in every case. More significant, of those 11 states, President Bushwon nine of them (including Ohio), and in one of the other two, Michigan, theRepublicans made it a much closer race than had been anticipated.

But while many pollsters and pundits have emphasized the impact of cultural issues onthe election resultssome went so far as to call the 2004 election a referendum onvaluesthe Bush administration has been largely silent on such matters since its victory.


13/55



In listing the purchases he intended to make with his new political capital, the presidentmade no mention of abortion, stem-cell research, gay marriage, or prayer in publicschools.

In fact, the impact of the cultural issues on the election results was not nearly as great as itmight appear at first glance. Of the nine referendum states won by Bush, eight had beenexpected to go to the president in any case, and the ninth, Ohio, had for months beendeemed too close to call. The two states holding referendums that had been assumed tobe safe for the Democrats, Oregon and Michigan, both remained in the oppositioncolumn.

As such, the referendums had no verifiable impact on the total electoral voteswhichdetermine the winnerreceived by either candidate. It is worth noting that the Bush

campaign assumed that would be the case. The presidents top adviser, Karl Rove,frankly admitted that whatever emphasis the campaign placed on moral issues wasdesigned to energize the Republican Party base, rather than persuade uncommittedvoters. The hope was that this strategy would inflate Bushs totals in Republicanstrongholds, thereby guarding against a repeat of the situation in 2000, when thepresident won a majority of votes in the electoral college, but trailed the defeatedDemocratic candidate, Al Gore, in the popular vote.

Lasting Legacy

The reason this is worth noting is that it has a bearing on what is likely to be the second

Bush administrations most lasting legacythe shaping of the Supreme Court that willdetermine the legal parameters of policy-making for at least the next quarter century.

The future of the Court was a prominent issue in the campaign, and the assumption onboth sides was that a victorious Bush would move to satisfy his conservative Christianbase by nominating like-minded individuals to fill the vacancies that are expected to beopened by the expected retirement of Chief Justice William Rehnquist, and JusticesSandra Day OConnor and John Paul Stevens within the next four years. The keyappointment will be that to replace Stevens, whose departure will leave just three clearlyliberal judges on the nine-member Court.

The hope of conservatives, and the fear of liberals, is that the establishment of aconservative majority on the Supreme Court will have its most direct impact on culturalissues. Beyond leading to the rapid overturning of Roe v. Wade, the 1973 ruling thatrecognized a womans constitutional right to choose abortion, a conservative Court willpresumably throw up an insurmountable judicial obstacle to other pet liberal socialcauses, such as same-sex marriage and the legalization of marijuana for medicinal uses,


14/55



while opening the way for key items on the conservative Christian agenda, such as thereintroduction of prayer in public schools.

All of the talk of moral values has reinforced this view, to the extent that the impact ofthe composition of the Supreme Court on the future of Roe v. Wade has given rise to thefirst political controversy of the post-election period.

Shortly after the election, Pennsylvania Sen. Arlen Specter, a moderate Republican whoby the rules of seniority is due to take over as chairman of the Senate JudiciaryCommittee, issued a warning to the White House that it should think twice about sendingforward any nominees for the bench who support the overturning of Roe v. Wade. Specterimmediately found himself at the center of a political firestorm, with Christian groupscalling for his head, and Republican congressional leaders openly suggesting they might

change the rules by which committee chairs are chosen in order to deny Specter hispromotion. The thoroughly chastened senator proceeded to make the talk show rounds,effectively begging to be permitted to take the job, and promising not to use nomineespositions on abortion as a litmus test for approving the White Houses judicialappointments.

Amid the brouhaha, which provided the president with a perfect opportunity to take afirm stand on the side of cultural conservatism, the administration remained silent.Similarly, when asked about his standards for choosing nominees to the Supreme Courtduring his post-election press conference, the president side-stepped the questioncompletely, citing the fact that there currently were no vacancies on the bench.

Bushs reticence becomes quite understandable when viewed in the light of what hisadministration truly hopes to accomplish as it sets about reshaping the Supreme Court.The future Courts position on issues such as abortion, gay marriage, and school prayer isfar less important to President Bush than its role in setting the boundaries for theauthority of the federal government in broad terms. His judicial agenda for the next fouryears is nothing less than laying the ground for the complete dismantling of the liberalstate apparatus erected in the 1930s under Franklin Delano Roosevelts New Deal andexpanded in the 1960s by the Great Society programs of President Lyndon Johnson.

In truth, the overturning of Roe v. Wade would have far less impact on the actualincidence of abortion than might be assumed, as the handling of the issue would be left tothe individual states, a majority of which would probably choose to uphold womensaccess to abortion services. Moreover, it could create potential political headaches for theRepublicans, in that it would undoubtedly alienate many of the women voters that theparty has worked so assiduously to attract over the past decade.


15/55



For those reasons, the Bush administration would be more than willing to let Roe v. Wadestand, if in the bargain they secured the approval of justices who favor the application ofwhat legal conservatives refer to as the constitution in exile, i.e., the pre-New Deal

interpretation of the constitution that sets strict limits on the exercise of federal authorityover the affairs of the individual states. The restoration of the constitution in exile wouldeffectively eliminate (or, at the very least, sharply limit) the role for the federalgovernment in such matters as employee rights in the workplace, affirmative action rulesfor women and minorities, environmental regulations, and a host of other issues thathave historically been the meat and bones of the Democratic Partys agenda.

That would be good news for business investors, but could spell disaster for theDemocrats. The Bush administration is setting a trap for Democratic lawmakers, who arein danger of becoming so focused on judicial nominees positions on cultural issues that

they fail to put up a fight to prevent the appointment of justices who pose a far greaterthreat to both the broader causes they support and their hopes of reclaiming power ontheir own terms. Should they fall into that trap, they may be too busy slapping eachother on the back for successfully (and probably only temporarily) protecting Roe v. Wadeto realize that they have actually consigned themselves to a generation in the politicalwilderness.

Old Wine in New Bottles

When Bush is sworn in for the second time on January 20, 2005, the government overwhich he will preside will include only a few individuals from the Cabinet he unveiled in

2001, and at least one of the familiar faces will step into a new, and far more influential,position. As is typical in the US when a president wins a second term, the immediatepost-election period was marked by a slew of resignations. By late November, no lessthan six Cabinet officials had announced their plans to pursue other activities. Theseincluded Attorney-General John Ashcroft, Agriculture Secretary Ann Veneman,Commerce Secretary Donald Evans, Education Secretary Rod Paige, Energy SecretarySpencer Abraham, and, most significant, Secretary of State Colin Powell.

Others likely to follow suit before the beginning of Bushs second term include Health,Education and Welfare Secretary Tommy Thompson, Homeland Security Secretary Tom

Ridge, and Treasury Secretary John Snow. In fact, the only major player in the currentCabinet who is expected to stay on is Defense Secretary Donald Rumsfeld, although it iswidely speculated that he too will bow out early in the second term, staying only longenough to be able to claim to have steered the US to victory in Iraq as he departs.

In choosing replacements for those Cabinet members who have announced theirresignations, Bush has shown a marked preference for known quantities. His nominee


16/55



for attorney-general is Alberto Gonzales, the chief White House counsel who gainednotoriety for authoring a memo arguing the legality of torture in the interrogation ofenemy combatants detained by the US. Taking over at the Department of Education

will be Margaret Spellings, currently Bushs domestic policy adviser.

But the most talked about choice so far is that of Condoleezza Rice, currently BushsNational Security Adviser (NSA), to succeed Powell at the State Department. Thepromotion of Rice to the Cabinet sends a clear message that Bush prizes loyalty overdiversity of opinion, and wants someone who supports the current course of USdiplomacy, rather than a dissenting voice that might have a moderating effect on theimplementation of foreign policy. Simply put, Rice is an ideal choice for those whobelieve that the Bush administrations current foreign policy is on the right track, whilecritics of that policy probably could not think of a more unacceptable alterative to fill the

post.

Bushs choice of Cabinet nominees so far indicate that he intends to give the Americanpeople exactly what Kerry said Bushs re-election would bring: more of the same. Butgiven the fact that Bush won the election with a clear majority, that is presumably whatthe American people (or most of them, anyway) desire. Only time, and the 2006 mid-term congressional elections, will tell if that is indeed the case.

Growing Concern over Twin Deficits

Nor has the Bush administration signaled any significant change of course in its economic

policies, despite pledges to cut the huge federal deficit in half within four years and agrowing chorus of warnings that the twin budget and current account deficitswhichamounted to 3.6% and 4.8% of GDP, respectively, in 2003, and have only widened sinceare setting the US economy up for a painfully hard landing.

With the economy powering ahead by 3.9% in the third quarter of 2004, and annualgrowth on track to come in at 4% or better, the president and his advisers appear to seeno reason to change course in any significant way. Key economic proposals unveiled bythe administration so far include the plan to partially privatize Social Security and arevision of the complicated tax systemboth of which will ostensibly have a neutral

impact on the fiscal balanceand a continuing push to make Bushs first-term tax cutspermanent, a move that can hardly be expected to contribute to a narrowing of the fiscaldeficit.

As for the gaping current account deficit, which requires an inflow of foreign investmentat the rate of nearly $2 billion per day, Federal Reserve Chairman Alan Greenspanannounced (with unusual bluntness) in mid-November that the shortfall is not


17/55



sustainable. That statement understandably fed speculation in the currency markets thatthe Bush administration will not take action to strengthen the dollar, which would tend towiden the external deficit by making US exports less competitive and imports less

expensive, and prompted a sell-off that pushed the US currency to a new low of $1.31against the euro. Both President Bush and Treasury Secretary Snow responded by statingtheir preference for a strong dollar, but neither provided any indication of what actionsmight be taken to produce that result.

The EU has called upon the US to engage in a multilateral effort to boost the dollarsvalue, a proposal that officials in Washington have flatly rejected. For the time being, theUS is pinning most of its hopes for containing the current account deficit on convincingChina to allow its currency to appreciate against the dollar. Unfortunately, officials inBeijing show every indication that they are perfectly content to let the renminbi slide

along with the dollar, to which the Chinese currency is pegged at a ratio of 8.3:1.

As long as they remain so, cheap Chinese imports will continue to flood into the USmarket, and the huge imbalances in the external accounts will persist. In fact, oneanalysis of US trade relations revealed that the fall of the dollar by another 30% againstthe currencies of other major trading partners would still leave the current account deficitabove 4% of GDP if the renminbis peg to the dollar is maintained.

During the campaign, President Bush rejected criticism of his governments unilateralistapproach to foreign policy, and repeatedly criticized his opponent for his apparentwillingness to let outside forces (principally, the UN) determine the course of USdiplomatic efforts. He appears to believe that cooperating with the European andJapanese central banks would represent a similar loss of control over economic policy,while failing to realize that doing nothing leaves the economic future of the US at themercy of the Chinese, who are far less inclined than the Europeans to see their owninterests as inseparable from what is good for the US. It remains to be seen whateconomic or political costs might result from that blind spot.

Unfinished Business in Iraq

And, then, of course, there is the war in Iraq. In this case, the lack of any obvious game

plan makes it exceedingly difficult to determine whether a change of course is in theworks, as the administration has been playing things by ear since the fall of Baghdad inApril 2003.

That said, the government has announced that more US troops are to be committed tofight the insurgency, and the Bush administration insists that elections will go ahead asscheduled in Iraq in January 2005, regardless of the state of affairs within the country. In


18/55



addition, as already mentioned, Defense Secretary Rumsfeld, the chief architect of post-war strategy thus far, will continue to play a dominant role in overseeing US actions inIraq for the foreseeable future.

This could yet turn out to be the Achilles heel of the administration. Despite Bushsvictory, a clear majority of Americans are dissatisfied with the governments handling ofthe situation in Iraq, and the death toll for US soldiers is rising (and is likely to continueto do so over the next two months) as military forces move to pacify centers of insurgentactivity in preparation for the elections.

In the absence of tangible progress that points the way to a US exit from Iraq, domesticopposition to the war is likely to take more overt forms. The Bush administration isbanking on successful elections to offer reassurance to an increasingly skeptical USpopulation. However, Sunni leaders are threatening to boycott the election, and the

significant risk of violence will likely deter many eligible voters from showing up at thepolls. In addition, both Sunni and Kurdish leaders have warned of substantial futuredifficulties if representatives of the majority Shiite population emerge as the dominantforce in the new political structure (as they almost certainly will) and use their influenceto thwart the aspirations of minority groups.

Thus, there is a high probability that the elections will either be held under conditionsthat raise immediate doubts about the legitimacy of the results (such as a boycott, orwidespread violence that leads to a low turnout), or will produce a result (i.e., a Shiitemajority) that leaves the Sunni and Kurdish populations disinclined to participate fully inthe post-election political process unless granted substantial concessions. In the worst-case scenario, disaffected groups currently cooperating in the democratic transition mightdecide that they have no choice but to take up arms to protect their interests.

To be sure, there is the possibility of a more positive outcome. After all, the Shiites canhardly be characterized as united, and their majority support is likely to be distributedamong several different factions and parties that may find it difficult to work with oneanother. But the idea that one or several Shiite groups might alternatively allythemselves with Kurdish or Sunni elements against their Shiite rivals stretches credulity.

What the US government would do in the event that the Iraqi elections do not lay a solidfoundation for stable, democratic governance is difficult to say, not least because the Bushadministration does not seem to have reconciled itself to the possibility of such anoutcome. But with several members of the so-called coalition of the willing preparingto withdraw their own forces in the aftermath of the scheduled elections, it is a virtualcertainty that the US will be required to take on additional responsibility if conditions inIraq do not begin to stabilize in the near future. It is unclear that the American peoplewill be prepared to stand behind the president under those circumstances.


19/55

Political Risk Services1-Dec-2004 Reproduction without written permission of The PRS Group is strictly prohibited.

Forecast Scenarios 1-Dec-2004 Page 19

United States

Country ForecastForecast Scenarios

SUMMARY OF 18-MONTH FORECAST

REGIMES & PROBABILITIESRepublican Majority80%

DividedGovernment 15%

Bipartisan Majority5%

SUMMARY OF FIVE-YEAR FORECAST

REGIMES & PROBABILITIESRepublican Majority60%


DemocraticMajority 10%

MOST LIKELY REGIME SCENARIO

18-Month Forecast Period:Republican Majority (80% Probability)Five-Year Forecast Period:Republican Majority (60% Probability)

President George W. Bush won a second four-year term and his Republican Party

expanded its majorities in both chambers of the Congress at the November 2004 elections,all but ensuring the Republicans of unchallenged control of the federal government for atleast the next two years. Although the incumbent party frequently sustains losses at themid-term congressional elections, which are scheduled for November 2006, theopposition Democrats are currently in a state of disarray, and have little chance ofregrouping in time to significantly erode the Republicans congressional advantagebefore 2008. The Republicans will become more vulnerable in 2008, not only because theDemocrats will have had more time to build consensus behind a coherent agenda, butalso because health issues preclude the participation of Vice President Dick Cheney in thecampaign. It is possible that the Republicans will seek to replace Cheney before the end

of Bushs second term, in order to position a strong candidate in the vice presidencyahead of the next presidential contest. In that case, the Republicans chances ofmaintaining their dominant position for the full five-year term would increase.

Business Environment Set to Improve

Overall prospects for an improved business climate have risen alongside the emergenceof a Republican majority regime. Although the administration was forced to compromise

RepublicanMajority

Growth(%)

Inflation(%)

CACC($bn)

2004 4.0 2.8 -650.00

2005-2009 3.0 2.7 -570.00


20/55


Page 20 1-Dec-2004 Forecast Scenarios

on additional tax cuts included in the 2003/2004 budget, legislators are unlikely to allowthe tax breaks to expire (as agreed) over the next several years, and the long-term impactwill be a significant reduction in the tax burden borne by businesses.

Efforts to reduce regulatory burdens, especially in the area of environmental regulations,are expected to be pursued with renewed vigor now that the elections are past, as willtort reform, another of President Bushs pet issues. Although he enjoys a strongcongressional majority, the president is likely to encounter bipartisan opposition to someof his administrations more controversial business-friendly proposals. However, thegeneral trend is expected to be in the direction of a more hospitable environment forbusiness as long as the Republicans maintain their congressional majority and control thepresidency.

The administration has already won approval of landmark reform in Medicare, the state-administered health care system, and some post-election efforts will be made to reformthe under-funded Social Security system. Plans to at least partially privatize the publicpension system will be fiercely resisted by congressional Democrats and public interestgroups, but should win enough support within the Republican ranks to gain approval ofrevisions to the system.

The most lasting impact of the second Bush administration may well be the presidentslikely appointment of three (and possibly even four) new justices to the nine-memberSupreme Court over the next four years. President Bushs short-list is believed to includeseveral proponents of the so-called constitution in exile, which sets strict limits on theexercise of federal authority in the affairs of individual states. The emergence of aconservative majority on the Supreme Court may have a significant long-term impact onthe flexibility of the executive and legislative branches to force states to imposerestrictions on business operations, reducing the policy-related risks to foreign businessregardless of which party holds power.

Strong Support for Free Trade

The Republicans dominant position and Bushs re-election will provide theadministration with the opportunity to press ahead with multilateral and bilateral trade

negotiations with fewer impediments, thus raising the prospects for improvedinternational trade opportunities over the forecast period. The recent signing of freetrade agreements with Chile and a bloc of five Central American countries, whichconstitute significant progress toward the administrations goal of creating a Free TradeArea of the Americas (FTAA), reflect the continued emphasis on free trade. In thisregard, it is noteworthy that Sen. Charles Grassley (an advocate of free trade) willcontinue as chair of the Senate Finance Committee, giving him control over the


21/55



operations of the Congressional Oversight Committee created under the trade promotionauthority (TPA) legislation approved by the Congress in July 2002.

Despite the favorable impact of such institutional changes, the goal of establishing ahemispheric customs union by 2005 increasingly looks to be out of reach. In themeantime, the administration will continue to conclude bilateral and regional tradeagreements with the countries of Latin American in order to build momentum for abroader accord and divide potential sources of opposition. Prospects for the conclusionof the FTAA will improve considerably beyond the middle of the forecast period asexisting subsidies and other barriers to agricultural, steel, and citrus fruits imports aredismantled. Bushs re-election in 2004 will place him in a more comfortable position tomove aggressively to eliminate remaining impediments to trade with Latin America,which will help to overcome the reluctance of several key nations (e.g., Brazil) and

promote the creation of the FTAA before the end of the forecast period.

The Bush administration will encounter pressure from European leaders to address theweakening dollar, which has endangered the EUs economic recovery by puttingEuropean exports at a competitive disadvantage. But Federal Reserve Board ChairmanAlan Greenspan has warned that the huge current account deficit of the US has reachedan unsustainable level, and the government is likely to favor a weak dollar in the interestof boosting exports. Some members of Congress have threatened to put forward ameasure to impose retaliatory tariffs on goods from China if Beijing does not abandon itspolicy of artificially under-valuing its own currency, but the Bush administration isunlikely to support any measure that might provoke precipitous actions from theChinese, who have the power to touch off a currency crisis in the US were they to makeany drastic moves.

Threat of Further Terrorist Attacks

Political disruptions are rare, and politically inspired work stoppages have long beenabandoned. The only recent large-scale politically motivated disturbances havesurrounded meetings of the WTO, IMF, and other international economic institutions.International and domestic activists opposed to the policies of these organizations can beexpected to continue their efforts in this regard, but given the greater emphasis on

security in the current international climate, such incidents are unlikely to escalate to thepoint of disturbing business operations or threatening political stability.

As horrifyingly demonstrated by the September 2001 terrorist attacks in New York andWashington, extremist enemies of the US government can cause significant destruction,massive casualties, and substantial disruption of business. That said, the attacksapparently took several years to implement, and the heightened alert of the countrys


22/55



security apparatus since those attacks decreases the risk that planned terrorist acts will becarried out successfully. Nevertheless, officials continue to warn that further terroriststrikes against the US are all but certain, and the delicate process of post-war

reconstruction in Iraq carries the potential for provoking small-scale terrorist attacks onUS property and personnel both at home and abroad.

Significantly, local government administrators complained that the terrorist alert systemintroduced by the Department of Homeland Security is inefficient and too expensive toimplement. In light of the ballooning budget deficit, municipal and local officials arelikely to face cuts in their own budgets that will make them inclined to cut corners onsecurity. The result may be increased vulnerability to attacks in key population centers.

Deficits Raise Doubts about Sustainability of Recovery

The continuation of a Republican administration and Republican-controlled Congressshould make for smoother and more efficient policy implementation. While there willundoubtedly be some disagreements between Congressional Republicans and the WhiteHouse, by and large a coherent and coordinated economic policy can be expected fromthis government. Bushs ability to win relatively rapid passage of most of his preferredmeasures will provide some stimulus to increased business investment and will help tosustain relatively healthy levels of consumer spending, reducing the dangers of recessionin the short term.

Real GDP growth is forecast to accelerate to 4% in 2004. Economic prospects beyond 2004have been clouded by the substantial growth in both the fiscal and current account

deficits. The Bush administration has pledged to halve the budget deficit, which has beenrevised downward to $413 billion (about 3.7% of GDP) for fiscal 2004, within five years.However, there are serious doubts as to whether that target is achievable if thegovernment pushes ahead with plans to make recent tax cuts permanent. The largedeficits will heighten concerns within the investment community, and the governmentwill have to respond with some austerity measures in order to reassure investors.Consequently, the pace of expansion is expected to slow over the forecast period, and realGDP growth is forecast to average 3% per year through 2009.

Concerns about a potential deflationary spiral have eased, as inflation rose to 2.3% in2003. The Federal Reserve Board has moved cautiously in raising interest rates, but the

Fed is expected to announce quarter-point increases in both December 2004 and February2005. The continued weakness of the dollar will contribute to some imported inflation,particularly as oil prices have not fallen as quickly as expected, and consumer prices areforecast to increase by 2.8% in 2004. The tightening of fiscal and monetary policy beyond2004, combined with the expected moderation of growth rates, will help to containinflation, which will register 2.7% per year on average over the five-year forecast period.


23/55



The Bush administrations budget for 2004/2005, unveiled in February 2004, focusesmuch attention on making previous tax cuts, including a particularly controversialelimination of the estate tax, permanent. But the plan has come under heavy criticism

from economists on both sides of the political spectrum, who are in a near panic over thebudget deficit. The non-partisan Congressional Budget Office (CBO) has estimated thatthe administrations fiscal plan would result in a cumulative deficit of $2.75 trillion overthe decade ending in 2014, with $1.3 trillion of that figure reflecting the loss of revenueresulting from the tax cuts. As a result, even the presidents congressional supportershave suggested that the best he can hope for in the short term is making permanent thosetax cuts that are due to expire in 2004/2005.

The administration has promised to reduce the deficit by holding down discretionaryspending. But critics charge that spending increases already promised by theadministration, including those related to the prescription drug benefit provided underBushs Medicare reform, in combination with further tax cuts, will make it impossible forthe government to reach that goal within the specified time frame. Most estimates projectlarge deficits at least through the end of the current decade as revenues generated by theeconomic recovery fail to offset the losses stemming from the governments generous taxcuts. However, the administration continues to insist that growth will be sufficient toneutralize the impact of the tax cuts on revenue levels.

The current account deficit expanded significantly once again in 2003, reflecting a largewidening of the trade shortfall, as a weaker dollar helped to boost exports but alsoincreased the cost of imports. The government has dismissed the significance of the large

current account deficit, stating that in GDP terms it is in line with the deficits previouslyrecorded at times when the economy was recovering from a recession. Consequently, nochanges in policy, particularly with regard to the dollar, have been made in 2004, and thecurrent account deficit is forecast to widen to $650 billion in 2004. Stable, moderategrowth rates over the longer term will promote currency stability and contribute torelatively healthy domestic demand, keeping the current account deficit high at an annualaverage of $570 billion through 2009.

SECOND MOST LIKELY REGIME SCENARIO

18-Month Forecast PeriodDivided Government (15% Probability)Five-Year Forecast PeriodDivided Government (30% Probability)

The only way conditions of divided government might emerge during the 18-monthforecast period would be if a faction of the Republican Party broke with the president and

DividedGovernment Growth(%) Inflation(%) CACC($bn)2004 3.8 3.0 -630.00

2005-2009 2.5 2.2 -500.00


24/55



the partys congressional leadership, and actively sought to thwart the White Houseslegislative agenda. This is highly unlikely, not only owing to the significant leverage thatthe national party exerts over its legislators, but also because the ideological gulf between

the Republicans left and right wings is not so substantial that compromise cannot beachieved.

A division of legislative and executive power between the Republicans and theDemocrats would be more likely in the aftermath of the 2006 elections, and even more soafter 2008, when the next presidential election is to be held. Historically, dominance ofboth the executive and legislative branches of government by one party has proved short-lived, as voters have shown a clear preference for a division of power between the twomain parties. Despite their problems, the Democrats might regain control of at least oneof the houses of the bicameral legislature as early as 2006, particularly if the Bush

administration is troubled by economic difficulties or a lack of progress in Iraq.

Less Favorable Business Environment

Given the rancor that has accompanied partisan political debate of late, the emergence ofa divided government would give rise to an increasingly tense political climate in whichopposing sides were ill disposed to compromise. Such a partisan standoff would deterany substantive policy initiatives, causing some deterioration in the climate for business.The conflict between presidential and congressional initiatives would lead to uncertaintyin the implementation and administration of a wide range of policies, including taxes,business regulations, and foreign trade restrictions.

Even when presidents face a divided or opposition Congress, however, they caninfluence policy by exercising their substantial authority over the massive administrativemachinery of the executive branch. Accordingly, either Bush or a Democratic presidentelected in 2008 would be able to accomplish some of his goals regardless of his formallegislative success. He could make hundreds of appointments to key positions andinfluence the operations of the executive bureaucracy.

Barriers to Coping with Economic Difficulties

Factors contributing to the return of divided government early in the forecast period

would include a disappointing performance of the economy, most likely aggravated bystrains stemming from the Bush administrations pursuit of the war on terrorism. Asharp increase in the fiscal and current account deficits could undermine alreadyuncertain confidence, contributing to a further weakening of the dollar and restrainedconsumer spending, which accounts for approximately two-thirds of economic growth.The economic troubles present when a divided government emerged would be


25/55



prolonged by persistent wrangling over policies. Real GDP growth would average just2.5% annually through 2009.

The slower than anticipated pace of the economic revival would reduce the risk ofworrisome inflation, although increased government spending and rises in prices foressential imported goods such as fuel would push inflation up to 3% in 2004. Thesluggish pace of economic growth would diminish the likelihood that increased activitymight generate higher revenues that would offset the losses from tax cuts. Persistentworrisome budget deficits would encourage the FRB to tighten monetary policy,restraining inflation, which would average 2.2% annually through 2009.

The current account deficit would expand less slowly in a climate of political uncertainty,as weakening confidence dampened domestic demand. The deficit would narrow over

the longer term, averaging $500 billion annually through 2009, as a weaker dollarprovided a boost to exports and reinforced the weak demand for imports stemming fromthe prolonged sluggish performance of the economy.

THIRD MOST LIKELY REGIME SCENARIO

18-Month Forecast Period:Bipartisan Majority (5% Probability)Five-Year Forecast Period:Democratic Majority (10% Probability)

Although extremely unlikely, it is nevertheless possible that President Bush could losethe support of the right-wing faction of his own party, and find himself with no choicebut to turn to centrist Democrats to win approval of his policies. The result would be asoftening of some of his most controversial initiatives. The chief obstacle to such adevelopment is the improbability that the president would adopt such a tough stance inopposition to the Republican right-wing as to force its members into revolt.

Nearly as improbable is the emergence of a Democratic majority (controlling both thepresidency and both houses of the Congress) at any point in the forecast period. The

political sea change that would have to occur to cause such a massive shift in the politicalbalance of power in such a short period of time would of necessity require a devastatingsetback for the economic recovery or a catastrophic failure for the Bush administration onthe foreign policy front, or both. Even then, the Democrats would have difficulty takingadvantage of the Republicans troubles unless they had managed to reach an internalconsensus on which direction to take the party. Their ability to achieve such unity ofvision is seriously in doubt.

DemocraticMajority

Growth(%)

Inflation(%)

CACC($bn)

2004 3.1 2.4 -665.002005-2009 2.2 3.2 -480.00


26/55



Sharp Turn in Policy Direction

The resurgence of Democratic influence, particularly in a climate of political or economiccrisis, would lead to significant alterations in policy. The Democrats would most likely bereturned to power on the strength of an at least moderately populist platform, includingpledges to shift a greater part of the tax burden to the wealthiest Americans and a retreatfrom the free-trade policies favored by the Bush administration. A Democratic regimewould also move to restore and expand the regulatory framework for businesses,particularly in the areas of health, safety, and the environment, and would increaseexpenditures to ensure enforcement. The fiscal deficit would continue to expand, aspolitical leaders moved to make good on promises to cut taxes on the middle class, whilestudiously avoiding any tinkering with expensive spending programs (especially thoseaimed at the poor) that might help to offset the impact of decreased revenues.

No Significant Increase in Turmoil Risk

If the president and a majority in the Congress agreed on policies that produced at leastmoderate measures to alleviate social distress, this regime would not be expected toencounter significantly more turmoil than would be the case under any of the alternativescenarios.

Populist Policies Would Hamper Economic Recovery

The economic prospects under this scenario would be clouded by the fact that a

Democratic regime would likely come to power only under conditions that included aweak economy. The move toward policies favored by the Democrats would likely resultin increased taxes on business and more extensive government regulation, both of whichwould retard investment, holding real GDP growth to an average of 2.2% annuallythrough 2009. Inflation would rise to average 3.2% annually over the same period.

The current account deficit would average $480 billion annually through 2009. Lessfriendly attitudes toward free trade and a somewhat more sluggish economy would bereflected in slower growth of imports that would contribute to a narrowing of the tradegap and smaller current account deficits. Investment would slow in reaction to theuncertain climate produced by the troublesome shifts in policy.


27/55



Forecast Summary

SUMMARY OF 18-MONTH FORECAST

REGIMES & PROBABILITIESRepublicanMajority 80%


BipartisanMajority 5%

RISK FACTORS CURRENT

Turmoil Low Same SLIGHTLY MORE Same

Investment

Equity Low Same Same Same

Operations Moderate SLIGHTLY LESS Same Same

Taxation Low SLIGHTLY LESS Same Same

Repatriation Low Same Same SameExchange Low Same Same Same

Trade

Tariffs Low Same Same SLIGHTLY MORE

Other Barriers Moderate SLIGHTLY LESS Same Same

Payment Delays Low Same Same Same

Economic Policy

Expansion High SLIGHTLY MORE Same SLIGHTLY MORE

Labor Costs Moderate SLIGHTLY MORE SLIGHTLY MORE SLIGHTLY MORE

Foreign Debt Moderate SLIGHTLY MORE SLIGHTLY MORE SLIGHTLY MORE

SUMMARY OF FIVE-YEAR FORECAST

REGIMES & PROBABILITIESRepublicanMajority 60%


DemocraticMajority 10%

RISK FACTORS BASE

Turmoil Low Same Same Same

Restrictions

Investment Low Same Same Same

Trade Low SLIGHTLY LESS Same Same

Economic Problems

Domestic Moderate Same SLIGHTLY MORE SLIGHTLY MORE

International High Same Same Same

* When present, indicates forecast of a new regime


28/55



United States

Real GDP G rowth Under Alternative Regimes

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5

1999 2000 2001 2002 2003e 2004f 2005-

2009f

(percent)

Republican Majority Divided Governm ent Demo cratic Majority

United States

Inflation Under Alternative Regimes

1.6

1.82.0

2.2

2.4

2.6

2.8

3.0

3.2

3.4

1999 2000 2001 2002 2003e 2004f 2005-

2009f

(percent)


United States

Current Account Under Alternative Regimes

-700.0

-650.0

-600.0

-550.0

-500.0

-450.0

-400.0

-350.0

-300.0

-250.0

1999 2000 2001 2002 2003e 2004f 2005-

2009f

($billions)



29/55

Political Risk Services

1-Dec-2004 Reproduction without written permission of The PRS Group is strictly prohibited.

Political Framework 1-Dec-2004 Page 29

United States

Country ForecastPolitical Framework

Players To Watch

George W. Bush: While control of the legislature will enhance the presidents ability topursue his preferred policy objectives during his second term, including additional tax cutsand the easing of regulations on business operations, he will need to face down theRepublican Partys right wing on several key issues. Moreover, the continued potential forthe emergence of divisions over the administrations handling of post-war reconstruction in

Iraq and a ballooning fiscal deficit that poses a threat to the sustainability of the economicrecovery could pose obstacles to the smooth implementation of his policy agenda

Republican Party: Although the presidents party expanded its majorities in the Senate andthe lower house of Congress at the November 2004 elections, moderate Republicans haveshown a willingness to stake out an independent position on several important economic andsocial policy issues, particularly with regard to deficits and the national debt. President Bushwill have to balance the interests of his partys moderates and right wing, pointing toperiodic difficulties in his administrations efforts to implement the second-term agenda

Federal Reserve Board: In many respects, the FRB exercises as much impact on the business

climate as does the president because of its role in influencing interest rates. While thepresident appoints the FRBs members, once in office they operate with statutoryindependence from the direct influence of either the president or Congress

Democratic Party: The Democrats will need to regroup after a devastating defeat in the 2004presidential and legislative elections. In the meantime, although the partys minority statusin both houses of Congress limits its members ability to influence the direction of policy, aslong as the Democrats are able to maintain broad unity, the opposition will be able to forgealliances with moderate and liberal Republicans to block President Bushs more controversialmeasures

Condoleezza Rice: Currently holding the post of national security adviser, Rice has beennamed to replace Colin Powell as secretary of state in the next administration. A loyal ally ofthe president and a staunch supporter of Bushs Iraqi policy, her promotion indicates thatthere will be no significant new departures in foreign policy during the second term

more on these and other Players in the Political Players section


30/55


Page 30 1-Dec-2004 Political Framework

POLITICAL PLAYERS

George W. Bush (President)

Despite sharply divided opinion over his administrations handling of the war in Iraq andlingering doubts about the sustainability of the economic recovery, the presidentmanaged to avoid meeting the same fate as his father, George H. W. Bush, who failed towin re-election in 1992, by holding off a challenge from Democratic Party candidate JohnKerry to win a second term at the November 2004 presidential election with 51% of thepopular vote. Benefiting from the expanded congressional majority won by hisRepublican Party in simultaneously held legislative elections, Bush has pledged to moveforward with plans to reform the public pension system, revise the tax code, and reducethe regulatory restrictions that impede business operations in the US.

Born on July 6, 1946, in Midland, Texas, an oil town in the dusty plains, Bush waseducated in history at Yale University (1968) and received an M.B.A. from HarvardBusiness School (1975). In 1977, soon after graduating from Harvard, Bush formed hisown oil business, Arbusto (bush in Spanish) Corporation, for which he researched andnegotiated leases and funding to drill for oil. In 1978, Bush ran unsuccessfully for a Texascongressional seat. In 1989, he became the managing general partner of the TexasRangers baseball franchise, serving until 1994. Following his unsuccessful bid forCongress, Bush distanced himself from his father politically until he became PresidentBushs campaign aide (19871992). In 1994, he developed a new taste for politics and ranfor governor of Texas, defeating the extremely popular Democratic incumbent, Ann

Richards. In 1998, he became the first Texas governor ever to be re-elected, winning 68%of the vote.

Before becoming president, Bush had virtually no overseas travel or other internationalexperience. His statements on foreign affairs during the 2000 campaign gave littleindication of his foreign policy inclinations other than expressing general support for freetrade, and suggesting that the US should be less inclined to involve itself in foreigndisputes. Ironically, it is in the realm of foreign affairs, through his leadership of theprocess of building an international coalition to wage the war on terrorism, that he hasreduced doubts about his presidential qualities. However, his administrations pursuit ofregime change in Iraq fueled tensions within both the UN and NATO, raising concernsthat both international organizations could be hobbled by the refusal of the US to seekconsensus on its foreign policy initiatives.

Bushs economic views are based on the conviction that entrepreneurship and initiativemust be given every advantage by the government as the underpinning of prosperity.He has sought to both simplify the tax code and substantially reduce taxes in order to


31/55



stimulate economic growth. While professing support for a balanced budget amendmentto the constitution, his administration has overseen a massive reversal of the fiscalaccounts, as surpluses have given way to record-high deficits. Nevertheless, he will

continue to push for further tax cuts and credits, as well as higher spending on jobtraining, arguing that the stimulus to the economy from such moves will generate higherrevenues sufficient to offset losses of income from tax reforms.

Bushs popularity rating fell steadily following the end of major combat in Iraq, owing tothe failure of the economic recovery to promote significant job creation, continuedhostilities in Iraq (with a consequent rise in American casualties), and some questionsabout the truthfulness of the case made by the administration for the war. Nevertheless,Kerrys inability to convince voters that he would do a better job than Bush insafeguarding the country from further terrorist attacks, as well as doubts about his

decisiveness in general, prevented him from fully exploiting Bushs vulnerability.

Richard Bruce Cheney (Vice President)

Bushs selection of Cheney, a former congressman and defense secretary, as his vicepresidential running mate in 2000 came as a surprise, but was generally welcomed by thecandidates supporters. During the transition period and the early months of hispresidency, Bush relied heavily on Cheney for advice. He also assigned Cheney to takethe lead in a wide range of his administrations policy initiatives, including energy andprotection against terrorism. In fact, Cheneys role has been so substantial that many ofthe presidents critics contend that it is he, and not Bush, who really calls the shots in the

White House. Bushs obvious dependence on the vice president, as reflected by hisinsistence that he and Cheney give joint testimony to the 9/11 Commission investigatingthe events leading up to the September 2001 terrorist attacks, has merely served toreinforce such suspicions.

Even so, there is a fairly good chance that Cheney will be replaced before the completionof Bushs second term. The vice presidency is generally viewed to be a launching pad forthe presidency, but owing to health issues, there is no chance that Cheney will seek thenomination of the Republican Party in 2008. Consequently, the Republicans will nodoubt want to position a viable candidate in the advantageous post before the next round

of presidential campaigning begins.

Born on January 30, 1941, in Lincoln, Nebraska, Cheney was educated at the University ofWyoming, receiving a masters degree in political science in 1966. He also attended ordid graduate work at Yale University, Casper College, and the University of Wisconsin.His early work experience included a period as an investment adviser in Wyoming. Hispolitical career began with various posts in the White House during the administrations


32/55


Page 32 1-Dec-2004 Political Framework

of Richard Nixon and Gerald Ford (19691975), culminating in his service as Fords chiefof staff (19751977). Cheney then served as congressman from Wyoming (19781989),during which period he was elected by Republican members as minority whip, the

second highest post for the minority party in the House of Representatives. WhenGeorge Bush, Sr., became president, Cheney was appointed to his Cabinet as secretary ofdefense (19891993). When Bush left office, Cheney returned to the private sector,becoming the CEO (19952000) of Halliburton Corporation in Dallas, Texas, a majorengineering and construction company serving the oil industry.

Cheney has come under fire since becoming vice president over his ties to businessexecutives, a particularly sensitive issue in light of a series of corporate scandals andbusiness collapses that occurred early in Bushs first term. Congressional Democrats havetried, so far unsuccessfully, to force Cheney to divulge the content of his discussions with

business executives, including some from bankrupt Enron, who participated in a taskforce to develop the governments energy policies. In addition, groups representingHalliburton stockholders have filed suit against Cheney, accusing the company of usingcreative accounting to inflate profits.

Cheney has played a more public role than any vice president in recent memory, and inparticularly has served as needed as the administrations official flak-catcher. Hischeerleading knows no bounds, as was reflected during the 2004 campaign, when hecontinued to assert that Iraq possessed weapons of mass destruction and that SaddamHussein was directly linked to Al Qaeda, despite broad acceptance in virtually allquarters that both claims had no basis in fact.

Democratic Party

As a result of the 2004 congressional elections, the Democrats have been pushed solidlyinto the minority in both the Senate and the House of Representatives, where they willcontrol just 44% and 47% of the seats, respectively, when the new Congress convenes inJanuary 2005. The losses suffered in the recent presidential and legislative elections havealready brought renewed calls for the party to change direction, but there are sharpdifferences of opinion as to which course the party should take. It appears formerVermont Gov. Howard Dean, who advocates a leftward shift, is preparing to battle for

the soul of the party against Sen. Hillary Clinton, an early front-runner to win the partyspresidential nomination in 2008, who favors maintaining the centrist posture establishedby her husband, former President Bill Clinton, in the 1990s. Whatever the outcome ofthat struggle, the Democrats have little hope of reclaiming even a small share of politicalpower until 2008, at the very earliest.


33/55



The Democratic Party took its name in 1828 after a split in the Democratic-RepublicanParty. Counting on a base constituency among minorities, low-income whites, and whitesocial activists, the Democrats dominated politics between 1932 and 1968 and remained

the leading influence in Congress until 1994, when the Republicans took control of bothhouses. After losing five of the previous six presidential races, the Democrats regainedthe White House when Bill Clinton won the first of two terms in 1992. In the 1994congressional elections, held in the middle of Clintons first term, the common pattern oflegislative losses by the party controlling the presidency led to the Democratsrelinquishing control over both houses of Congress for the first time in 40 years.

The unexpected success of the Democratic Party in the 1998 mid-term congressionalelections substantially eased political pressure on Clinton, but he still lacked thelegislative majority needed to achieve changes in domestic policy. As a result, Clinton

turned greater attention to foreign policy during the last years of his presidency.

The Democrats control of the Senate during 20012002, made possible by the defection ofVermont Sen. James Jeffords, enabled the party to block several of President Bushs moreconservative policy initiatives. Although the Democrats have pledged to continue thatfight, the losses suffered in 2002 and 2004 have left the party dependent upon winningsupport from moderate Republicans if they hope to put up an effective resistance to thepresidents pursuit of his legislative goals.

Domestic Business

Most business executives give at least lip service to a preference for the Republican Party,although they have found it quite easy to prosper under a Democratic administration. Anincreasing number provide financial support to both parties so that they can retain theirinfluence no matter which party wins a given election. In any event, the check onpresidential power offered by their close ties and financial support to sympathetic membersof key congressional committees gives them significant political influence on governmentpolicies affecting their interests, regardless of which party controls the presidency.

Business leaders generally approve of the Republican emphasis on lower taxes and fewerregulations. Nonetheless, diverse political views on a variety of issues divide the business

community. Parts of the communications, entertainment, and fashion industries, and somehigh technology firms show an

US Forecast

Documents

Transcript of US Forecast