There seems to be an overriding sense in the financial press today that all we need to do to solve our issues is just to get businesses borrowing and expanding and everything else will take care of itself. I disagree.
The 18 year bull market we experienced here in the U.S. from 1982 to 2000 was driven by excesses in household debt. As we have discussed before, wage growth flattened out as productivity increased. However, consumers were lured in by the advertising of easy credit and as interest rates dropped from double digits in the early 80’s the cost of borrowing declined with it. This led to the “wanting” of larger homes, nicer cars, and all the amenities that went along with it – it didn’t matter that they could not actually afford it. Credit cards, second mortgages, lines of credit, etc. all substituted for the personal income shortfall. As long as real estate prices and the stock market rose – what could possibly go wrong?
Oh yes, eventually, prices will stop going up; which is what went wrong. Now, millions upon millions of individuals must pay the piper their dues and deleveraging the balance sheet back to normalized levels will take quite some time. While consumption alone does not drive the economy – trying to implement policies such as temporary tax credits or tax cuts for business will not boost production (also a form of consumption) either. Our ability to consume is based on our ability to produce. If we wish to consume more, there is only one way to do it without bankrupting ourselves or stealing from another, and that is to produce more; to increase our value to others.
The relationship between consumption and production joined closely at the hip and production always comes first in any economy, whether it be on an individual or national level. Acts of trying to keep wages artificially elevated, or taking from those who produce more and giving it to those who produce less, are both recipes for mediocrity, stagnation, and ultimately bankruptcy and failure. While we cannot focus solely on consumption at the expense of production we will ultimately end up with nothing to consume. It is an important and delicate balance that must be achieved because if the productive don’t, or can’t, “consume” the fruits of their productivity then the economy is curtailed.
Consumption delayed is merely a shift of consumptive ability to other individuals, and even better, money saved is often capital supplied to entrepreneurs and businesses that will use it to expand, and hire new workers. Unfortunately, the problem today, is that the ability for the individual to produce has been severely curtailed by three decades of excess and with wages stagnant, savings near their lows which impedes productive investment and policies which impede productivity – it is no wonder that the economy is stagnant and struggling.
The bottom line is that we expect the U.S. economy, and stock market, to stay in the range that started in 2000 for many years to come as the cycle of deleveraging continues. Just as household debt drove the economy and markets through unrestricted consumption of everything from goods and services to homes, the reverse will continue as the deleveraging process continues for a quite some time.