Last week’s financial highlight was Mario Draghi following through on his earlier promise to have the European Central Bank (ECB) embark on a massive program of buying unlimited amounts of European government bonds in the secondary market. He was successful in his attempt to obtain agreement for this controversial step. In the end his sole, albeit significant, opposition was from Jens Weidmann, president of Germany’s formidable Bundesbank.
Now it’s Ben Bernanke’s turn. This week will be his announcement of our Federal Reserve’s next move. Expectations are very high for another round of some sort of innovative quantitative easing – QE III as it would be dubbed. He has hinted at this additional action more than once. Now he, a bit like Draghi before him, must deliver on his veiled promise in some way. It will be interesting to see how he crafts his next plan, and then to see how the markets respond.
But what I wanted to focus on with this edition of Worth Considering is actually the commentary of one prominent economist I follow. Brian Westbury, the Chief Economist of First Trust, has been exceptionally accurate in his views in recent quarters. He happens to be on the more optimistic side of the economic debate while being on the more critical side of current economic policy from Washington. I don’t find his work to be politically driven, and he doesn’t make a habit of railing against either political party or the current President as a form of pandering to his audience or colleagues. Instead, he seems to share my views that Washington on the full scale and on both sides of the aisle can stand a great deal of improvement. Through his many pieces that I’ve read, I believe he accurately makes the point that whoever holds the job of President in the near future would do the economy wonders by clarifying the rules and costs of doing business, and then holding those rules as consistent as possible. As I have said before, even if those rules and costs weren’t initially perceived as ‘good’, as long as they were consistently applied the end result would likely surprise most people. It is the endless unknowns that hurt confidence and hamper economic activity the most.
I thought Brian’s recent commentary from last week was worth sharing here. It touches on some of the same issues I’ve highlighted in the past and includes what I believe to be valuable real data and keen insights. I’ve copied his commentary here:
Still No Recession in Sight
Brian S. Wesbury – Chief Economist
Bob Stein, CFA – Senior Economist
Date: 9/4/2012
Real GDP in the US has grown 2.3% in the past year, a mediocre rate of growth, little different than its 2.2% average since mid-2009, when the recovery officially began. It’s what we call the Plow Horse economy and we expect it to continue plodding along, at least through this fall.
We expect this for both “macro” and what we could call “micro” reasons – both the “big picture” and the “details.”
Take the big picture. Loose monetary policy, relatively low marginal tax rates (still!), and technological advances support growth. Entrepreneurs are relentlessly pursuing business opportunities that few could even imagine only a decade ago. This could, and should, create a boom.
But all of these factors combined are not going to get us to rapid and persistent economic growth – 4% plus – without more freedom. The US government grew by leaps and bounds in the past decade, and the extra spending and threat of higher future taxes – not the remnants of the financial crisis – are stifling growth, holding us back in mediocrity.
The micro details also suggest some optimism about the economy. Payrolls are expanding and wages are growing. Private sector payrolls are up 160,000 per month in the past year, while cash wages per hour are up 1.7% during that same time period.
Meanwhile, consumers’ financial obligations – recurring payments like mortgages, rent, car loans/leases, student loans, credit cards – are now the smallest share of income since 1993. As a result, consumer spending has more room to grow. (And it’s not just iPads. Look for solid reports later today on August sales of cars and trucks.) note: Brian’s analysis was correct, excellent numbers for car and truck sales were indeed reported.
Home building might provide the perfect picture of the economy right now. Housing starts are up more than 20% from a year ago, while every other piece of housing related news has turned the corner. This is the sector that pessimists argued must recover to have a real broad economic recovery. The only problem is that residential construction is such a small share of GDP – less than 2.5% of the economy. So, even as housing rebounds rapidly, it is only adding a couple of tenths to the growth rate of overall real GDP.
That won’t last forever. Eventually, housing will have gathered enough momentum to make a bigger difference for the overall economy. But, for the time being, there’s only so much it can do.
The bottom line right now is that the US economy looks a lot like France. No, not the French economy today which is teetering on the brink of recession. We mean the French economy of the past generation, which has averaged real GDP growth of around 2% and unemployment of 8%.
In order to accelerate and turn back into the United States of the 1980s and 1990s, rather than the Plow Horse Economy of today, it will take a change in the direction of policy. We think the pendulum is swinging, but nothing is for sure. The good news, we suppose, is that growth continues even though it’s slow and plodding.
So while the current headlines are dominated by the actions of central bankers, the underlying trend of the global economy is a slow crawl of improvement. Central bankers are doing their very best to have the pace of this recovery improve. They might be successful in this effort. They also might not be and the result will be a global economy burdened by additional debt. The silver lining is that the economy is very unlikely to re-enter a recession any time soon even if the central bank efforts fall short of their goals.
As I mentioned, Bernanke is expected to announce some sort of action later this week. If he announces anything outside the scope of what is expected, I will most likely sent out a quick update to explain any departures from the anticipated script and what impact I would expect them to have.
On a personal note – something I find to be a funny coincidence is that I will be away from the office next week attending my sister-in-law’s wedding in, of all places, Bretton Woods, New Hampshire. I get a chuckle out of the fact that I’ll be visiting such an important and historically relevant place in the history of the financial world during this unique period of dominance of central bankers and their constant efforts to re-price the value of currencies. How ironic.
The takeaways:
• The economy is likely to stay in a slow growth mode for a while longer. This shouldn’t spark fear, but should be recognized as a vital reason to stay balanced throughout a portfolio. There’s likely not going to be enough economic strength to support much additional earnings growth on average. This means a portfolio purely dedicated to economically sensitive growth-oriented investments is potentially vulnerable. These holdings should certainly be a part of a portfolio, but moderation is still in order.
• It isn’t a wise investment stance to “fight the Feds”. In other words, if the central banks are still in stimulus mode, the path of least resistance for financial assets is higher. I wouldn’t expect a huge rally on any additional stimulus news; but I do think such an announcement would put an even stronger floor under the markets and reduce the downside risk quite a bit.
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