Agenda 2022 – Theme 1: Lower for Longer… Still
The lower for longer theme faced its greatest challenge yet last year. The tussle between labour and capital for the spoils of growth was writ large with the crisis that hit the poorest cohorts of society the hardest while big business got bigger. The move to address income and wealth inequalities was elevated as a result.
While much has changed in the past two years, we tend to be of the view that the structural trends that were driving the environment of lower growth, lower interest rates and lower inflation are not only still in place but have been significantly enhanced.
The tussle between labour and capital was writ large with the crisis.
The size of governments around the world has been trending higher since the mid-1990s. In the past two years that trend has taken a significant step up.
Government can help create a positive environment for business, by, for example, building productivity-enhancing infrastructure, enforcing the rule of law and contracts. But government doesn’t create wealth, the private sector does. Innovation happens inside private companies, not inside public bureaucracies.
It is true government spending on infrastructure has picked up recently. The one trillion Biden Build Back Better program will be focused on infrastructure spending. But this spending will take place over a 10-year period and it will still leave the US economy with an infrastructure spending gap of US$2.6 trillion according to the American Society of Civil Engineers.
Across the G20 economies, a clear negative relationship exists between the size of government and economic growth, bond yields and inflation. That is, the higher is the level of public debt, the lower is growth, inflation and interest rates.
Relationship between public debt (horizontal axis) and growth, inflation and bond yields (vertical axis) for G20Enlarge Source: Bloomberg
Public debt goes up; growth, inflation and bond yields go down.
US$2.6trn – The infrastructure spending gap in the US.
The single biggest legacy of the pandemic is the rise in debt. Global debt increased by US$36 trillion compared to pre-pandemic levels taking the total to a record US$300 trillion. This rise was the largest, fastest, and most broad-based of four global debt waves since 1970.
This means economies are more sensitive to changes in interest rates now than ever before meaning central banks will be constrained in raising interest rates very far. Interest rates necessarily need to stay low to maintain the serviceability of these high debt levels.
Total US debt/GDP (%)Enlarge Source: Federal Reserve Bank of St Louis
Many companies were able to take advantage of the policy environment over the last two years. By far, however, the companies that benefitted the most were the supersized companies. Big companies got bigger over the last two years.
The market value of the five largest technology companies in the US (Meta, Alphabet, Amazon, Microsoft, Apple) rose from just under US$5 trillion pre-pandemic to almost US$10 trillion as at December 3, 2021.
US$435bn Amount of stock Apple has bought back over the last 8 years.
Companies in general are getting bigger and are more tech-oriented. According to Bloomberg, the top 50 companies in the world now make up 28% of global GDP. This compares to 12.7% just 10 years ago. The number of technology companies in the top 50 has risen from 8 in 2010 to 21 today.
Big technology businesses tend to be capital-lite and intellectual property-heavy. They also tend to employ fewer workers and pay lower wages.
It is no coincidence that this rise in big tech is occurring in the age of heavily administered markets. Once considered unconventional, quantitative easing (now the primary tool of monetary policy for the US and many other central banks) has the pernicious effect of favouring capital over labour. By reducing yields, it taxes savers but inflates the valuation of growth-biased tech companies. The profit share of the economy has taken a significant step up as a result (chart).
Notwithstanding recent efforts by governments around the world to address inequality and lift the productive growth rate of the economy structural forces driving the lower for longer environment remain firmly in play. This environment is supportive of growth-biased equity portfolios over value-biased; private markets over public; and low government bond duration strategies.
US corporate profit share of the US economy (%)Enlarge Source: Federal Reserve Bank of St Louis