I’ve hesitated to write following the election because there is too much noise around Trump’s cult of personality by both lovers and haters. Hopefully, enough time has passed for us to delve into a sober analysis of where we are and where we are going.
I prefer an objective view of the election as a sign that the US board of directors wants to take the country in a different direction with the new Administration tasked as the firm hired to re-organize the business, jettison non-performing divisions and to re-orient the nation towards a new growth platform. Our nation’s former managers having damaged our balance sheet with excess debt and operating divisions that benefit insiders at the expense of national shareholders, aka voters.
Not everyone wants to go in this direction but that is always the case in a representative democracy where we are supposed to move in the weighted-average direction the electorate chooses. At times, small groups can wield outsized influence but over time, our system has reverted to a weighted-average outcome.
But to understand this new direction, we must understand where we are on the “ism” spectrum and why it stopped working for the average American. It is also critical to understand that for much of the US economy, our productive fields lie fallow thanks to our ability to import what we need. It is going to take time and effort to restore balance to our national economy. The purpose of this series is to identify the difficulties we will face as investors and the opportunities that are possible if we succeed as a nation.
Moving in Opposite Directions
Econometricians among my friends tell me that rare events such as panics cannot be dealt with by the normal technique of regression, but have to be introduced exogenously as ‘dummy variables’ – Charles Kindelberger
Econometric models have replaced history and common sense as the primary vehicle for setting economic policy, such is the extent of the victory of those who advocate for “science-based” solutions to life’s mysteries. It doesn’t hurt that such models have allowed for turning the “punch bowl” into an ocean of financial liquidity to fuel an unprecedented wealth effect.
When looking at Western economies, I like to use the metaphor of “harvesting without replanting” when trying to convey my understanding of our economy to non-practitioners. In the case of the US economy, we have not only been harvesting the fruits of the post WWII expansion, we’ve outsourced the capital-intensive parts of the value-chain to emerging parts of the global economy where capital owns an overwhelming advantage versus labor.
Asset inflation combined with consumer disinflation is the story of the past 30 years. Simply put, it has been the willingness of America to over-consume, combined with China’s willingness to feed that consumption while accepting negative long-term returns on invested capital. This symbiotic relationship peaked in 2006 but has been kept alive by both nation’s willingness to borrow money while concurrently devaluing that money to maintain spending.
Neither trade partner can maintain this behavior. The US can no longer stimulate consumption through fiscal means without increasing the rate of consumer inflation. China, on the other hand, has over-invested far beyond levels that can be exported to the rest of the world. Both need to restructure but socialism, as practiced by each party, doesn’t support such a restructuring.
The difference between China and the US is that the US electorate has voted to restructure government and move back towards capitalism. Looking backwards, US consumers extracted everything they could from moving towards a socialist system and only pivoted once socialist policies stopped improving their lives. This brings me to one of my rules for analyzing consumers: Americans are free agents and will turn on a dime towards whatever “ism” that will improve their lives.
The Chinese people are remarkably like Americans in that they will turn on a dime towards opportunity. If unfettered by political barriers, the Chinese would solve their banking problem and start looking for their next profitable avenue. Their problem is the Chinese Communist Party and Xi’s policies that have shifted from capitalism back to Marxism, ending their prosperity.
Socialism Bordering on Marxism
The goal of socialism is communism – Vladimir Lenin
Whenever I read about the abuses of the UK population by its bureaucracy, I’m reminded of this quote by Vladimir Ilyich Ulyanov, better known as Lenin. It’s as if the times that preceded the Magna Carta have come full circle such that a person can land in jail for a public comment that calls government actions into question. The difference this time is that decisions are presently being driven by faceless bureaucrats as opposed to John of Anjou, Richard I’s younger brother.
Similar anti-democratic behavior has been spotted on the Continent, particularly in regards to immigration policies, climate activism, and anti-war rhetoric to name a few. Again, unlike Europe’s past monarchist systems, Europe’s faceless bureaucrats are the offended party, making the situation far more complex than negotiating the vagaries of a monarch’s whims.
Fortunately, I view the above behavior as a temporary signpost of where we are in a long cycle as opposed to a permanent state because the offending parties don’t have the legitimacy that a conquest or revolution proffers on the winning side. The rule makers get to act only as long as they can make people’s lives better and that has been missing for more than ten years. People across Europe and Britain are turning against the unelected rule-makers.
Voting isn’t limited to the ballot box; Voting is a continuous process in the global economy and markets. The simplest example is the currency markets where the market is voting against the rising level of Marxism in China.
We are only at the jumping off point where the Chinese yuan gets crushed. Marxism destroys economic systems and ultimately, people’s lives. Deng Xiaoping unleashed Chinese initiative by liberalizing Mao’s strict Marxist policies. Now, Xi is looking to restore Mao’s failures and the Chinese people are responding with extreme frugality and apathy.
The Paradox of Thrift has taken hold of the Chinese economy and will overwhelm the CCP’s attempts to stimulate the economy much in the way similar strategies failed with the Japanese in the 1990’s. Japan enjoyed a growing global economy during this time while China faces a global downturn. The CCP is attempting to counter this trend by forcing replacement cycles in autos and household appliances, a move that is virtually guaranteed to destroy the last remaining household wealth in China. Stupid is as stupid does.
Fascism/Socialism and Harvesting
Fascism is capitalism in decay – Vladimir Lenin
For 30 years, Americans have voted for a unique blend of socialism – fascism - capitalism to run our country because the majority believed that it led to a better life. Looking at S&P500 returns, it’s tough to argue.
Again, Lenin isn’t wrong about fascism being capitalism in decay but this only holds when a capitalist economy is not allowed to re-generate through periodic recessions. It’s why our economy has become dominated by the financial, healthcare, and technology industries since our last “true” recession in the 1990’s. These industries have benefited from a combination of government spending, government intervention in the markets, and government favoritism in the legislature. It’s also why US government debt has grown from manageable to overwhelming.
Our current system is a Frankenstein’s monster of “isms” that typically don’t coexist yet this hybrid model has allowed us to live extremely comfortable lives for 30 years. Market purists can complain that we’ve only been set up for an extraordinary decline. Maybe but the wealth effect has buttressed an otherwise lackluster economy while allowing the Baby Boom generation to close the retirement savings gap that threatened to impoverish a generation.
You can call it whatever “ism” you would like but people supported it because it made most of our lives better, at least on the surface. For a variety of reasons, the benefits started to wane around 2014, prompting even greater efforts by the system to sustain its success. Covid was the turning point where continued increases in government spending reignited dormant consumer inflation. That was the point where people started looking to change the system.
The chart below shows “real” retail sales which means that it measures retail sales minus inflation. In a very simple way, the chart tells us that the “system” is no longer benefiting the average American.
I prefer the term system to identifying a political party because Democrats and Republicans are both part of the same system and both are responsible for our unprecedented move towards socialism. Based on campaign promises, it appears that the new Republican party wants to forcibly break from the system. It’s going to take dramatic change and a willing electorate but the history of the United States is the history of responding to threats and opportunities with equal alacrity.
Conclusion
The problem with socialism is that you eventually run out of other people’s money – Margaret Thatcher
In the US, we haven’t run out of other people’s money as much as we’ve hit the point of diminishing marginal return on the wealth-effect/outsource production cycle. We have also hit the point where past investments in the emerging markets are turning into expensive mistakes, starting with China.
The model is broken despite the continuing surge in the S&P500. The winners of the last cycle are loath to give up their gains without a fight; the same can be said for the bureaucrats who have amassed such extraordinary power.
The lesson to be learned is that we are all subject to performance – even bureaucrats. As long as we can improve the lives of our clients, we get to continue but once we start losing them money, they will find better solutions. This is the case for the private sector, the public sector, and elected officials.
The next installment of this series will be my expectations for 2025 and how the fiscal cupboard will be empty for the incoming administration.
