Writing an article on the economic state of the world is usually a straightforward exercise. If the world is in good economic health, you can describe the policy reasons behind that condition and identify specific stocks and sectors that will outperform the market.
You would point to trends such as low inflation, positive real interest rates (a sign of strong growth resulting from healthy competition for funds), and stable exchange rates (indicating that the world is close to equilibrium so that investment decisions are made on the basis of fundamentals rather than speculation), and form views on how long those conditions might last and how much upside they offer investors.
If the world is in poor economic health, the analytic process is much the same, but with very different inputs and forecasts. One would expect to see widespread inflation (or deflation), high unemployment, declining GDP growth (or negative growth), declining world trade (measured in volume or dollar values), and a host of poor public policy choices including high tax rates, tariffs, export subsidies, overregulation, and a litany of cult impositions including climate alarmism.
In either the good scenario or the bad scenario, the analyst knows what to do in the form of policy recommendations or investment allocations if the recommendations are not pursued. Without being glib, if you’re in a good place, keep it going. If you’re heading in the wrong direction, turn around.
Good news, bad news
What if we had both at the same time? That’s a pretty good description of where the world is today. While our analysis is global, the US is a good place to draw the contrast between good and bad news.
The US has some of the lowest unemployment rate readings since the 1960s. Real wages have finally begun to grow slightly after years of negative readings. These measures of growth and decline are inflation-adjusted — nominal wages have been increasing all along, but inflation has been making real wages negative.
Recent declines in inflation have tipped that measure in favour of real growth. Inflation is still too high (and the damage from past inflation will be with us permanently), but the dip has been undeniable.
From 9.1% in June 2022 to 3% in June 2023, inflation (measured as CPI, year-over-year) has come far toward the Federal Reserve’s goal of 2%. Of course, the stock market has been on a tear, and some major indices are inching toward new all-time highs or already there. No wonder that Joe Biden has decided to base his campaign on ‘Bidenomics’.
Still, the negative side of the picture is in plain sight. US industrial production has been declining for more than a year. Some economists claim that manufacturing is a shrinking part of US GDP and services dominate economic growth.
That’s true as a first approximation, but it ignores the fact that much demand for services comes from those who work in factories, mines, and assembly lines.
If the factory is closed, no one laid off will be buying tickets to Taylor Swift.
Bank lending is contracting, and credit conditions are being tightened. This does not mean a full-scale credit crunch is upon us or that the economy is falling off a cliff. It does mean that a trend toward reduced liquidity is in place and will likely grow worse until it leads to business failures and bad debts.
Inventory-to-sales ratios are uncomfortably high. Inventory accumulation increases GDP, but it can reverse with a vengeance when wholesalers decide that goods are not moving fast enough and new orders suddenly hit the wall.
At that point, inventory accumulation stops cold and gradually declines. GDP goes down along with it.
Regards,
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Jim Rickards,
Strategist, The Daily Reckoning Australia
