To the untrained eye, seeing both our actual and projected GDP growth rates decline may seem pretty bearish. These numbers may actually be in the sweet spot though.
It’s no secret that we have seen an economic slowdown of late, at least if we look at this picture from a short-term perspective, such as month over month or quarter over quarter. For instance, we might look at the projections for GDP growth for the current quarter and see it drop to 1.5% which is not a particularly exciting number, and worry that we may be on the brink of a recession or a bear market with stocks.
While following trends of this duration can be informative, especially to those who are looking to time their activities within this scope, whether that may involve running a business or looking to time one’s stock positions, we also want to make sure that we are looking at this from a higher perspective as well.
This starts with looking at the quarter after this one, and may even involve perspectives such as the year ahead or even beyond that. The further out we look, the vaguer things become, but these vaguer perspectives do have their place, as long as we take into account these greater veils of uncertainty in our decisions.
This level of uncertainty both depends on how far out our outlook is as well as the magnitude of the expected changes, where for instance potential changes of bigger magnitude will be harder to predict with a given degree of accuracy as ones that do not involve so much change.
An example of this higher potential for change is how we need to approach the prospects for economic change as a result of a U.S.-China trade deal. Its impact upon the economy will depend on the details of such a deal, including the prospects of failing to reach agreement and a resulting escalation of the dispute.
Aside from this, things do look consistently tame over the next while, where we’re expected to just maintain, and just maintaining when you’re already doing pretty well is nice.
We Also Need to Look Further Out
Instead of just focusing on the lackluster results facing us in the current quarter, we need to also look at where we may be going during the next one. Economies typically pick up in the spring, which is what we are looking at here.
While the consensus for Q1 2019 is a growth rate of 1.5%, Q2 predictions are looking even better, coming in at a very nice 2.5%. This is much closer to the ideal actually, which is the level where growth is moving nicely but not so much as to probably inspire central banks such as the Federal Reserve to look to use their powers to slow things down. Sure, it is also nice to see more growth in spite of the efforts of central banks, but an important part of their mission is to control inflation, to keep the lid on this number.
If we look at what happened in the decade between 1973-1982, when inflation was very high, and we compare it to the performance of the S&P 500, this was an ugly decade for both the economy and the markets. In addition to the pain of all that inflation, and inflation is associated with too much growth basically, the S&P 500 declined by over 60% during these 10 years. This gives us a good idea of how growth can be strong but the stock market can be very weak. Sure, we are producing and selling more, nominally that is, but given that inflation devalues money, and high inflation devalues it a lot, the net effect isn’t so rosy.
A company may be increasing their revenue, but the revenue gets devalued too much. We really need to take inflation into account when we look at growth numbers, because growing nominal GDP more but doing so at a rate less than inflation actually takes the economy in the wrong direction, where it is shrinking on a net basis.
With the Fed at the ready to raise rates at a moment’s notice if growth rates go up very much from here, this increase may keep us within their threshold, whereas a higher rate would not. We grew by 2.9% last year for instance and this did require intervention. They were expecting to raise interest rates twice in 2019, and our growing at a slower rate than expected caused this to be revised to probably only one, and while there is now talk of perhaps none this coming year, it is this number going down that is inspiring these revisions.
Looking a little further out, the U.S. economy is expected to put in growth numbers of about 2% each year during the next 3 years, which is another nice number to see if you are long stocks and want to stay long them. Quite a few people may have their confidence shaken by a number like this, although you can’t just look at growth rates, you also have to consider what responses we may see, especially the potential actions of central banks such as the Fed.
It’s All About Maintaining the Right Perspective
This may be seen as good news on balance actually, regardless of the fact that this is almost a full percentage point below the 2.9% the U.S. grew it’s GDP in 2018. The Fed attacked this with their guns ablaze, and 2018 did not turn out to be all that great of a year for stocks, with many even seeing a big bear knocking on our door when yet another interest rate hike late in the year pounded stocks even more.
It was only when they promised to lay off for a while that stocks came back. Stock markets like growth but they hate interest rate increases more, and for good reason. If we can maintain this period of non-action by the Fed, this in itself is a bullish sign for stocks, and not a small one either.
The labor market also continues to look good, and when this is strong, consumer spending is strong too, because more people are employed and spending more money. Consumer spending is the single biggest influencer of GDP. What is even better is that with such a historically low unemployment rate, we don’t have to worry so much about a lot of new jobs creating too much expansion, where the Fed needs to use its sword too much.
This really is about not just looking at the numbers in isolation, but doing so with the right perspective. When we do, the next few years may actually end up being pretty bright, and particularly brighter than what the pessimists are seeing. Slower and steadier is both easier to predict and easier to manage, and also, as it turns out, easier to like.