United States

Table of Contents
Page
Country Forecast Map..................................................................................................................................................................... 2 Highlights .......................................................................................................................................................... 3 Current Data...................................................................................................................................................... 5 Comment & Analysis ..................................................................................................................................... 11 Forecast Scenarios Most Likely Five-Year Regime Scenario: Republican Majority (60% Probability) ........................ 19 Second Most Likely Five-Year Regime Scenario: Divided Government (30% Probability) ......... 23 Third Most Likely Five-Year Regime Scenario: Democratic Majority (10% Probability) ............. 25 Forecast Summary.................................................................................................................................. 27 Political Framework Players To Watch.................................................................................................................................... 29 Political Players....................................................................................................................................... 30 Country Conditions Investment Climate Overview ................................................................................................................................................... 1 Policies ....................................................................................................................................................... 2 Legal Framework...................................................................................................................................... 2 Infrastructure ............................................................................................................................................ 4 Political Violence ...................................................................................................................................... 4 Corruption................................................................................................................................................. 4 Labor Conditions...................................................................................................................................... 4 Climate for Trade Trade Barriers ........................................................................................................................................... 7 International Agreements........................................................................................................................ 7 Background Geography................................................................................................................................................. 9 History ....................................................................................................................................................... 9 Social Conditions.................................................................................................................................... 13 Government ............................................................................................................................................ 14 Political Conditions ................................................................................................................................ 14 Foreign Relations.................................................................................................................................... 15

© 2004, The PRS Group, Inc.

ISSN: 1054-6278

Political Risk Services

United States Country Forecast
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Canada
North Pacific Ocean
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Seattle

Spokane Fargo q

Great Lakes

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Boise

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q

San q Francisco

Las Vegas
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Denver Wichita
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q

q

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St. Louis
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Los Angeles q San Diego q

Phoenix
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Albuquerque

Memphis
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q

Atlanta

Charleston

Honolulu

Hawaiian Islands (U.S.) Hawaii

Mexico
Anchorage Juneau

Dallas q q Shreveport Mobile q Jacksonville q San Baton Rougeq q Tampa q Antonioq New q St. Petersburg Orleans q Houston q Miami

Gulf of Mexico

Alaska (U.S.) Alaska

Cuba Jamaica

Page 2

Salt Lake City

Chicago Toledo Indianapolis

Des Moines

q

q

q

Philadelphia

Washington, D.C.
Norfolk

United States

Milwaukee

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q

Detriotq

Niagara q Falls

q

Boston New York

North Atlantic Ocean

Bahamas

Puerto Rico (U.S.)

Haiti Dom. Rep.

REV2003

Map

Political Risk Services
1-Dec-2004
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United States
Country Forecast
Highlights
MOST LIKELY REGIMES AND THEIR PROBABILITIES 18-Month: Republican Majority 80% (50%) Five-Year: Republican Majority 60% (45%) FORECASTS OF RISK TO INTERNATIONAL BUSINESS Financial Direct Turmoil Transfer Investment 18-Month: Low B+ A+ (A) Five-Year: Low B+ A
( ) Indicates change in rating.

Export Market A A-

* Indicates forecast of a new regime.

KEY ECONOMIC FORECASTS Real GDP Years Growth % 1999-2003(AVG) 2.7 2004(F) 4.0 2005-2009(F) 3.0

Inflation % 2.4 2.8 2.7

Current Account ($bn) -420.12 -650.00 -570.00

More of the Same
Key Points To Watch…
! President Bush won re-election in early November in a contest that was not nearly as close as anticipated, while the governing Republican Party expanded its majorities in both houses of the Congress… ! Consequently, the president should be able to win approval of his priority initiatives, including reforms of the Social Security and tax systems, and the extension of tax cuts that are due to expire before the close of the decade. That said, Bush may still face some tough battles, particularly owing to concerns among members of his conservative wing over the large fiscal deficits run up by the administration… ! The most lasting legacy of Bush’s second term is likely to be the establishment of a conservative majority on the Supreme Court. He is expected to appoint at least three new justices to the Court over the next four years, all of whom will very probably adhere to a narrow interpretation of federal power, particularly as concerns the government’s economic regulatory functions…

Highlights

1-Dec-2004 • Page 3

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United States Country Forecast Forecast
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! In general, Bush’s nominees to replace departing members of his Cabinet indicate 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 regulatory impediments to business activity, concerns about the twin deficits in the fiscal and current accounts will encourage an increasingly cautious attitude among investors, limiting the beneficial impact of the government’s business-friendly policies on economic activity in the near term… ! Real GDP growth is forecast to accelerate to 4% in 2004. However, as the impact 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 forecast period, and real GDP growth is forecast to average 3% per year through 2009… ! 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 are forecast to increase by 2.8% in 2004. The tightening of fiscal and monetary policy beyond 2004, combined with the expected moderation of growth rates, will help to contain inflation, which will register 2.7% 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 previously recorded at times when the economy was recovering from a recession. Consequently, no change in policy, particularly with regard to the dollar, is expected 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 currency stability and contribute to relatively healthy domestic demand, keeping the current account deficit high at an annual average of $570 billion through 2009.

Economic Forecasts for the Three Alternative Regimes
Republican Majority
Growth (%) Inflation (%) CACC CACC ($bn)

Divided Government
Growth (%) Inflation (%) CACC ($bn)

Democratic Majority
Growth (%) Inflation (%) CACC ($bn)

2004 20052005-2009

4.0 3.0

2.8 2.7

-650.00 -570.00

3.8 2.5

3.0 2.2

-630.00 -500.00

3.1 2.2

2.4 3.2

-665.00 -480.00

Page 4 • 1-Dec-2004

Highlights

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1-Dec-2004

United States Country Forecast
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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 four years; last, November 2, 2004; next, scheduled November 4, 2008. Senate members serve six-year terms; one-third elected every two years. House of Representative elections are held every two years; 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 President Ann M. Veneman, Agriculture John Ashcroft, Attorney General Donald L. Evans, Commerce Donald H. Rumsfeld, Defense Rod Paige, Education Edmund Spencer Abraham, Energy Tommy G. Thompson, Health & Human Services Thomas Ridge, Homeland Security Melquiades R. Martinez, Housing & Urban Development Gale A. Norton, Interior Elaine L. Chao, Labor Colin L. Powell, State Norman Y. Mineta, Transportation John Snow, Treasury Anthony Principi, Veterans' Affairs LEGISLATURE: Bicameral; 100-member Senate and 435-member House of Representatives. Seat distribution in the Senate: Republicans, 51; Democrats, 48; independent, 1. Seat distribution in the House: Republicans, 229; Democrats, 205; independent, 1.

Current Data

1-Dec-2004 • Page 5

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1-Dec-2004

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United States Databank
1994-1998 1999-2003 Average Average 1994
7054.30 27069 4.0 2.5 1034.60 14.7 1277.50 18.1 1462.10 20.7 -184.60 -2.6 1232.00 0.2 6.1 46.13 41.22 63.28 11.05 74.33 310.39 4.4 254.01 29.0 -118.20 -1.7 -13.5 504.93 668.69 -163.76 199.03 165.44 6.49 875.89 0.30 74.03 1.3 1.623 -1.8 260.60 1.0 9 22 76 2.3 97 3 25 72 16 89.25 0.34

1995
7400.50 28135 2.7 2.8 1110.70 15.0 1367.20 18.5 1513.40 20.4 -146.20 -2.0 1220.70 -0.3 5.6 57.80 49.10 74.78 11.05 85.83 495.83 6.7 196.66 19.4 -105.82 -1.4 -10.4 577.05 749.38 -172.33 217.46 211.54 7.68 1013.73 0.40 85.43 1.4 1.433 -11.7 263.04 0.9 8 22 75 -0.4 97 3 24 73 15 91.22 0.35

1996
7816.90 28642 3.7 2.9 1209.50 15.5 1474.70 18.9 1585.40 20.3 -110.70 -1.4 1237.30 0.4 5.4 86.52 38.29 64.04 11.05 75.09 523.73 6.7 207.73 19.1 -117.16 -1.5 -10.8 614.01 803.11 -189.10 236.89 226.28 10.39 1087.57 0.20 74.89 1.1 1.505 5.0 272.92 3.8 7 22 75 3.8 98 3 24 73 15 94.22 0.35

1997
8304.30 30096 4.5 2.3 1570.00 18.9 1619.30 19.5 1621.80 19.5 -2.50 0.0 1280.20 0.7 5.0 105.59 30.81 58.91 11.05 69.96 830.43 10.0 245.08 20.4 -135.98 -1.6 -11.3 680.33 876.49 -196.16 254.32 256.82 9.89 1201.36 0.50 69.46 1.0 1.734 15.2 275.93 1.1 7 22 75 1.1 98 3 24 73 14 94.73 0.34

1998
8747.00 31357 4.2 1.6 1700.70 19.4 1747.70 20.0 1693.30 19.4 54.40 0.6 1324.70 0.8 4.5 179.03 36.00 70.71 11.05 81.76 918.44 10.5 266.19 22.1 -209.53 -2.4 -17.4 672.38 917.11 -244.73 261.13 261.32 9.64 1204.47 0.20 81.56 1.1 1.760 1.5 278.95 1.1 7 21 75 1.1 98 3 24 73 14 95.15 0.34

Domestic Economic Indicators GDP (Nominal, $bn) Per Capita GDP ($) Real GDP Growth Rate (%) Inflation Rate (%) Capital Investment ($bn) Capital Investment/GDP (%) Budget Revenues ($bn) Budget Revenues/GDP (%) Budget Expenditures ($bn) Budget Expenditures/GDP (%) Budget Balance ($bn) Budget Balance/GDP (%) Money Supply (M1, $bn) Change in Real Wages (%) Unemployment Rate (%) International Economic Indicators Foreign Direct Investment ($bn) Forex Reserves ($bn) Gross Reserves (ex gold, $bn) Gold Reserves ($bn) Gross reserves (inc gold, $bn) Total Foreign Debt ($bn) Total Foreign Debt/GDP (%) Debt Service ($bn) Debt Service/XGS (%) Current Account ($bn) Current Account/GDP (%) Current Account/XGS (%) Exports ($bn) Imports ($bn) Trade Balance ($bn) Exports of Services ($bn ) Income, credit ($bn) Transfers, credit ($bn) Exports G&S ($bn) Liabilities ($bn) Net Reserves ($bn) Liquidity (months import cover) Currency Exchange Rate* Currency Change (%)* Social Indicators Population (million) Population Growth (%) Infant Deaths/1000 Persons under Age 15 (%) Urban Population (%) Urban Growth (%) Literacy % pop. Agricultural Work Force (%) Industry-Commerce Work Force (%) Services Work Force (%) Unionized Work Force (%) Energy - total consumption (1015 Btu) Energy - consumption/head (109 Btu)
Note: *denominated in euros as of 1999

7864.60 29060 3.8 2.4 1325.10 16.7 1497.28 19.0 1575.20 20.1 -77.92 -1.1 1258.98 0.4 5.3 95.01 39.08 66.34 11.05 77.39 615.76 7.7 233.93 22.0 -137.34 -1.7 -12.7 609.74 802.96 -193.22 233.77 224.28 8.82 1076.60 0.32 77.07 1.2 1.611 1.6 270.29 1.6 8 22 75 1.6 98 3 24 73 15 92.91 0.34

10140.90 35187 2.7 2.4 1948.02 19.3 1901.28 18.8 1925.86 19.0 -24.58 -0.1 1564.48 0.8 4.9 178.01 33.19 63.52 11.05 74.56 2699.39 25.6 287.00 21.7 -420.12 -4.1 -31.9 716.90 1165.16 -448.26 291.20 298.31 10.95 1317.37 0.14 74.42 0.8 0.992 -1.8 288.02 1.1 7 21 76 1.3 98 3 25 72 14 97.46 0.34

Current Data

1-Dec-2004 ~ Page 6-7

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1-Dec-2004

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United States Databank
1994-1998 1999-2003 Average Average 1999
9268.40 32869 4.4 2.1 1845.60 19.9 1858.30 20.1 1701.60 18.4 156.70 1.7 1461.80 0.9 4.2 289.44 32.18 60.50 11.05 71.55 797.08 8.6 277.80 21.9 -296.85 -3.2 -23.4 686.27 1029.99 -343.72 280.17 293.22 8.85 1268.51 0.10 71.45 0.8 1.067 0.0 281.98 1.1 7 21 75 1.1 96 3 24 73 14 96.77 0.34

2000
9817.00 34446 3.6 3.4 1983.50 20.2 2042.70 20.8 1788.10 18.2 254.60 2.6 1436.40 0.0 4.0 321.27 31.24 56.60 11.05 67.65 1384.20 14.1 352.32 24.6 -413.44 -4.2 -28.9 774.63 1224.42 -449.79 296.35 350.45 10.78 1432.21 0.20 67.45 0.7 0.924 13.4 285.00 1.1 7 21 76 2.4 98 3 24 73 14 98.94 0.35

2001
10128.00 35164 0.8 2.8 1970.10 19.5 1995.30 19.7 1902.80 18.8 92.50 0.9 1599.40 0.3 4.7 167.02 28.98 57.63 11.05 68.68 1979.76 19.6 311.14 23.9 -385.70 -3.8 -29.6 721.84 1145.93 -424.09 284.81 286.69 8.51 1301.85 0.10 68.58 0.7 0.896 3.0 288.02 1.1 7 21 76 1.1 98 3 25 72 14 96.32 0.33

2002
10487.00 36033 1.8 1.7 1915.50 18.3 1814.40 17.3 2044.90 19.5 -230.50 -2.2 1646.20 1.9 5.8 72.41 33.82 67.96 11.04 79.00 2389.62 22.8 259.70 20.7 -473.94 -4.5 -37.8 685.34 1164.75 -479.41 290.60 266.80 11.83 1254.57 0.11 78.89 0.8 0.944 -5.4 291.04 1.0 7 21 76 1.0 98 3 25 72 14 97.35 0.33

2003
11004.10 37424 3.0 2.2 2025.40 18.4 1795.70 16.3 2191.90 19.9 -396.20 -3.6 1678.60 0.7 6.0 39.89 39.72 74.89 11.04 85.93 6946.29 63.1 234.03 17.6 -530.66 -4.8 -39.9 716.41 1260.71 -544.30 304.09 294.39 14.80 1329.69 0.20 85.73 0.8 1.131 -19.8 294.04 1.0 7 21 76 1.0 98 3 25 72 14 97.92 0.33

Domestic Economic Indicators GDP (Nominal, $bn) Per Capita GDP ($) Real GDP Growth Rate (%) Inflation Rate (%) Capital Investment ($bn) Capital Investment/GDP (%) Budget Revenues ($bn) Budget Revenues/GDP (%) Budget Expenditures ($bn) Budget Expenditures/GDP (%) Budget Balance ($bn) Budget Balance/GDP (%) Money Supply (M1, $bn) Change in Real Wages (%) Unemployment Rate (%) International Economic Indicators Foreign Direct Investment ($bn) Forex Reserves ($bn) Gross Reserves (ex gold, $bn) Gold Reserves ($bn) Gross reserves (inc gold, $bn) Total Foreign Debt ($bn) Total Foreign Debt/GDP (%) Debt Service ($bn) Debt Service/XGS (%) Current Account ($bn) Current Account/GDP (%) Current Account/XGS (%) Exports ($bn) Imports ($bn) Trade Balance ($bn) Exports of Services ($bn ) Income, credit ($bn) Transfers, credit ($bn) Exports G&S ($bn) Liabilities ($bn) Net Reserves ($bn) Liquidity (months import cover) Currency Exchange Rate* Currency Change (%)* Social Indicators Population (million) Population Growth (%) Infant Deaths/1000 Persons under Age 15 (%) Urban Population (%) Urban Growth (%) Literacy % pop. Agricultural Work Force (%) Industry-Commerce Work Force (%) Services Work Force (%) Unionized Work Force (%) Energy - total consumption (1015 Btu) Energy - consumption/head (109 Btu)
Note: *denominated in euros as of 1999

7864.60 29060 3.8 2.4 1325.10 16.7 1497.28 19.0 1575.20 20.1 -77.92 -1.1 1258.98 0.4 5.3 95.01 39.08 66.34 11.05 77.39 615.76 7.7 233.93 22.0 -137.34 -1.7 -12.7 609.74 802.96 -193.22 233.77 224.28 8.82 1076.60 0.32 77.07 1.2 1.611 1.6 270.29 1.6 8 22 75 1.6 98 3 24 73 15 92.91 0.34

10140.90 35187 2.7 2.4 1948.02 19.3 1901.28 18.8 1925.86 19.0 -24.58 -0.1 1564.48 0.8 4.9 178.01 33.19 63.52 11.05 74.56 2699.39 25.6 287.00 21.7 -420.12 -4.1 -31.9 716.90 1165.16 -448.26 291.20 298.31 10.95 1317.37 0.14 74.42 0.8 0.992 -1.8 288.02 1.1 7 21 76 1.3 98 3 25 72 14 97.46 0.34

Current Data

1-Dec-2004 ~ Page 6-7

United States Country Forecast
1-Dec-2004 Comparison: United States
Regional Real GDP Growth (2003): N&C America
Costa Rica Panama Trinidad & Tobago Honduras United States Cuba Nicaragua Guatemala Canada Jamaica El Salvador Mexico Haiti Dominican Republic
-1 0 1 2 3 (percent) 4 5 6 7

Regional Inflation Rates (2003): N&C America
Haiti Dominican Republic Jamaica Costa Rica Honduras Guatemala Nicaragua Mexico Trinidad & Tobago Canada Cuba United States El Salvador Panama
0.0 5.0 10.0 15.0 20.0 25.0 (percent) 30.0 35.0 40.0 45.0

Page 8 • 1-Dec-2004
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Current Data

United States Country Forecast
1-Dec-2004 Comparison: United States
Regional Current Account/GDP (2003): N&C America
Trinidad & Tobago Dominican Republic Canada Haiti Cuba Mexico Panama Honduras Guatemala United States El Salvador Costa Rica Jamaica Nicaragua
-25.0 -20.0 -15.0 -10.0 (percent) -5.0 0.0 5.0 10.0

Economic Performance Profile Country's Ranking Relative to All Countries Covered by Political Risk Services 1999-2003
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 (%)

! 35187 ! 2.7 ! 2.4 ! 4.9 ! 19.3 ! -0.1 ! -4.1

! 21.7 ! -1.8
BEST 25% NEXT 25% NEXT 25% WORST 25%

Current Data
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1-Dec-2004 • Page 9

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1-Dec-2004

United States Country Forecast
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Social Indicators
Primary Energy Energy Consumption (10 Btu): 9 Per Capita Consumption (10 Btu):
15

as of 2003

97.92 0.33

Population Annual Growth Infant Deaths per 1,000 Persons Under Age 15 Urban Population Urban Growth Literacy 1.0% 7 21% 76% 1.0% 98%

Work Force Distribution Agriculture Industry-Commerce Services Unions 3% 25% 72% 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%)

Page 10 • 1-Dec-2004

Current Data

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1-Dec-2004
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United States
Country Forecast
Comment & 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 that followed an unusually acrimonious campaign. Defying expectations that the race would be so close that the outcome might be determined by the courts, as was the case when Bush won for the first time in 2000, the incumbent garnered 51% of the popular vote, and his 60.6 million votes (including provisional and write-in ballots that were not included in the immediate tally) are the most ever won in a US national election. That said, the contest did go down to the wire, with the outcome eventually hinging on the result in the crucial battleground state of Ohio, as Kerry won 57.3 million votes, more than any previous winning presidential candidate. Vice President Dick Cheney wasted no time declaring the result a “clear mandate” for the Bush administration, while the president held a press conference at which he declared that he had “earned political capital” and that “he intended to spend it.” Among the top priorities 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 during the campaign). Given the high degree of polarization that was evident among the voting population in the months leading up to the election—largely stemming from divided opinions on the war in Iraq and the recognition that the winner would likely appoint at least three, and possibly four, justices to the nine-member Supreme Court over the next four years—the claim of a mandate might be dismissed as suspect, if not for the results of the legislative elections held on the same day. The Republicans increased their majorities in both houses of the Congress, and beginning in early January 2005 will control 55 seats in the 100member 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 the opposition. The Democrats can still avail themselves of the filibuster, which was very effective in blocking the approval of several judicial nominees during Bush’s first term. Moreover, there are a handful of independent-minded Republican senators who have

Comment & Analysis

1-Dec-2004 • Page 11

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made clear that they have no intention of marching in lock step with the White House and their party leadership. Nor can the majority of the Republican congressional delegation be treated as a monolith that is prepared to do the president’s bidding. During the lame-duck congressional session held in the immediate post-election period, a bill to reorganize the intelligence apparatus along lines recommended by the 9/11 Commission, which presumably is backed by the president, was shelved in the House of Representatives after two powerful, conservative committee chairman objected. Thus, the measure was not approved, despite having sufficient bipartisan support to have ensured easy passage. Such incidents indicate that the president will have to face down the various factions within 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 to butting heads with the Republican right wing. That said, except in the case of a complete breakdown of discipline on the Republican side, President Bush will be able to win approval 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 “moral values” on the outcome. According to exit polls, 22% of voters cited this factor as key to their choice of candidate, and some 80% of those who voted on that basis cast their ballot for Bush. As the other choices included such matters as the economy, Social Security, and the war in Iraq, issues on which values presumably do not come into play, the clear implication was 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 war” supposedly taking place in the US. It followed, then, that it was the Democratic Party’s stand on these issues that cost them the election. This perception was reinforced by the fact that referendums on measures to ban gay marriage (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 Bush won nine of them (including Ohio), and in one of the other two, Michigan, the Republicans made it a much closer race than had been anticipated. But while many pollsters and pundits have emphasized the impact of cultural issues on the election results—some went so far as to call the 2004 election “a referendum on values”—the Bush administration has been largely silent on such matters since its victory.

Page 12 • 1-Dec-2004

Comment & Analysis

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1-Dec-2004

United States Country Forecast
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In listing the purchases he intended to make with his new political capital, the president made no mention of abortion, stem-cell research, gay marriage, or prayer in public schools. In fact, the impact of the cultural issues on the election results was not nearly as great as it might appear at first glance. Of the nine referendum states won by Bush, eight had been expected to go to the president in any case, and the ninth, Ohio, had for months been deemed too close to call. The two states holding referendums that had been assumed to be safe for the Democrats, Oregon and Michigan, both remained in the opposition column. As such, the referendums had no verifiable impact on the total electoral votes—which determine the winner—received by either candidate. It is worth noting that the Bush campaign assumed that would be the case. The president’s top adviser, Karl Rove, frankly admitted that whatever emphasis the campaign placed on “moral” issues was designed to energize the Republican Party base, rather than persuade uncommitted voters. The hope was that this strategy would inflate Bush’s totals in Republican strongholds, thereby guarding against a repeat of the situation in 2000, when the president won a majority of votes in the electoral college, but trailed the defeated Democratic 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 administration’s most lasting legacy—the shaping of the Supreme Court that will determine 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 on both sides was that a victorious Bush would move to satisfy his conservative Christian base by nominating like-minded individuals to fill the vacancies that are expected to be opened by the expected retirement of Chief Justice William Rehnquist, and Justices Sandra Day O’Connor and John Paul Stevens within the next four years. The key appointment will be that to replace Stevens, whose departure will leave just three clearly liberal judges on the nine-member Court. The hope of conservatives, and the fear of liberals, is that the establishment of a conservative majority on the Supreme Court will have its most direct impact on cultural issues. Beyond leading to the rapid overturning of Roe v. Wade, the 1973 ruling that recognized a woman’s constitutional right to choose abortion, a conservative Court will presumably throw up an insurmountable judicial obstacle to other pet liberal social causes, such as same-sex marriage and the legalization of marijuana for medicinal uses,

Comment & Analysis

1-Dec-2004 • Page 13

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United States Country Forecast
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while opening the way for key items on the conservative Christian agenda, such as the reintroduction of prayer in public schools. All of the talk of “moral values” has reinforced this view, to the extent that the impact of the composition of the Supreme Court on the future of Roe v. Wade has given rise to the first political controversy of the post-election period. Shortly after the election, Pennsylvania Sen. Arlen Specter, a moderate Republican who by the rules of seniority is due to take over as chairman of the Senate Judiciary Committee, issued a warning to the White House that it should think twice about sending forward any nominees for the bench who support the overturning of Roe v. Wade. Specter immediately found himself at the center of a political firestorm, with Christian groups calling 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 his promotion. 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 nominees’ positions on abortion as a litmus test for approving the White House’s judicial appointments. Amid the brouhaha, which provided the president with a perfect opportunity to take a firm stand on the side of cultural conservatism, the administration remained silent. Similarly, when asked about his standards for choosing nominees to the Supreme Court during his post-election press conference, the president side-stepped the question completely, citing the fact that there currently were no vacancies on the bench. Bush’s reticence becomes quite understandable when viewed in the light of what his administration truly hopes to accomplish as it sets about reshaping the Supreme Court. The future Court’s position on issues such as abortion, gay marriage, and school prayer is far less important to President Bush than its role in setting the boundaries for the authority of the federal government in broad terms. His judicial agenda for the next four years is nothing less than laying the ground for the complete dismantling of the liberal state apparatus erected in the 1930s under Franklin Delano Roosevelt’s New Deal and expanded 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 actual incidence of abortion than might be assumed, as the handling of the issue would be left to the individual states, a majority of which would probably choose to uphold women’s access to abortion services. Moreover, it could create potential political headaches for the Republicans, in that it would undoubtedly alienate many of the women voters that the party has worked so assiduously to attract over the past decade.

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Comment & Analysis

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1-Dec-2004

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For those reasons, the Bush administration would be more than willing to let Roe v. Wade stand, if in the bargain they secured the approval of justices who favor the application of what 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 authority over the affairs of the individual states. The restoration of the constitution in exile would effectively eliminate (or, at the very least, sharply limit) the role for the federal government in such matters as employee rights in the workplace, affirmative action rules for women and minorities, environmental regulations, and a host of other issues that have historically been the meat and bones of the Democratic Party’s agenda. That would be good news for business investors, but could spell disaster for the Democrats. The Bush administration is setting a trap for Democratic lawmakers, who are in 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 greater threat to both the broader causes they support and their hopes of reclaiming power on their own terms. Should they fall into that trap, they may be too busy slapping each other on the back for successfully (and probably only temporarily) protecting Roe v. Wade to realize that they have actually consigned themselves to a generation in the political wilderness. Old Wine in New Bottles When Bush is sworn in for the second time on January 20, 2005, the government over which 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 immediate post-election period was marked by a slew of resignations. By late November, no less than six Cabinet officials had announced their plans to pursue other activities. These included Attorney-General John Ashcroft, Agriculture Secretary Ann Veneman, Commerce Secretary Donald Evans, Education Secretary Rod Paige, Energy Secretary Spencer Abraham, and, most significant, Secretary of State Colin Powell. Others likely to follow suit before the beginning of Bush’s 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 current Cabinet who is expected to stay on is Defense Secretary Donald Rumsfeld, although it is widely speculated that he too will bow out early in the second term, staying only long enough 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 their resignations, Bush has shown a marked preference for known quantities. His nominee

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for attorney-general is Alberto Gonzales, the chief White House counsel who gained notoriety for authoring a memo arguing the legality of torture in the interrogation of “enemy combatants” detained by the US. Taking over at the Department of Education will be Margaret Spellings, currently Bush’s domestic policy adviser. But the most talked about choice so far is that of Condoleezza Rice, currently Bush’s National Security Adviser (NSA), to succeed Powell at the State Department. The promotion of Rice to the Cabinet sends a clear message that Bush prizes loyalty over diversity of opinion, and wants someone who supports the current course of US diplomacy, rather than a dissenting voice that might have a moderating effect on the implementation of foreign policy. Simply put, Rice is an ideal choice for those who believe that the Bush administration’s current foreign policy is on the right track, while critics of that policy probably could not think of a more unacceptable alterative to fill the post. Bush’s choice of Cabinet nominees so far indicate that he intends to give the American people exactly what Kerry said Bush’s re-election would bring: more of the same. But given the fact that Bush won the election with a clear majority, that is presumably what the American people (or most of them, anyway) desire. Only time, and the 2006 midterm 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 a growing chorus of warnings that the twin budget and current account deficits—which amounted to 3.6% and 4.8% of GDP, respectively, in 2003, and have only widened since— are 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 annual growth on track to come in at 4% or better, the president and his advisers appear to see no reason to change course in any significant way. Key economic proposals unveiled by the administration so far include the plan to partially privatize Social Security and a revision of the complicated tax system—both of which will ostensibly have a neutral impact on the fiscal balance—and a continuing push to make Bush’s first-term tax cuts permanent, a move that can hardly be expected to contribute to a narrowing of the fiscal deficit. As for the gaping current account deficit, which requires an inflow of foreign investment at the rate of nearly $2 billion per day, Federal Reserve Chairman Alan Greenspan announced (with unusual bluntness) in mid-November that the shortfall is not

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sustainable. That statement understandably fed speculation in the currency markets that the Bush administration will not take action to strengthen the dollar, which would tend to widen 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 $1.31 against the euro. Both President Bush and Treasury Secretary Snow responded by stating their preference for a strong dollar, but neither provided any indication of what actions might be taken to produce that result. The EU has called upon the US to engage in a multilateral effort to boost the dollar’s value, a proposal that officials in Washington have flatly rejected. For the time being, the US is pinning most of its hopes for containing the current account deficit on convincing China to allow its currency to appreciate against the dollar. Unfortunately, officials in Beijing 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 US market, and the huge imbalances in the external accounts will persist. In fact, one analysis of US trade relations revealed that the fall of the dollar by another 30% against the currencies of other major trading partners would still leave the current account deficit above 4% of GDP if the renminbi’s peg to the dollar is maintained. During the campaign, President Bush rejected criticism of his government’s unilateralist approach to foreign policy, and repeatedly criticized his opponent for his apparent willingness to let outside forces (principally, the UN) determine the course of US diplomatic efforts. He appears to believe that cooperating with the European and Japanese 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 the mercy of the Chinese, who are far less inclined than the Europeans to see their own interests as inseparable from what is good for the US. It remains to be seen what economic 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 the works, as the administration has been playing things by ear since the fall of Baghdad in April 2003. That said, the government has announced that more US troops are to be committed to fight the insurgency, and the Bush administration insists that elections will go ahead as scheduled in Iraq in January 2005, regardless of the state of affairs within the country. In

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addition, as already mentioned, Defense Secretary Rumsfeld, the chief architect of postwar strategy thus far, will continue to play a dominant role in overseeing US actions in Iraq for the foreseeable future. This could yet turn out to be the Achilles heel of the administration. Despite Bush’s victory, a clear majority of Americans are dissatisfied with the government’s handling of the situation in Iraq, and the death toll for US soldiers is rising (and is likely to continue to do so over the next two months) as military forces move to pacify centers of insurgent activity in preparation for the elections. In the absence of tangible progress that points the way to a US exit from Iraq, domestic opposition to the war is likely to take more overt forms. The Bush administration is banking on successful elections to offer reassurance to an increasingly skeptical US population. 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 the polls. In addition, both Sunni and Kurdish leaders have warned of substantial future difficulties if representatives of the majority Shiite population emerge as the dominant force in the new political structure (as they almost certainly will) and use their influence to thwart the aspirations of minority groups. Thus, there is a high probability that the elections will either be held under conditions that raise immediate doubts about the legitimacy of the results (such as a boycott, or widespread violence that leads to a low turnout), or will produce a result (i.e., a Shiite majority) that leaves the Sunni and Kurdish populations disinclined to participate fully in the post-election political process unless granted substantial concessions. In the worstcase scenario, disaffected groups currently cooperating in the democratic transition might decide 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 can hardly be characterized as united, and their majority support is likely to be distributed among several different factions and parties that may find it difficult to work with one another. But the idea that one or several Shiite groups might alternatively ally themselves 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 solid foundation for stable, democratic governance is difficult to say, not least because the Bush administration does not seem to have reconciled itself to the possibility of such an outcome. But with several members of the so-called “coalition of the willing” preparing to withdraw their own forces in the aftermath of the scheduled elections, it is a virtual certainty that the US will be required to take on additional responsibility if conditions in Iraq do not begin to stabilize in the near future. It is unclear that the American people will be prepared to stand behind the president under those circumstances.

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United States
Country Forecast
Forecast Scenarios
SUMMARY OF 18-MONTH FORECAST REGIMES & PROBABILITIES Republican Majority 80% Divided Government 15% Bipartisan Majority 5%

SUMMARY OF FIVE-YEAR FORECAST Republican Majority 60% Divided Government 30% Democratic Majority 10%

REGIMES & PROBABILITIES

MOST LIKELY REGIME SCENARIO 18-Month Forecast Period: Republican Majority (80% Probability) Five-Year Forecast Period: Republican Majority (60% Probability)
Republican Majority 2004 2005-2009 Growth (%) 4.0 3.0 Inflation (%) 2.8 2.7 CACC ($bn) -650.00 -570.00

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 at least the next two years. Although the incumbent party frequently sustains losses at the mid-term congressional elections, which are scheduled for November 2006, the opposition Democrats are currently in a state of disarray, and have little chance of regrouping in time to significantly erode the Republicans’ congressional advantage before 2008. The Republicans will become more vulnerable in 2008, not only because the Democrats will have had more time to build consensus behind a coherent agenda, but also because health issues preclude the participation of Vice President Dick Cheney in the campaign. It is possible that the Republicans will seek to replace Cheney before the end of Bush’s second term, in order to position a strong candidate in the vice presidency ahead of the next presidential contest. In that case, the Republicans’ chances of maintaining 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 emergence of a Republican majority regime. Although the administration was forced to compromise Forecast Scenarios 1-Dec-2004 • Page 19

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on additional tax cuts included in the 2003/2004 budget, legislators are unlikely to allow the tax breaks to expire (as agreed) over the next several years, and the long-term impact will 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 will tort reform, another of President Bush’s pet issues. Although he enjoys a strong congressional majority, the president is likely to encounter bipartisan opposition to some of his administration’s more controversial business-friendly proposals. However, the general trend is expected to be in the direction of a more hospitable environment for business as long as the Republicans maintain their congressional majority and control the presidency. The administration has already won approval of landmark reform in Medicare, the stateadministered health care system, and some post-election efforts will be made to reform the under-funded Social Security system. Plans to at least partially privatize the public pension system will be fiercely resisted by congressional Democrats and public interest groups, but should win enough support within the Republican ranks to gain approval of revisions to the system. The most lasting impact of the second Bush administration may well be the president’s likely appointment of three (and possibly even four) new justices to the nine-member Supreme Court over the next four years. President Bush’s short-list is believed to include several proponents of the so-called “constitution in exile,” which sets strict limits on the exercise of federal authority in the affairs of individual states. The emergence of a conservative majority on the Supreme Court may have a significant long-term impact on the flexibility of the executive and legislative branches to force states to impose restrictions on business operations, reducing the policy-related risks to foreign business regardless of which party holds power. Strong Support for Free Trade The Republicans’ dominant position and Bush’s re-election will provide the administration with the opportunity to press ahead with multilateral and bilateral trade negotiations with fewer impediments, thus raising the prospects for improved international trade opportunities over the forecast period. The recent signing of free trade agreements with Chile and a bloc of five Central American countries, which constitute significant progress toward the administration’s goal of creating a Free Trade Area of the Americas (FTAA), reflect the continued emphasis on free trade. In this regard, it is noteworthy that Sen. Charles Grassley (an advocate of free trade) will continue as chair of the Senate Finance Committee, giving him control over the

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operations of the Congressional Oversight Committee created under the trade promotion authority (TPA) legislation approved by the Congress in July 2002. Despite the favorable impact of such institutional changes, the goal of establishing a hemispheric customs union by 2005 increasingly looks to be out of reach. In the meantime, the administration will continue to conclude bilateral and regional trade agreements with the countries of Latin American in order to build momentum for a broader accord and divide potential sources of opposition. Prospects for the conclusion of the FTAA will improve considerably beyond the middle of the forecast period as existing subsidies and other barriers to agricultural, steel, and citrus fruits imports are dismantled. Bush’s re-election in 2004 will place him in a more comfortable position to move 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 the weakening dollar, which has endangered the EU’s economic recovery by putting European exports at a competitive disadvantage. But Federal Reserve Board Chairman Alan Greenspan has warned that the huge current account deficit of the US has reached an unsustainable level, and the government is likely to favor a weak dollar in the interest of boosting exports. Some members of Congress have threatened to put forward a measure to impose retaliatory tariffs on goods from China if Beijing does not abandon its policy of artificially under-valuing its own currency, but the Bush administration is unlikely to support any measure that might provoke precipitous actions from the Chinese, who have the power to touch off a currency crisis in the US were they to make any drastic moves. Threat of Further Terrorist Attacks Political disruptions are rare, and politically inspired work stoppages have long been abandoned. The only recent large-scale politically motivated disturbances have surrounded meetings of the WTO, IMF, and other international economic institutions. International and domestic activists opposed to the policies of these organizations can be expected 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 the point of disturbing business operations or threatening political stability. As horrifyingly demonstrated by the September 2001 terrorist attacks in New York and Washington, extremist enemies of the US government can cause significant destruction, massive casualties, and substantial disruption of business. That said, the attacks apparently took several years to implement, and the heightened alert of the country’s

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security apparatus since those attacks decreases the risk that planned terrorist acts will be carried out successfully. Nevertheless, officials continue to warn that further terrorist strikes 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 on US property and personnel both at home and abroad. Significantly, local government administrators complained that the terrorist alert system introduced by the Department of Homeland Security is inefficient and too expensive to implement. In light of the ballooning budget deficit, municipal and local officials are likely to face cuts in their own budgets that will make them inclined to cut corners on security. 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 Congress should make for smoother and more efficient policy implementation. While there will undoubtedly be some disagreements between Congressional Republicans and the White House, by and large a coherent and coordinated economic policy can be expected from this government. Bush’s ability to win relatively rapid passage of most of his preferred measures will provide some stimulus to increased business investment and will help to sustain relatively healthy levels of consumer spending, reducing the dangers of recession in the short term. Real GDP growth is forecast to accelerate to 4% in 2004. Economic prospects beyond 2004 have 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 been revised 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 the government pushes ahead with plans to make recent tax cuts permanent. The large deficits will heighten concerns within the investment community, and the government will 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 real GDP growth is forecast to average 3% per year through 2009. Concerns about a potential deflationary spiral have eased, as inflation rose to 2.3% in 2003. 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 February 2005. 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 are forecast to increase by 2.8% in 2004. The tightening of fiscal and monetary policy beyond 2004, combined with the expected moderation of growth rates, will help to contain inflation, which will register 2.7% per year on average over the five-year forecast period.

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The Bush administration’s budget for 2004/2005, unveiled in February 2004, focuses much attention on making previous tax cuts, including a particularly controversial elimination 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 the budget deficit. The non-partisan Congressional Budget Office (CBO) has estimated that the administration’s fiscal plan would result in a cumulative deficit of $2.75 trillion over the decade ending in 2014, with $1.3 trillion of that figure reflecting the loss of revenue resulting from the tax cuts. As a result, even the president’s congressional supporters have suggested that the best he can hope for in the short term is making permanent those tax cuts that are due to expire in 2004/2005. The administration has promised to reduce the deficit by holding down discretionary spending. But critics charge that spending increases already promised by the administration, including those related to the prescription drug benefit provided under Bush’s Medicare reform, in combination with further tax cuts, will make it impossible for the government to reach that goal within the specified time frame. Most estimates project large deficits at least through the end of the current decade as revenues generated by the economic recovery fail to offset the losses stemming from the government’s generous tax cuts. However, the administration continues to insist that growth will be sufficient to neutralize the impact of the tax cuts on revenue levels. The current account deficit expanded significantly once again in 2003, reflecting a large widening of the trade shortfall, as a weaker dollar helped to boost exports but also increased 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 previously recorded at times when the economy was recovering from a recession. Consequently, no changes in policy, particularly with regard to the dollar, have been made 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 currency stability and contribute to relatively healthy domestic demand, keeping the current account deficit high at an annual average of $570 billion through 2009. SECOND MOST LIKELY REGIME SCENARIO 18-Month Forecast Period Divided Government (15% Probability) Five-Year Forecast Period Divided Government (30% Probability)
Divided Government 2004 2005-2009 Growth (%) 3.8 2.5 Inflation (%) 3.0 2.2 CACC ($bn) -630.00 -500.00

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

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the party’s congressional leadership, and actively sought to thwart the White House’s legislative agenda. This is highly unlikely, not only owing to the significant leverage that the 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 be achieved. A division of legislative and executive power between the Republicans and the Democrats would be more likely in the aftermath of the 2006 elections, and even more so after 2008, when the next presidential election is to be held. Historically, dominance of both the executive and legislative branches of government by one party has proved shortlived, as voters have shown a clear preference for a division of power between the two main parties. Despite their problems, the Democrats might regain control of at least one of 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 of a divided government would give rise to an increasingly tense political climate in which opposing sides were ill disposed to compromise. Such a partisan standoff would deter any substantive policy initiatives, causing some deterioration in the climate for business. The conflict between presidential and congressional initiatives would lead to uncertainty in 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 can influence policy by exercising their substantial authority over the massive administrative machinery of the executive branch. Accordingly, either Bush or a Democratic president elected in 2008 would be able to accomplish some of his goals regardless of his formal legislative success. He could make hundreds of appointments to key positions and influence 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 by strains stemming from the Bush administration’s pursuit of the war on terrorism. A sharp increase in the fiscal and current account deficits could undermine already uncertain confidence, contributing to a further weakening of the dollar and restrained consumer spending, which accounts for approximately two-thirds of economic growth. The economic troubles present when a divided government emerged would be

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prolonged by persistent wrangling over policies. Real GDP growth would average just 2.5% annually through 2009. The slower than anticipated pace of the economic revival would reduce the risk of worrisome inflation, although increased government spending and rises in prices for essential imported goods such as fuel would push inflation up to 3% in 2004. The sluggish pace of economic growth would diminish the likelihood that increased activity might generate higher revenues that would offset the losses from tax cuts. Persistent worrisome 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 $500 billion annually through 2009, as a weaker dollar provided a boost to exports and reinforced the weak demand for imports stemming from the prolonged sluggish performance of the economy. THIRD MOST LIKELY REGIME SCENARIO 18-Month Forecast Period: Bipartisan Majority (5% Probability) Five-Year Forecast Period: Democratic Majority (10% Probability)
Democratic Majority 2004 2005-2009 Growth (%) 3.1 2.2 Inflation (%) 2.4 3.2 CACC ($bn) -665.00 -480.00

Although extremely unlikely, it is nevertheless possible that President Bush could lose the support of the right-wing faction of his own party, and find himself with no choice but to turn to centrist Democrats to win approval of his policies. The result would be a softening of some of his most controversial initiatives. The chief obstacle to such a development is the improbability that the president would adopt such a tough stance in opposition to the Republican right-wing as to force its members into revolt. Nearly as improbable is the emergence of a Democratic majority (controlling both the presidency 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 political balance of power in such a short period of time would of necessity require a devastating setback for the economic recovery or a catastrophic failure for the Bush administration on the foreign policy front, or both. Even then, the Democrats would have difficulty taking advantage of the Republicans’ troubles unless they had managed to reach an internal consensus on which direction to take the party. Their ability to achieve such unity of vision is seriously in doubt. Forecast Scenarios 1-Dec-2004 • Page 25

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Sharp Turn in Policy Direction The resurgence of Democratic influence, particularly in a climate of political or economic crisis, would lead to significant alterations in policy. The Democrats would most likely be returned to power on the strength of an at least moderately populist platform, including pledges to shift a greater part of the tax burden to the wealthiest Americans and a retreat from the free-trade policies favored by the Bush administration. A Democratic regime would also move to restore and expand the regulatory framework for businesses, particularly in the areas of health, safety, and the environment, and would increase expenditures to ensure enforcement. The fiscal deficit would continue to expand, as political leaders moved to make good on promises to cut taxes on the middle class, while studiously avoiding any tinkering with expensive spending programs (especially those aimed 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 least moderate measures to alleviate social distress, this regime would not be expected to encounter significantly more turmoil than would be the case under any of the alternative scenarios. 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 a weak economy. The move toward policies favored by the Democrats would likely result in increased taxes on business and more extensive government regulation, both of which would retard investment, holding real GDP growth to an average of 2.2% annually through 2009. Inflation would rise to average 3.2% annually over the same period. The current account deficit would average $480 billion annually through 2009. Less friendly attitudes toward free trade and a somewhat more sluggish economy would be reflected in slower growth of imports that would contribute to a narrowing of the trade gap and smaller current account deficits. Investment would slow in reaction to the uncertain climate produced by the troublesome shifts in policy.

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Forecast Summary
SUMMARY OF 18-MONTH FORECAST Republican Majority 80% Same Same SLIGHTLY LESS SLIGHTLY LESS Same Same Same SLIGHTLY LESS Same SLIGHTLY MORE SLIGHTLY MORE SLIGHTLY MORE Divided Government 15% SLIGHTLY MORE Same Same Same Same Same Same Same Same Same SLIGHTLY MORE SLIGHTLY MORE Bipartisan Majority 5% Same Same Same Same Same Same SLIGHTLY MORE Same Same SLIGHTLY MORE SLIGHTLY MORE SLIGHTLY MORE

REGIMES & PROBABILITIES RISK FACTORS CURRENT Turmoil Investment Equity Operations Taxation Repatriation Exchange Trade Tariffs Other Barriers Payment Delays Economic Policy Expansion Labor Costs Foreign Debt High Moderate Moderate Low Moderate Low Low Moderate Low Low Low Low

SUMMARY OF FIVE-YEAR FORECAST Republican Majority 60% Same Same SLIGHTLY LESS Same Same Divided Government 30% Same Same Same SLIGHTLY MORE Same Democratic Majority 10% Same Same Same SLIGHTLY MORE Same

REGIMES & PROBABILITIES RISK FACTORS BASE Turmoil Restrictions Investment Trade Economic Problems Domestic International Moderate High Low Low Low

* When present, indicates forecast of a new regime

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U nited S tates R eal G D P G row th U nder Alternative R eg im es
R epublican M ajority D ivided G overnm ent D em ocratic M ajority

4.5 4.0 3.5 (percent) 3.0 2.5 2.0 1.5 1.0 0.5 1999

2000

2001

2002

2003e

2004f

20052009f

U nited S tates Inflation U nder A lternative R eg im es
R epublican M ajority D ivided G overnm ent D em ocratic M ajority

3.4 3.2 3.0 (percent) 2.8 2.6 2.4 2.2 2.0 1.8 1.6 1999 2000 2001 2002 2003e 2004f 20052009f

U nited S tates C urrent Account U nder Alternative R eg im es
R epublican M ajority D ivided G overnm ent D em ocratic M ajority

-250.0 -300.0 -350.0 ($billions) -400.0 -450.0 -500.0 -550.0 -600.0 -650.0 -700.0 1999

2000

2001

2002

2003e

2004f

20052009f

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United States
Country Forecast
Political Framework
Players To Watch
George W. Bush: While control of the legislature will enhance the president’s ability to pursue his preferred policy objectives during his second term, including additional tax cuts and the easing of regulations on business operations, he will need to face down the Republican Party’s right wing on several key issues. Moreover, the continued potential for the emergence of divisions over the administration’s handling of post-war reconstruction in Iraq and a ballooning fiscal deficit that poses a threat to the sustainability of the economic recovery could pose obstacles to the smooth implementation of his policy agenda… Republican Party: Although the president’s party expanded its majorities in the Senate and the lower house of Congress at the November 2004 elections, moderate Republicans have shown a willingness to stake out an independent position on several important economic and social policy issues, particularly with regard to deficits and the national debt. President Bush will have to balance the interests of his party’s moderates and right wing, pointing to periodic difficulties in his administration’s 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 the president appoints the FRB’s members, once in office they operate with statutory independence from the direct influence of either the president or Congress… Democratic Party: The Democrats will need to regroup after a devastating defeat in the 2004 presidential and legislative elections. In the meantime, although the party’s minority status in both houses of Congress limits its members’ ability to influence the direction of policy, as long as the Democrats are able to maintain broad unity, the opposition will be able to forge alliances with moderate and liberal Republicans to block President Bush’s more controversial measures… Condoleezza Rice: Currently holding the post of national security adviser, Rice has been named to replace Colin Powell as secretary of state in the next administration. A loyal ally of the president and a staunch supporter of Bush’s Iraqi policy, her promotion indicates that there will be no significant new departures in foreign policy during the second term…
…more on these and other Players in the Political Players section

Political Framework

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POLITICAL PLAYERS George W. Bush (President) Despite sharply divided opinion over his administration’s handling of the war in Iraq and lingering doubts about the sustainability of the economic recovery, the president managed to avoid meeting the same fate as his father, George H. W. Bush, who failed to win re-election in 1992, by holding off a challenge from Democratic Party candidate John Kerry to win a second term at the November 2004 presidential election with 51% of the popular vote. Benefiting from the expanded congressional majority won by his Republican Party in simultaneously held legislative elections, Bush has pledged to move forward with plans to reform the public pension system, revise the tax code, and reduce the 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 was educated in history at Yale University (1968) and received an M.B.A. from Harvard Business School (1975). In 1977, soon after graduating from Harvard, Bush formed his own oil business, Arbusto (“bush” in Spanish) Corporation, for which he researched and negotiated leases and funding to drill for oil. In 1978, Bush ran unsuccessfully for a Texas congressional seat. In 1989, he became the managing general partner of the Texas Rangers baseball franchise, serving until 1994. Following his unsuccessful bid for Congress, Bush distanced himself from his father politically until he became President Bush’s campaign aide (1987–1992). In 1994, he developed a new taste for politics and ran for 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 international experience. His statements on foreign affairs during the 2000 campaign gave little indication of his foreign policy inclinations other than expressing general support for free trade, and suggesting that the US should be less inclined to involve itself in foreign disputes. Ironically, it is in the realm of foreign affairs, through his leadership of the process of building an international coalition to wage the war on terrorism, that he has reduced doubts about his presidential qualities. However, his administration’s pursuit of regime change in Iraq fueled tensions within both the UN and NATO, raising concerns that both international organizations could be hobbled by the refusal of the US to seek consensus on its foreign policy initiatives. Bush’s economic views are based on the conviction that entrepreneurship and initiative must 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

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stimulate economic growth. While professing support for a balanced budget amendment to the constitution, his administration has overseen a massive reversal of the fiscal accounts, 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 job training, arguing that the stimulus to the economy from such moves will generate higher revenues sufficient to offset losses of income from tax reforms. Bush’s popularity rating fell steadily following the end of major combat in Iraq, owing to the failure of the economic recovery to promote significant job creation, continued hostilities in Iraq (with a consequent rise in American casualties), and some questions about the truthfulness of the case made by the administration for the war. Nevertheless, Kerry’s inability to convince voters that he would do a better job than Bush in safeguarding the country from further terrorist attacks, as well as doubts about his decisiveness in general, prevented him from fully exploiting Bush’s vulnerability. Richard Bruce Cheney (Vice President) Bush’s selection of Cheney, a former congressman and defense secretary, as his vice presidential running mate in 2000 came as a surprise, but was generally welcomed by the candidate’s supporters. During the transition period and the early months of his presidency, Bush relied heavily on Cheney for advice. He also assigned Cheney to take the lead in a wide range of his administration’s policy initiatives, including energy and protection against terrorism. In fact, Cheney’s role has been so substantial that many of the president’s critics contend that it is he, and not Bush, who really calls the shots in the White House. Bush’s obvious dependence on the vice president, as reflected by his insistence that he and Cheney give joint testimony to the 9/11 Commission investigating the events leading up to the September 2001 terrorist attacks, has merely served to reinforce such suspicions. Even so, there is a fairly good chance that Cheney will be replaced before the completion of Bush’s second term. The vice presidency is generally viewed to be a launching pad for the presidency, but owing to health issues, there is no chance that Cheney will seek the nomination of the Republican Party in 2008. Consequently, the Republicans will no doubt 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 of Wyoming, receiving a master’s degree in political science in 1966. He also attended or did 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. His political career began with various posts in the White House during the administrations

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of Richard Nixon and Gerald Ford (1969–1975), culminating in his service as Ford’s chief of staff (1975–1977). Cheney then served as congressman from Wyoming (1978–1989), 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. When George Bush, Sr., became president, Cheney was appointed to his Cabinet as secretary of defense (1989–1993). When Bush left office, Cheney returned to the private sector, becoming the CEO (1995–2000) of Halliburton Corporation in Dallas, Texas, a major engineering and construction company serving the oil industry. Cheney has come under fire since becoming vice president over his ties to business executives, a particularly sensitive issue in light of a series of corporate scandals and business collapses that occurred early in Bush’s first term. Congressional Democrats have tried, 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 task force to develop the government’s energy policies. In addition, groups representing Halliburton stockholders have filed suit against Cheney, accusing the company of using creative accounting to inflate profits. Cheney has played a more public role than any vice president in recent memory, and in particularly has served as needed as the administration’s official flak-catcher. His cheerleading knows no bounds, as was reflected during the 2004 campaign, when he continued to assert that Iraq possessed weapons of mass destruction and that Saddam Hussein was directly linked to Al Qaeda, despite broad acceptance in virtually all quarters that both claims had no basis in fact. Democratic Party As a result of the 2004 congressional elections, the Democrats have been pushed solidly into the minority in both the Senate and the House of Representatives, where they will control just 44% and 47% of the seats, respectively, when the new Congress convenes in January 2005. The losses suffered in the recent presidential and legislative elections have already brought renewed calls for the party to change direction, but there are sharp differences of opinion as to which course the party should take. It appears former Vermont 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 party’s presidential nomination in 2008, who favors maintaining the centrist posture established by her husband, former President Bill Clinton, in the 1990s. Whatever the outcome of that struggle, the Democrats have little hope of reclaiming even a small share of political power until 2008, at the very earliest.

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The Democratic Party took its name in 1828 after a split in the Democratic-Republican Party. Counting on a base constituency among minorities, low-income whites, and white social activists, the Democrats dominated politics between 1932 and 1968 and remained the leading influence in Congress until 1994, when the Republicans took control of both houses. After losing five of the previous six presidential races, the Democrats regained the White House when Bill Clinton won the first of two terms in 1992. In the 1994 congressional elections, held in the middle of Clinton’s first term, the common pattern of legislative losses by the party controlling the presidency led to the Democrats relinquishing 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 congressional elections substantially eased political pressure on Clinton, but he still lacked the legislative 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 2001–2002, made possible by the defection of Vermont Sen. James Jeffords, enabled the party to block several of President Bush’s more conservative policy initiatives. Although the Democrats have pledged to continue that fight, the losses suffered in 2002 and 2004 have left the party dependent upon winning support from moderate Republicans if they hope to put up an effective resistance to the president’s 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. An increasing number provide financial support to both parties so that they can retain their influence no matter which party wins a given election. In any event, the check on presidential power offered by their close ties and financial support to sympathetic members of key congressional committees gives them significant political influence on government policies affecting their interests, regardless of which party controls the presidency. Business leaders generally approve of the Republican emphasis on lower taxes and fewer regulations. Nonetheless, diverse political views on a variety of issues divide the business community. Parts of the communications, entertainment, and fashion industries, and some high technology firms show an affinity for the Democratic Party. Republicans frequently manage traditional industries, such as energy, manufacturing, and agriculture, and they face trade union leaders, who are traditionally Democratic supporters. Those employed in multinational corporations, as well as those in the aerospace and defense industries, tend to focus on an international outlook rather than showing favoritism

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for either the Republicans or the Democrats. The financial community likewise tends to be pragmatic. The major banks, which have international debt exposure, worked with leftwing Democrats to prevent moves toward isolationist tendencies. A number of major business leaders have become individually important in Republican fundraising efforts, employing a strategy known as bundling. This financing method, which has been used for some time but is likely to become more important under new campaign financing rules, involves the collection of contributions from a number of individuals that are then donated to the party of choice in one lump sum. The Republicans reward successful “bundlers” with perks—notably, improved access to top officials—just as if they had contributed all of the money themselves. This provides an incentive for business leaders to establish campaigns within their companies to solicit bundled contributions from employees, business contacts, and clients. Business leaders who have been important to this Republican effort include executives from MBNA, the world’s largest credit card insurer, Ernst & Young, Merrill Lynch, Goldman Sachs, Pfizer, Coca-Cola, and the Southern Company among others. This strategy is also used by the Democrats, but to date nowhere near as successfully or as extensively as the Republicans. Federal Reserve Board (FRB) The FRB is the US central bank and is, by law, less politically accountable than any part of the government other than the Supreme Court. The FRB is only marginally responsive to pressure from the administration, Congress, and other sources. Board members, secure in their 14-year terms, must weigh the benefits of responding to political pressure against the risk of sacrificing credibility with the financial community. Congress founded the Federal Reserve System in 1913 to provide a safer, more flexible, and more stable monetary and financial system for the US. The FRB’s duties now include conducting US monetary policy, supervising and regulating banking institutions and protecting consumer credit rights, maintaining the stability of the financial system, and providing certain financial services to the US government, financial institutions, and foreign governmental organizations, as well as to US citizens. Alan Greenspan is the current chairman of the Federal Reserve Open Market Committee, the chief policy-making body of the FRB. The chairman since 1987, Greenspan gained significant prestige and influence as a result of the magnificent performance of the economy through much of the 1990s. His reputation became somewhat tarnished beginning in late 2000, as fears of a recession prompted criticism of his earlier tight monetary policy that included six consecutive increases in interest rates through May 2000. Although he won

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appointment to a fifth four-year term in June 2004, he is expected to retire when the current Board’s 14-year term ends on January 31, 2006. Labor Labor has long been a powerful economic and political force, although its membership and strength have declined steadily since the 1950s. In 1979, union membership stood at 24% of the total work force, but the figure at the beginning of 2001 stood at only 14%. Fallen to its lowest stature in decades, the labor movement still has the organizational funding and structure to exert significant influence in local, state, and national elections. During the 1990s, unions shifted their focus from wages to such issues as import competition. Major unions, as well as the management of steel, textile, clothing, and other import-sensitive sectors, lobbied for protectionist legislation. Even though close to 40% of union members are Republicans, the organizations almost invariably support and fund Democratic candidates. The heaviest concentrations of unions are those in federal, state, and local governments, including teachers’ unions. Recent campaign finance reform laws are likely to further reduce the political influence of organized labor as the new measures ban soft-money contributions from corporations and labor unions. Nevertheless, it is almost axiomatic that Democratic presidential candidates must court the support of organized labor in order to win their party’s nomination, even if the value of that endorsement has declined over time. The gradual shift in employment from the manufacturing sector to the largely nonunionized service sector contributed to the steady decline in union membership over the years. Nonetheless, strikes continue to affect business, as in a national strike against Verizon in 2000, undertaken by unionized workers in the traditional telecommunications sector seeking greater access to organize nonunion workers in the wireless area of the industry. Local strikes, such as a 2001 walkout by transportation workers in California, and by dockworkers on the Pacific coast in 2002, also have produced substantial business disruptions. Republican Party The Republican ascendancy that became apparent at the 2002 mid-term elections was confirmed in 2004, when the party held on to the White House, and expanded its majorities in both houses of Congress. When the new Congress convenes in January 2005, the Republicans will control 55 seats in the 100-member Senate and 231 seats in the 435member House of Representatives. The Republican Party (commonly known as the GOP, for “Grand Old Party”) claims a core constituency primarily among business executives, other wealthy voters, and many Political Framework 1-Dec-2004 • Page 35

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middle-class voters. From time to time, as in the 1990s, the Republicans drew more support among middle and working classes. Formed in 1854 in conjunction with the antislavery movement, the party’s first presidential candidate was John C. Fremont, and its first winning candidate was Abraham Lincoln. In 1994, the GOP gained control of both the House and Senate for the first time in 40 years. The mid-term congressional elections favored those in the conservative wing of the Republican Party, reflecting voters’ dissatisfaction with both President Clinton and his wife, Hillary, with liberalism, with the Democrats, and with the federal government in general. The elections gave the Republicans control of the legislative agenda, placed their members at the head of powerful legislative committees, and gave them the publicity through which they hoped to implement their right-wing platform, including a balanced budget and reductions in welfare. However, the Republicans’ ambitious plans were frustrated by disunity among their members and by shrewd maneuvering on the part of Clinton, who assumed many of their proposed initiatives as his own. As in the 1992 election, Clinton’s re-election in 1996 was aided by the presence of third-party candidate Ross Perot and by the uninspired campaigning of the Republican presidential nominee, Robert Dole. Nevertheless, Clinton’s victory failed to shift the power base of Congress. In the 2000 elections, despite winning the presidency by a razor-thin margin, the Republicans’ House majority fell to just nine seats. Although it initially held an advantage in the evenly divided Senate by virtue of Vice President Cheney’s tie-breaking vote, the desertion of one of its members in May 2001 put the party in the minority in the upper house. However, the Republicans regained their outright majority in the Senate at the 2002 mid-term elections. Condoleezza Rice A key player on President George W. Bush’s foreign policy team, Rice has taken a very public role in responding to critics of the administration’s handling of intelligence prior to the September 2001 terrorist attacks and the decision to invade Iraq in March 2003. In November 2004, President Bush named Rice as his choice to replace Colin Powell as secretary of state in his second administration. The promotion of Rice to the sensitive State Department post sends a clear signal that the president has no intention of significantly altering his foreign policy course, and indicates that he prefers loyalty among his lieutenants to the diversity of perspectives that Powell brought to the job. Rice was born on November 14, 1954 in Birmingham, Alabama. She received her bachelor's degree in political science from the University of Denver in 1974, and

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completed work for her master’s degree the following year at the University of Notre Dame. After receiving her Ph.D. from the Graduate School of International Studies at the University of Denver in 1981, she joined the faculty at Stanford University. She has served as provost of the university (1993–1999) and is a senior fellow of the Institute for International Studies. She served in the administration of President George H. W. Bush, holding the positions of director (and subsequently senior director) of the Bureau of Soviet and East European Affairs in the National Security Council (NSC) during 1989–1991, and also as special assistant to the president for national security affairs. In 2001, she joined the government of President George W. Bush, becoming the first woman ever to hold the position of National Security Adviser.

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United States
Country Conditions
Investment Climate
Overview
Openness to Foreign Investment
Founded on the principal of individual freedoms and having a legacy of democracy, free market policies, political stability, and economic strength, the US has become a highly desirable location for foreign investment. The US has a singular currency, no internal trade barriers, advanced communication networks, a highly modern infrastructure, and an effective distribution system. The major sources of foreign investments in the US include Japan, Canada, the United Kingdom, the Netherlands, and Germany. Although the climate for foreign investment in the US is progressive and most industries are open, foreign investment is disallowed in certain industries, including atomic energy enterprises, broadcasting, air and land transport, and shipping. The banking, finance, and insurance sectors are subject to state-by-state restrictions. Foreign investment is concentrated in the automotive, import, and energy sectors. As the world’s leading economy, the US is the primary market for foreign investors around the world, as well as being the largest international financier. Until 2000, the US enjoyed a record period of uninterrupted economic expansion. Its annual GDP, more than $10 trillion for 2001, represents about 20% of the world’s total production. Because the US is also the world’s largest trading nation and foreign investor, the state of its economy has ramifications around the world. Following a shallow recession in 1990–1991, the economy showed solid growth and low inflation until the fourth quarter of 2000, when clear signs of slowing began, and the US saw just 0.2% growth and did not begin to show signs of renewed vigor until early 2003.

Transparency of the Regulatory System
The US has a transparent regulatory system administered by a well-educated and seasoned bureaucracy at the federal, state, and local levels.

Bureaucratic Obstacles
The federal bureaucracy implements many regulations, including those related to environmental concerns and consumer protection. Businesses must also deal with state and local government policies and bureaucracies as well. State governments have considerable control over such areas as insurance, banking, labor relations, civil rights, employment law, and corporate taxation and chartering. Most large corporations concentrate their political activities at the state and local levels of government.

Capital Markets
Various stock exchanges comprise the US capital market. In addition to an “over-the counter” market, the two most significant are the New York Stock Exchange and the NASDAQ, the key specialty stock exchange, concentrating on high technology enterprises. Several smaller, regional exchanges are spread throughout the US. As the 21st Century began, more than 7,650 companies were listed on US exchanges.

Foreign/Free Trade Zones/Ports
There are 233 free trade zones located within the 50 US states and Puerto Rico. The US is pursuing new regional trade agreements, including the key item on its agenda, a Free Trade Agreement of the Americas,

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essentially making the Western Hemisphere (except Cuba) a free-trade zone. At the same time, the danger of a new trade war with the EU has loomed. The negotiations for an Americas agreement began in 1994 and aim to reach a conclusion by 2005. The US also seeks trade liberalization with Asian countries through the APEC, such as the agreement on information technology achieved in the late 1990s. Congressional approval in July 2002 of “fast-track” trade authority for President Bush gave renewed impetus to efforts to reach free-trade agreements, particularly with countries in Latin America.

Statistics
Net financial inflows for foreign direct investment in the United States stood at more than $321 billion in 2000, but dropped sharply to about $40 billion in 2002. In recent years, more than two-thirds of the inflows have originated in Europe, more than half from the UK alone.

Policies
Conversion and Transfer
No restrictions impede the flow of business funds. The dollar moves under a managed float system on foreign exchange markets, and the US has no exchange controls. Investors from countries having bilateral investment treaties with the US may transfer funds into and out of the country without delay using a market rate of exchange. This covers all transfers related to an investment, including interest, liquidation proceeds, repatriated profits and dividends, and financial infusions after an initial investment has been made. The only currencies the US Treasury restricts are those from countries on which the US government imposes economic sanctions, including Cuba, North Korea, Iraq, and to some extent Iran and Libya.

Performance Requirements
For foreign investors, the major incentives for investment within the US are the desire to have access to the largest consumer market in the world, the desire to avoid trade barriers, and the desire to gain access to technological benefits.

Legal Framework
The legal system is generally fair and honest. One serious weakness is its complexity. Cases may be heard before a sometimes-bewildering range of alternative local, state, and federal courts. Before the substance of a dispute can be litigated, it is sometimes necessary to resolve the knotty question of which court properly controls jurisdiction. The difficulty is compounded by the extraordinary inclination of Americans to rely on the courts to attempt to settle all manner of social and political issues, as well as to resolve commercial and civil disputes. As a result, all but the most serious cases are often delayed for years before they are even heard in court. Furthermore, the loser in any case can nearly always find other courts in which to appeal the decision. Furthermore, the contentious issues brought before the courts often reveal that the judges are as sharply divided as other political institutions. The tortuous involvement of the state and federal courts in the disorderly resolution of the 2000 presidential election was a dramatic, but not atypical, example of the weaknesses of the judicial system. The laws on copyrights, patents, and other intellectual property are thorough and are vigorously enforced. Although illegal copying and pirating are not unknown, the many large producers of films, videos, software, and other intellectual property exert a powerful influence in favor of protecting their work.

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Expropriation and Compensation
Investors from countries having bilateral investment treaties with the US are protected by international law from illegal acts of expropriation. Expropriation can only occur for a public purpose and must be nondiscriminatory, follow due process of law, and be accompanied by prompt, adequate, and effective compensation.

Dispute Settlement
The US has a transparent legal process within its judicial system. The US legal system includes commercial and bankruptcy laws and provides sufficient protection for secured interests in property. The US is a member of the New York Convention of 1958 on the Recognition and Enforcement of Foreign Arbitral Awards, and the US is a signatory of the International Center for the Settlement of Investment Disputes (ICSID). The US accepts binding international arbitration between foreign investors and the state. In regional trade, NAFTA encourages parties to settle disputes through consultation or negotiation and establishes special arbitration procedures for investment disputes separate from the NAFTA’s general dispute settlement provisions. Under NAFTA, disputes dealing with government monopolies and expropriation between a NAFTA government and an investor from NAFTA country may be settled (at the investor’s discretion), by binding international arbitration. An investor who seeks binding arbitration in such a dispute gives up his right to seek redress through the court system of the NAFTA party.

Right to Private Ownership and Establishment
The US has historically been hospitable to the rights of private ownership, but since the late 1980s, the issue of foreign direct investment, and particularly, foreign ownership of major US firms, has become a sensitive dilemma for US policy makers. Key issues in this area include the impact of foreign ownership of US firms on US trade performance; the development and transfer of technology; and the transfer of income outside the US by such firms, via transfer pricing practices.

Protection of Property Rights
The protection of intellectual property rights is an essential element of US economic foreign policy. The government is fundamentally committed to protecting intellectual property rights on goods and services in domestic and international markets. The owners of ideas, inventions, and creative expression have the right to exclude others from access to or use of their property. State law generally protects trade secrets. As a member of the World Intellectual Property Organization, the US respects international property rights. Laws concerning intellectual property rights cover: • • • • • • • Patents Trademarks Copyright Geographical Indications Industrial Design Plant Variety Layout-Designs (Topographies) of Integrated Circuits

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Environmental Issues
In addition to protections enacted by the federal government, state and local governments exercise broad powers in the areas of land use, environmental controls, and the disposal of hazardous wastes. Businesses engaging in operations having any potential effect on the physical environment must prepare detailed environmental impact statements. Firms must sometimes attempt to satisfy several local, state, or federal jurisdictions that may enforce varying, even conflicting, regulations.

Infrastructure
Much of the infrastructure is among the world’s best. Computer facilities and telecommunications are well developed, although the sophistication and spread of wireless telecommunication lag behind Europe’s. The road network is extensive and well maintained. The airline system covers nearly all the country; all major airports are served by a variety of airlines. Until the September 2001 attacks on the US, the growth of air travel had exceeded the capacity of the system, leading to delays, rescheduling, and even rerouting as a persistent feature of air travel; since then, these problems have declined significantly, although stepped-up security measures have added some delays in major markets. Train travel is poor, aside from a few select routes linking nearby major cities.

Political Violence
Political violence affecting international business is rare, but within the past decade terrorist attacks by Islamic extremists have affected foreign firms, including the 1993 and 2001 attacks on the World Trade Center in New York City, and the potential for more such attacks continues in the US as well as in the rest of the world.

Corruption
Despite occasional high-profile scandals involving individuals in politics or the federal bureaucracy, corruption is not something that foreign investors in the US normally face. The US has an effective legal and policy framework to combat domestic corruption. For both domestic and foreign firms, the giving or receiving bribes is a crime subject to criminal and civil penalties including imprisonment and fines.

Labor Conditions
The trade union movement generally favors foreign investment in the US since it has helped create millions of jobs, but the export of manufacturing and other facilities by US companies to other countries has become a significant source of concern within the labor movement. In addition, although many trade unions have encouraged foreign firms to establish facilities, particularly in the automobile and steel industries, foreign ownership of US assets occasionally becomes a contentious political issue. Individual states govern most labor policy and regulation, although a few national policies affect business, such as requirements for a minimum wage, nondiscrimination in hiring, and family medical leave. The minimum wage for covered, non-exempt employees is $5.15 per hour, although Congress has debated the potential to increase the rate by as much as $1 per hour over the past few years. During the long economic expansion of the 1980s, despite low employment and labor shortages in some sectors, wage increases remained moderate. By the end of the 1990s, unemployment had dropped even further, to the lowest rates in 50 years, and wages, particularly for highly skilled workers, were rising sharply. Nonetheless, the effects of deregulation in the 1980s, along with ongoing mergers and acquisitions

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forcing companies to hold down expenses, have made unions reluctant to press demands too strenuously. In addition, although the slow economy since 2000, along with the effects of the terrorist attacks of September 2001, increased the unemployment rate, labor has remained constrained in its demands. Labor leaders have denounced the antipathy toward trade unions shown by some foreign businesses operating in the US. Nonetheless, many foreign companies have succeeded in excluding unions from their plants. Since the early 1970s, manufacturing labor costs have risen more slowly in the US than in any other major industrial nation, although hourly pay for the American manufacturing worker remains the world’s highest, and many jobs are moving off-shore as companies continue efforts to hold down costs, making unions incensed over the exporting of jobs and reluctant to demand higher pay and other benefits, leading some lawmakers to propose penalties for US companies exporting jobs.

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United States
Country Conditions
Climate for Trade
Trade Barriers
Tariff and Non-tariff Barriers
The US government supports free trade and generally opposes protectionism, although some members of Congress support protectionist measures. During the 1990s, President Clinton surprised and pleased many in the business community by taking a moderate approach to trade policy and by taking many positions in harmony with members of the business community. The Clinton administration sided with major corporations in supporting the establishment of NAFTA, avoided extremes on environmental regulation, and granted full diplomatic recognition to Vietnam. It also elevated the status of US-China trade to permanent normal trade relations (PNTR) after years of squabbling over the issue. Most goods are subject to import duties, but general levels are not high. The trade unions take a less positive stance toward free trade than most political leaders. Labor leaders have often sought (but with limited success) government intervention to fight import penetration and job losses. Growing trade deficits and protectionism abroad have at times increased pressures for greater protectionism in the US, but to no avail, even though labor opposition to the expansion of free trade within Latin America contributed to some congressional resistance. Although the Bush administration has made contradictory moves on trade issues, congressional approval in July 2002 of “fast-track” trade authority for Bush, something Congress refused for Clinton, has allowed renewed impetus on free-trade agreements, particularly with countries in Latin America.

International Agreements
The US has bilateral trade agreements with the following countries: Albania, Argentina, Armenia, Bangladesh, Belarus, Bulgaria, Cameroon, Republic of the Congo, Congo DR, Czech Republic, Ecuador, Egypt, Estonia, Georgia, Grenada, Haiti, Honduras, Jamaica, Kazakhstan, Kyrgyzstan, Latvia, Moldova, Mongolia, Morocco, Panama, Poland, Romania, Russia, Senegal, Slovakia, Sri Lanka, Trinidad & Tobago, Tunisia, Turkey, Ukraine, and Uzbekistan. The US is a member of the North Atlantic Free Trade Agreement (NAFTA), which also includes Canada and Mexico. Economic and trade relations with China have become increasingly more important in the past decade. Under the Bush administration, the US has taken the following approach to its policy of engagement with China. The US seeks the full integration of China into the global, market-based economic and trading system, with a view toward nurturing the process of economic reform in China and increasing its stake in the stability and prosperity of East Asia.

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The US seeks to expand access to the Chinese market for US exporters and investors. The US and China maintain an active dialogue on bilateral trade issues and have implemented or are considering agreements in such areas as IPR, textiles, and aviation. China has been slow to open its economy as per WTO agreements, however. As a result, the US trade deficit with China has continued to grow, to the detriment of both US jobs and economic growth. The shortfall reached $103 billion in 2002 and ran 22% higher in 2003. The trade imbalance prompted calls from affected parties for retaliatory tariffs on Chinese goods. In its relations with Japan—the US’ third-largest trading partner and its best market for aircraft, software, and agricultural products—the US has two major goals: to promote sustainable demand-led growth and to improve market access for US goods and services. The Caribbean Basin Initiative (CBI) promotes economic development through private sector initiatives in Central American and Caribbean countries, particularly in nontraditional sectors. The CBI provides customs duty-free entry to the United States on a permanent basis for a broad range of products from CBI beneficiary countries. Although individual countries within the EU, including the UK, the Netherlands, and Germany are significant investors in the US economy, trade relations with the European Union have been in a state of flux because of currency changes and the restructuring of trade barriers within EU member states. Despite a long history of positive, political relations, economic relations between the US and the EU are often strained as they compete against each other in the global market. Most recently relations have been strained by Bush administration’s imposition tariffs of up to 30% on imported steel, maintaining that the move was an emergency anti-dumping measure permitted under the rules of the WTO, but the EU protested, and the WTO consistently sided with the EU in the dispute. After all US appeals were finally exhausted, and facing up to $2.2 billion in retaliatory EU sanctions on over 200 different products (as well as some $4 billion in WTO fines if the tariffs were not rescinded), the Bush administration finally relented in December 2003. In addition, the WTO had earlier ruled against the US in a dispute with the EU over tax breaks offered to American exporters, ruling that the tax benefit amounted to an illegal export subsidy, and the EU threatened to begin imposing a 5% tariff on US goods, which would increase by one percentage point each month for a year if the dispute were not resolved.

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Climate for Trade

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United States
Country Conditions
Background
Geography
Forty-eight states span the continent of North America between Mexico and Canada and two states, Alaska and Hawaii, are geographically separated from the other states. The continental US is divided into an Atlantic coastal plain, the Rocky Mountains, and the basins and plateaus between the Rockies and the mountains and valleys of the Pacific borderland. The Laurentian Plain of Canada extends into the Great Lakes region of the US. The largest state, Alaska, lies to the far northwest of Canada and consists of a central plateau, two mountain systems, and the Arctic Slope, while the other non-contiguous state, Hawaii, is a 2,500-kilometer chain of 122 volcanic islands in the Pacific Ocean. The temperate climate of the US mainland supports abundant agricultural production and a flourishing timber industry. The US is the world’s largest energy producer, consumer, and net importer, and it also ranks twelfth worldwide in reserves of oil, sixth in natural gas, and first in coal. The country leads the world in natural gas production, is rich in resources, especially minerals, and dominates the world output of mica, agricultural nitrogen, and molybdenum. Enormous water resources also lie within its boundaries, its fishing grounds are plentiful, and agriculture and forestry flourish in the temperate climate. During January, the capital, Washington, DC, which is located in the mid-Atlantic coastal region, averages low temperatures of -3ºC, high temperatures of 6ºC. During July, its average low and high temperatures are 21ºC and 31ºC. By contrast, Barrow, Alaska, the northerly urban extreme among the 50 US states, averages low temperatures of -29ºC, high temperatures of -22ºC in January and 1ºC and 8ºC during July. At the southerly extreme, the January and July averages for Honolulu, Hawaii, stay within a fairly narrow range at 18ºC-27ºC for January and 23ºC- 31ºC for July.

History
Before European Contact: About 900,000 indigenous people, representing hundreds of tribal groupings or nations, inhabited North America. 1492–1497: European exploration of North America began when Christopher Columbus landed in the Caribbean in 1492 and John Cabot landed in Newfoundland in 1497, leading to immigration waves from Europe that overwhelmed the native peoples. 1565: The first permanent European settlement was established as a Spanish colony in what is now St. Augustine, Florida. 1607: About 100 colonists established the first permanent British settlement in what is now Jamestown, Virginia. Early 1600s: English settlements in Virginia, Massachusetts, Maryland, and Connecticut, supplemented by communities of French, Dutch, and Swedish immigrants, became the nucleus of the original 13 colonies ruled by Great Britain. 1775: Opposition to British colonial policy grew until the colonies openly rebelled.

Background

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July 4, 1776: The colonists adopted the Declaration of Independence and officially founded the independent nation of the United States of America, initiating a war against the British. 1781: The Americans defeated the British at Yorktown, and the fighting ended. 1783: The Treaty of Paris officially ended the American Revolutionary War. Between 1754 and 1783, the population of the US had more than doubled to 3.13 million. 1845–1848: Victory over Mexico added vast expanses of western territory to the United States, including first Texas and Oklahoma. The discovery of gold in the area now the state of California triggered a gold rush into the western area ceded by Mexico. 1861–1865: Growing tensions between the North and the South, arising in part from the industrial economy of the North and an agricultural economy of the South based on slave labor, culminated in the Civil War. 1865: The victory of Union forces, the North, in the US Civil War, brought the South back into the union. 1868: The House of Representatives impeached Andrew Johnson, but the Senate did not remove him from the presidency. 1869: The population of the US had risen to nearly 39 million people. 1917–1918: The US fought in World War I. 1929: The period after World War I brought prosperity, which ended when the stock market crashed and brought financial ruin to thousands. 1930s: The US suffered the Great Depression. 1933: President Franklin D. Roosevelt initiated a set of activist government programs, called the New Deal, in an effort to end the country’s economic crisis. December 7, 1941: The US entered World War II when Japan bombed Pearl Harbor in Hawaii. 1941–1945: The US fought in World War II. 1950–1953: The US fought in the Korean War. 1955: Martin Luther King, Jr., began organizing protests against racial discrimination. 1962: The US confronted the Soviet Union over missiles being placed in Cuba. November 22, 1963: President John F. Kennedy was assassinated in Dallas, Texas. 1965–1973: Combat ground troops from the US fought in Vietnam. April 4, 1968: Escaped convict James Earl Ray assassinated Martin Luther King, Jr., in Memphis, Tennessee. 1969: American Neil Armstrong became the first person to step onto the moon’s surface.

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Background

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March 29, 1973: The US withdrew the last of its troops from Vietnam. August 9, 1974: President Richard Nixon resigned in the wake of the Watergate scandal, and Vice President Gerald R. Ford was inaugurated as president. November 3, 1979: Militant Islamic students stormed the US embassy in Tehran, Iran, and took 90 people, mostly Americans, hostage. November 4, 1980: Ronald Reagan defeated incumbent Jimmy Carter to win the presidency, and his Republican Party gained control of the Senate. 1981–1982: Unemployment rates in the US were the highest since the Great Depression. January 8, 1982: The telecommunications giant AT&T settled a 13-year-old lawsuit brought by the Justice Department, agreeing to divest its 22 local Bell System companies in exchange for permission to expand into other fields. 1986: The US shuttle Challenger exploded after takeoff from Cape Canaveral, killing seven crew members. January 1, 1989: The United States-Canada Free Trade Agreement went into effect. August 1990: The US sent military troops to Saudi Arabia as part of a UN force to defend that country and to force Iraqi troops out of Kuwait. January-February 1991: UN forces in the Middle East, led by US troops, liberated Kuwait from Iraqi occupation. January 1, 1994: The North American Free Trade Agreement (NAFTA) went into effect. September 1994: In the face of strong opposition from the medical and insurance industries, Senate Majority Leader George Mitchell abandoned his attempt to win passage of President Clinton’s health care reform proposals after they had been bogged down in committee for months. September 1, 1997: The minimum wage was raised 35 cents to $5.15 an hour as stipulated in legislation passed during 1996. November 10, 1997: President Clinton suffered his worst congressional defeat in three years when he was forced to abandon efforts to win “fast-track” authority to negotiate new trade deals. January 21, 1998: The administration became engulfed in a controversy over allegations that President Clinton had asked a former White House intern to commit perjury in testimony related to a sexual harassment case. January 27, 1998: The government announced that it was considering air strikes against Iraq in retaliation for that government’s refusal to cooperate with UN arms inspectors. December 19, 1998 -January 12, 1999: The House of Representatives impeached President Bill Clinton on charges of lying under oath and obstructing justice, but the Senate did not remove him from the presidency.

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March 19, 1999: The Dow Jones Industrial Average, a market indicator of selected stocks on the New York Stock Exchange, closed above 10,000 points for the first time in history. March 24, 1999: NATO forces launched a US-led attempt to end Serbia’s assault on ethnic Albanians in the province of Kosovo. July 15, 1999: Texas Governor George W. Bush refused to accept federal campaign funds for his campaign to win the Republican presidential nomination for the 2000 elections. November 30, 1999: Thousands lined the streets of Seattle, Washington, to protest the WTO meeting there, and the ensuing violence led to a state of emergency in the city. November-December 2000: Vice President Al Gore (Democrat) lost to Republican Party candidate George W. Bush in one of the closest presidential contests ever held in the US. January 20, 2001: George W. Bush was sworn in as the 43rd president. April 2001: After a mid-air collision with a Chinese fighter jet, a US reconnaisance plane was forced to land on Hainan Island in China. The Chinese held the US crew for 11 days, and the incident led to angry exchanges between the two countries. September 11, 2001: Nearly 3,000 people died after four US commercial airliners were hijacked and used as weapons. Two crashed into the World Trade Center in New York City, one into the Pentagon, and one into a field in Pennsylvania after passengers refused to allow hijackers to proceed to their original target, presumably another US government building in Washington, DC. October 8, 2001: The US initiated a coalition campaign against international terrorism, initially targeting Afghanistan and its Taliban regime for shielding and protecting Osama Bin Laden, the mastermind of the September 2001 attacks on the US. November 2001: President Bush signs a directive ordering the trials of suspected terrorists to take place in military tribunals rather than in the regular court system. December 2001: Energy giant Enron declared bankruptcy. June 2002: After disclosing that the company hid about $4 billion in expenses in order to show a profit for investors, telecommunications giant WorldCom began massive layoffs before declaring bankruptcy in July and becoming the largest US business failure ever. November 2002: Defying the historical precedent of losses by the party in power at mid-term elections, President Bush’s Republican Party swept to major victories by bolstering its majority in the House of Representatives and regaining control of the Senate. Soon after the election victory, Bush achieved his top priority by gaining congressional approval to create a new Cabinet-level Department of Homeland Security, the largest reorganization of the US government in more than 50 years. Shortly after the election, the UN Security Council passed the US-led resolution requiring Iraq to report the status of all its chemical, biological, and nuclear weapons, and allow UN inspectors unfettered access to verify their elimination, or face serious consequences. December 2002: Treasury Secretary Paul O’Neill and top economic adviser Larry Lindsey submitted their resignations at the president’s request.

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Background

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December 23, 2002: Republicans appoint Sen. Bill Frist as a senate majority leader, after Sen. Trent Lott announced that he would forgo the job because of the offhand remark loaded with racial implications that he made. February 12, 2003: US intelligence officials told Congress that North Korea possessed long-range missiles capable of reaching the west coast of the US. March 20, 2003: The combined forces of the US and the UK invaded Iraq, and advanced to Baghdad by early April. May 1, 2003: President George W. Bush declared the end of the major combat in his administration’s program of regime change in Iraq. August 14, 2003: Cities throughout the northeastern US and southeastern Canada experienced the most widespread power blackout in North American history. October 2003: UN Security Council unanimously approved a resolution authorizing a UN multinational military force led by the US to be sent to Iraq and calling upon donor nations to make a substantial monetary to rebuild Iraq. December 13, 2003: US-led coalition forces captured former Iraqi dictator Saddam Hussein while he was hiding in a hole in the ground, arresting him for an Iraqi trial for crimes against his people.

Social Conditions
Ethnic and Racial Divisions. Ethnic and racial variety is rooted in US history, arising from successive waves of voluntary immigrants and the import of black slaves until the end of the Civil War in 1865. Some minority groups (voluntarily or otherwise) have remained outside the economic and social mainstream, while others quickly incorporated themselves. Although most Americans are either immigrants or the descendants of immigrants, hostility toward newcomers has grown, especially toward illegal immigrants from neighboring countries. The most recent waves of immigration have come from Latin America and Asia. Economic inequities aggravate racial tensions, and recessions in the early 1990s and early 2000s have especially hurt already impoverished members of the lower classes, mostly African-Americans and immigrants from Latin America. Regional and Class Divisions. When unemployment increases, poverty rates also rose sharply and incomes decline, but as the economy improved in the 1990s, the rates of unemployment for blacks and Latin Americans declined to the lowest levels ever recorded. The US also suffers from the highest rates of child poverty of any industrialized country, and its homeless population increased by approximately 13% between 2000 and 2001. Estimates of the number of homeless people vary wildly, but the fact that it is growing problem was indicated by President Bush’s appointment of a new head for the Interagency Council for Homelessness in early 2002, after a lapse of six years. Even among the fully employed, disparities are massive; the gap between the salaries earned by top managers and rank-and-file workers is larger in the US than in any other industrialized country. Increasing drug abuse has aggravated social conflict, as well as contributing to crime, homelessness, and poverty. Drug use is most pronounced among the young and the poor in urban areas. Despite the failure to improve the situation, various regimes have persisted in efforts to combat illegal drug use by working to reduce drug cultivation in other countries, interdicting drug shipments, and severely punishing drug dealers.

Background

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United States Country Conditions
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Education. State and local governments set policy for public education. The US government provides only about 6% of total educational resources. About 35% of children aged three to four attend pre-school, and 95% of five-year-olds attend kindergarten. More than 99% of all children attend school from grades one through eight, and 75% graduate from high school after completing grade 12. Excellent tertiary education is available, both private institutions and high quality universities and colleges funded by individual state governments. Health. The US, which spends more per capita on health care than any other country, contains some of the world’s finest health care facilities available to those who are insured or those able to pay their own medical costs. The World Health Organization (WHO) ranks the US only 37th among all countries on the performance of its health system; and it ranks the US 72nd on the overall health of its citizens. While those in the middle and upper classes and those with health insurance coverage, have access to most facilities, the impoverished are forced to rely mostly on poorly funded public health services.

Government
The federal government has three branches: The executive is headed by the president; the bicameral Congress comprises the House of Representatives and the Senate; and the judiciary consists of a series of regional courts headed by the final court of appeal, the Supreme Court. Before legislation can come into effect, the president must sign a bill passed by both houses of Congress, although the two houses can override a president’s veto by a two-thirds vote. The Supreme Court determines the constitutionality of a law whose validity has been challenged. Voters do not elect the US president directly. Within each state, votes are cast for electors to vote for a particular candidate in the Electoral College. To win the presidency, a candidate must receive a majority of the electoral votes, which are apportioned to states according to their number of representatives and senators. If the Electoral College does not produce a majority vote, the House of Representatives must decide, as it did in 1824. The president is limited to two four-year terms. One of the two houses of Congress, the Senate, consists of two members from each of the 50 US states. Each senator is elected to serve a six-year term; one-third of the senators face election every two years. The vice president serves as the president of the Senate, casting a vote only in case of a tie among the members. In the other house of Congress, the House of Representatives, each state’s representation is proportional to its population. All 435 seats are subject to election every two years. The constitution delegates certain powers to the federal government and provides checks and balances among the branches. According to the constitution, any power not specifically delegated to the federal government or specifically forbidden to individual states is reserved to state governments. Although the original language of the constitution favored the states over the federal government in many areas, the actual practice has been for the federal government to enlarge the scope of its activities more extensively than the individual states. The federal government exercises control over state actions by giving or withholding funds, but state officials or local authorities, particularly in large cities, can also block federal actions.

Political Conditions
Virtually all members of both houses of Congress represent themselves as either Republicans or Democrats, but party affiliation does not guarantee voting agreement. While party members generally share agreement on most issues, cross-party agreements are also common. Most legislative majorities consist of members of

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both parties. A president cannot count on the certain support of all the legislators of his own party on every issue, but faces a much easier task in dealing with party colleagues than in dealing with members of the opposition. When one party holds the presidency and the other major party holds at least one house of Congress (a common situation since the end of World War II), policy-making becomes especially difficult. In the best of cases, legislation proceeds only by the formation of temporary coalitions. When different parties control the executive and legislative branches, the threat of deadlock is ever-present.

Foreign Relations
After the Allies’ victory in 1945, the US emerged as a world power and engaged in global political and economic rivalry with the Communist bloc, led by the USSR. This rivalry prompted US participation in the Korean War, 1950–1953, and the Vietnam War, 1964–1973. Since the collapse of the USSR, the US has experienced both the benefits and challenges of its role as the sole remaining military superpower. The US, Mexico, and Canada created the North American Free Trade Agreement, promoting increased trade among the three. The US shares the world’s longest undefended border with its northern neighbor, Canada. Relations with Mexico, its other immediate neighbor, are also generally peaceful, although illegal immigration into the US, economic differences, and the illegal drug trade remain sources of tension. In the late 1980s, President George H.W. Bush worked to improve ties with Latin America, partly in response to fears that Europe and Asia would organize themselves into exclusive trading blocs. Bush’s Enterprise for the Americas Initiative envisioned a free-trade zone, forgiveness of official debt, and additional foreign aid. In 1994, President Clinton furthered these goals by hosting a summit of all Latin American nations except Cuba, at which the countries agreed to work toward a regional free-trade zone. He also extended substantial support to Mexico during its 1994–1995 financial crisis. Discussions on economic integration of the Americas, including the accession of Chile to NAFTA, have lagged since then. At the same time, regional trade liberalization within Central and South America has moved ahead rapidly without US involvement. Clinton visited Latin America in late 1997 in a bid to improve relations and restart movement toward the Free Trade Area of the Americas (FTAA), but he was unable to make any progress before leaving office. Soon after his inauguration, President Bush declared his support for creating the FTAA, and in November 2002, the ministers of trade for 34 countries met in Quito, Ecuador, and declared the goal of January 2005 for the conclusion of the next phase of negotiations. While the US possesses immense military capability and economic wealth, its world role was not well defined after the breakup of the Communist bloc. Frustrating and politically divisive involvement in various intractable conflicts, such as civil violence in Somalia, the war in the former Yugoslavia, and the struggles with Iran and Iraq raised questions about future US international actions, and there was no solid domestic support for an activist foreign policy until after September 11, 2001. During periods when different parties control the presidency and Congress, both foreign and domestic policy can become complicated. Following the terrorist attacks on the US in September 2001, however, the level of unity between the presidency and the legislature increased remarkably for a time. Trade disputes have strained relations with the EU, especially as its internal free market has emerged. Economic relations with Japan have also been troubled, especially as Japan asserted its influence as the world’s second largest economy. The US inclination to inject a human rights agenda into foreign policy was intensified by Clinton, whose actions could be as provocative as they were cooperative. Members of Clinton’s administration, including former Vice President Gore, showed little hesitation in lecturing other countries on how to run their economies and governments, at the expense of offending sensitive leaders. Clinton would not reduce the sanctions blocking trade and investment ties with Cuba, Iran, and Libya, and

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supported the domestic steel industry against the economic interests of beleaguered Russia. Even close allies within the EU were targets of this adamant foreign policy stance. In a dispute over special trade concessions offered by the EU to banana-growers in the former colonies of EU members, the US rejected a negotiated settlement and insisted the EU back down. Reactions against US assertiveness sometimes increase risks for US-based firms and create global economic uncertainty, and since the attacks on the US in 2001, the Bush administration’s global war on terrorism has dominated foreign policy and relations with other governments. Popular sentiment is mounting against allowing more immigrants into the country, and the Bush administration’s proposal to legalize the status of immigrants with jobs has polarized public opinion. Public policy and public opinion oppose US military excursions abroad when the command of US forces moves out of US hands. Powerful congressional sentiment also favors reducing foreign aid. The US does not have a comprehensive strategy toward Russia. Despite trade tensions, it has done what it can to support the struggling government. It has also attempted to establish close relations with former Soviet satellite states without alienating Russia. The US has long tried to mediate in the Arab-Israeli conflict. Traditionally close ties with Israel have been strained by increasing US criticism of Israel’s long occupation of the Jordan River’s West Bank and by Israel’s criticism of greater US openness toward the Palestine Liberation Organization (PLO). Although the US depends much less on Arab oil imports than does the EU or Japan, the considerable energy needs of these allies constrain US policy in the Middle East. Conflicts with developing nations arise because many foreign leaders feel, sometimes for good reason, that US investments are exploitative. Other countries have also charged the US government with intervening in their domestic politics, and at times it has. The US and its major allies and trading partners diverge on some foreign policy and trade issues. They have disagreed on how to deal with rogue states, and on US attempts to impose its will on dealings with Cuba, Iraq, or other nations whose government or policies the US opposes. Conflicts also arise over trade in agricultural products and other goods. Relations with China have been marked by tensions over human rights issues, the status of Taiwan, and the administration of Hong Kong. The soaring US trade deficit with China further strains the relationship. On the other hand, the influence of US businesses that anticipate the rich market in China has served to moderate US government policies.

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