EDITOR’S NOTE: Four years ago, as the economy seemed to be in absolute free fall, it was Andrew Parlin, an economic analyst, an astute student of history and then head of a Boston-based investment company, who called the bottom for GlobalPost. As he now points out with considerable modesty, he wrote a piece more than a week before March 9, 2009, but that was the day we finally published it. And, as it turns out, March 9, 2009 was indeed the date that most analysts cite as the lowest day for the markets to close during the Great Recession. Now, after an impressive week in which the markets seem to be surging again, Parlin has written a searing and insightful commentary on where the economy is four years later, and where he believes it is headed.
NEW YORK — Four years ago today, America entered month 13 of what would become known as the Great Recession, a 16-month economic downturn more severe than any since the 1930s. The ensuing recovery that began in June 2009 has seen the US economy advance at just 2 percent per annum, half the rate of the average post-war recovery.
Historically, there is a high degree of symmetry between the severity of the downturn and the dynamism of the rebound. Why has this recovery been so disappointing and what can we expect as we look out over the next four years?
Recoveries that follow financial crises are typically subdued owing to the restraining impact of households choosing to pay down debt rather than spend. The good news is that this period is likely coming to an end. Due to extraordinarily low interest rates, debt-servicing burdens are back to where they were 15 years ago. GDP growth looks set to accelerate to a far more normal rate of around 3 percent later this year.
Let’s take a look at a few facts. First, the two sectors of the US economy that have historically led the United States out of recession, housing and autos, are finally in recovery mode. Second, the jobs market continues to improve. Finally, despite the huge amount of negative attention given to the deficit reduction negotiations, the stock market has not sold off. The stock market has a pretty good record of going into decline before bad things happen. Why has the Dow broken out to fresh all-time highs when fiscal policy in Washington is in a state of disarray?
The reason is that the cumulative impact of four years of forcefully stimulative monetary policy is more powerful than the fiscal contraction caused by the sequestration, whereby US law limits the size of the federal budget.
The massive debt shift from private to public sector has put corporate American on a footing strong enough to more than offset the impact of higher taxes and smaller public sector outlays. There is every reason to expect private capital expenditure will at last kick in and contribute to a faster pace of economic growth. The last four years will likely be looked at as a post-crisis hangover. By the end of this year, we will have entered into a new phase of classic economic expansion.
Are there indicators of a more empirical nature to support the view that better times lie ahead? In fact there are. Economists have developed so-called financial conditions indexes composed of a series of financial market variables such as credit spreads and stock market volatility. In a world where so much financial intermediation takes place outside the banking system, these new tools replace traditional money supply measures in an attempt to capture the climate for accessing credit.
The easier the access to credit, the more willing people are to take the risk of building a new home or starting a business, all of which creates jobs. While far from infallible, financial conditions indexes signal changes in the rate of future growth with a lead-time of about 6-9 months. Due to their considerable accuracy, these indexes are widely used by the Fed, the IMF and many private sector forecasters to gauge the economic outlook.
Can’t one argue that financial conditions indexes are largely the byproducts of Fed policy? After all, the Fed, especially through unorthodox monetary approaches such as quantitative easing, can influence credit, equity and even exchange rate markets.
The answer is, yes. And this is why so many people consider capital markets and the current economy to be rigged. They are rigged. But what so many critics fail to realize is that laissez faire economies have a long history of requiring government intervention to get them back on track. This is the essence of Keynesianism.
In the 1930s, President Roosevelt’s New Deal was visible everywhere one looked. Today’s equivalent of the New Deal is far less visible and far more controversial, even though it shares the same goal of putting people back to work. It involves the Fed injecting life into capital markets by keeping interest rates near zero in one giant effort to kick-start the economy. While this approach may smack of reckless financial engineering, it is worth considering the alternative.
Japan’s monetary passivity since the bursting of the stock and property bubbles in 1990 is a case in point. After 23 years of paralyzing deflation, annual average rate of GDP growth of just 1 percent, and virtually no job growth, the Japanese electorate at last embraced a reformist. Shinzo Abe’s radicalization of the Bank of Japan has met with early and stunning success, as evidenced by a 20 percent decline in the yen and a 30 percent rise in Japanese stocks. This should lead to a sharp acceleration in economic growth within the coming months.
Fortunately, Fed Chairman Ben Bernanke came into office with a deep knowledge of the destructive nature of deflation and is using a vast array of tools to make sure the US economy does not find itself in a similar deflationary trap.
What about the stock market? As I stated in a recent opinion piece: “Rarely do central bankers keep such forceful monetary stimulus in place well into an economic expansion. But this is the unusual dynamic at work today. It is nirvana for stocks, which is why the 128 percent advance off the 2009 lows should be viewed as little more than a return to baseline. The next big secular rally has just begun.”
Andrew Parlin is co-founder of Kotell Advisors LLC, an investment company based in New York City.