Summer thoughts about the '˜longer term'

28 July 2017

As I wrote last week, capital markets are currently not exactly quiet or boring as one might reasonably expect in the middle of summer. On the other hand, they are pretty much behaving as we had expected - choppy. Stock markets trended down slightly over the week, despite much better than expected Q2 corporate results in the US and Europe. Now that bond markets have calmed down, currency markets and US politics are blamed. The US$ weakened noticeably against the €-EURO, as president Trump's Twitter storms reach an ever-higher pitch of personal attack and insult - without achieving the slightest in terms of progressing his policy initiatives. This environment of limited fundamental news made us turn our focus to the longer-term outlook of the next couple of years. Unsurprisingly there is plenty of debate and disagreement where this very stretched out economic cycle is heading and how long it will last. However, there are a few observations we read, hear and discuss ourselves repeatedly. One school of thought goes as follows: Much of what is unusual about this cycle at this stage in terms of ultra-low yields, low equity risk premia as well as low growth and productivity gains are still aftereffects of the Global Financial Crisis (GFC) of nearly 10 years ago. Therefore, unless we get some geopolitical shock, conditions will gradually normalise back to what we used to see as normal. Current economic progress may be below average, but given the low levels of inflation and accommodative financial conditions, the economy is actually running under '˜goldi-locks' conditions - neither too cold, nor too hot and therefore with little risk of this to change or deteriorate. In this state, owners of capital assets and/or with professional skills and education will continue to do well. The fly in the ointment is the high levels of debt that come with this status quo and the discontentment of those without capital assets or established professional careers. The debt can become a worrisome burden if yields ever return to historic levels, but inflation stays low - and there is a risk that the discontent young, asset poor old and general workforce exercise their democratic rights to change the rules of the game to the detriment of the status quo. Mildly redistributive policies and political appeasement is seen as the most effective way to address the latter, whereas the risk of the debt burdens can either be contained through continued financial repression (low rates) or temporarily elevated levels of inflation. The other school of thought proclaims that there are more fundamental forces at play than last tremors from the GFC. They put forward that the combination of globalisation, helped by a new technological revolution and a demographic overweight in the G7 nations of elderly, asset rich professionals who still call the shots, has led to an unsustainable misbalance amongst western societies. Globalisation on the one hand and monopolistic structures bred by the latest technology revolution on the other have diminished the negotiating position of labour, resulting in their under proportional participation in living standard improvements. The interests of the elderly leading class and baby boomer generation to hold on to the value of their aggregated lifetime assets is preventing gradual change and improvements for the young and labour, as may be achieved through re-distributive policies and restrictions on purchasing power abuses of the new (tech) monopolies. The end outcome of this scenario would be the gradual demise of the global economic leadership of the G7 nations as they descend into society splitting political disarray or ever worsening recessionary periods. New economic leaders would emerge from amongst the developing world, who are not (yet) saddled with similar issues. Somewhat complex concepts to get one's head around but perhaps in their simplified format as presented here, useful to understand why there is so much talk about uncharted territory ahead and why it is so difficult for politicians to take decisive action. Our own position is that as so often this is unlikely to be a case of '˜either - or'. Elements of both sides probably just about capture what is going on and what may lie ahead. To complement and expand on the above, we have therefore this week included articles which look at the various aspects discussed, starting with the IMF's analysis and forecast of the global economic development for the coming 2 years. This is followed by an assessment of UK consumer credit levels/burdens and then what the reality of the ongoing corporate results announcements for Q2 2017 tells us. The last article turns to the relationship between China and India which has recently shown some similarities with the hegemonic tensions between Great Britain and Germany before WW1.

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