"Kee" Points with Jim Kee, Ph.D.

Last week’s big data release was the barely positive .2 Percent (20 basis points) US first quarter GDP growth rate. As I mentioned in prior Kee Points, I think the consensus of economists were overly optimistic (expecting over 1% growth), but the markets weren’t. That’s why you didn’t have a big sell-off last week; in fact, US markets (S&P 500) finished up slightly. I think markets were expecting (i.e. “pricing in”) a low number, but also expecting it to be transient (i.e. due to weather, port delays, shock of oil price fall and dollar spike).


Overall, most of the global data has supported expectations for modest, perhaps accelerating growth through year’s end, and again equity markets have generally reflected this. Chinese data continue to disappoint, but Chinese stocks are up on the expectation of strong policy responses from the Chinese government and central bank.


Sometimes it helps to step back and look at the big picture: Here are the facts: We have low interest rates around the world, and low growth. One explanation for this, the “global savings glut,” points out that more cash is being generated around the world than is being reinvested, and the resultant surplus has manifested itself as a “global search for yield,” bidding up the prices of fixed income instruments and lowering their yields. Expansive central bank purchases of fixed income securities (quantitative easing) have certainly worked in the same direction.


A second explanation for low interest rates and low growth is the “secular stagnation” hypothesis, which basically concludes that low interest rates are due to a decline or shortfall in aggregate demand (leading to calls for increased government spending programs).


To make a long story short, the first explanation, which is basically a story of an increase in the supply of loanable funds, should lead to lower interest rates but also a much higher level of economic activity than we are seeing. The second story, which is basically a decrease in the demand for loanable funds story, should lead to lower interest rates as well, but with a much lower level of economic activity (actually negative) than we are seeing. The facts -low interest rates and low growth -point to both forces working simultaneously; that is, we have an increase in supply working in conjunction with muted demand. I thank economist Victor Canto of La Jolla Economics for this insight; Canto has always had a knack of summarizing the basic forces at work in the world in a powerful way with basic economics.


In a recent report, he argues that much of this is merely the private sector around the world repairing its balance sheet. Since income is either saved or consumed, an increase in the level of savings should coincide with a lower level of aggregate demand. For those who have assets like stocks, a lot of this private sector balance sheet repair, which really means restoring net worth, has been accomplished. The increase in the values of stock portfolios has increased the value of these individuals’ assets relative to their liabilities. For those without financial assets, this restoration of net worth has to take place more out of income. Indeed, I have seen Wall Street research that supports this view. It indicates that consumer spending during the current recovery has been much more aligned with income growth, which has been muted, than asset growth, which has been strong. In other words, there has been much less of a “wealth effect,” where people spend more when their overall wealth (assets) increases during this recovery than during prior recoveries.