What is “Normal”?

A prominent investment manager has been either celebrated or condemned (depending on your point-of-view) for trumpeting of a "new normal" of lower growth, higher inflation, and higher unemployment. Is this justified?

Exhibit A in the evidence for a new normal has been the slow recovery. Almost 9 million jobs were lost in the recession; only a million have been recovered. By this point in every prior post-war recession, jobs had surpassed their previous high point. Advocates of government intervention suggest that we could be doing better if we’d only been willing to spend more.

But that ignores the nature of the recent downturn. Growing economies may all be alike, but each recession is unhappy in its own way. In the first place, by being centered on real estate this recession did a lot of damage to the credit system, which still hasn’t healed. It’s not just the banks; a system of asset-backed bonds, bond insurance, and distribution to a wide swath of institutional investors has been disrupted. As a result, the funds just aren’t available to finance business creation or expansion.

Second, regulatory concerns are inhibiting the recovery of the financial sector. The regulators largely missed this one, and so like generals fighting the last war, they are bent on preventing a repeat of the latest disaster. Banking and securities regulators are tightening their standards, just when the economy might need more slack.

Finally, the decline was so massive that massive infusions of government cash and credit were needed to stabilize the system. Some of that help was misguided, easing the short-term pain rather than laying the groundwork for long-term growth. Still, the spending had to be borrowed, at the cost of a major increase in the government’s total debt burden. The debt level has restrained further growth in government spending, which has been supporting employment by local governments.

None of these factors is permanent. Productivity is still growing at 2%; population at 1%. That means that potential GDP is up 3% per year. Once we get past the credit crunch, there’s no reason solid growth can’t resume again.

Douglas R. Tengdin, CFA
Chief Investment Officer
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