No New Recession
on the Horizon
Economists Cover Global and U.S. Hot Points at Inaugural Podolsky|Circle Economic Summit
Peter Langas, Managing Director & Chief Portfolio Strategist for Bessemer Trust, and William Strauss, Senior Economist & Economic Advisor of the Federal Reserve Bank of Chicago, spoke earlier this month at Podolsky|Circle CORFAC International’s Inaugural Economic Summit.
While they came to the conclusion from slightly different vantage points, the two eminent economists agreed that, while levels of uncertainty do exist, concerns over a recession are unfounded.
Speaking first, Langas acknowledged the sense that it is a challenging time, as illustrated by recent global economic challenges and the volatility of our own stock market. In fact, he noted additional anomalies that reinforce the uncertainty.
The VIX Index, which measures the volatility of the stock market, had a one day 120% increase—the largest gain ever recorded. Yet the “value” of the VIX Index has not reached its highest level, either for the year or in its history.
Additionally, while it has not been uncommon, on an intra-year basis, for the stock market to fall by 10 percent, over the last 12 months we have seen a 12 percent drop.
These issues, among others, keep questions lingering about the state of the US economy: Is there a bigger downturn ahead? Are we headed for a bear market?
According to Langas, whose firm manages money for high net worth family offices and individuals, the answer is “We are nowhere near a recession.”
Langas outlined three main areas—China, Oil and the Fed—that will continue to cause concerns for and volatility in the overall economy, and which have varying degrees of impact on the US economy and perceptions of our financial strength.
China, he said, is going through a transition that is more focused on consumption than exporting. He noted that growth in China had been occurring at a rate of 10-12 percent annually, which “just isn’t sustainable.” Exacerbating the issue is the fact that for a long time China has wanted more respect when it comes to being included in global financial policies and decision making.
“They are tired of being the Rodney Dangerfield of international economic policy,” Langas said.
To this end, China has tried a number of means to manipulate policy and their own stock market—curbing activities like IPOs and short selling—but their efforts have been unsuccessful. Instead, they have resulted in a lack of credibility, uncertainty and volatility in that country.
Another area of global concern is the price of oil, which has plummeted to the mid-$40 per barrel, down from nearly $100 per barrel one year ago. Understandably, countries with oil-based economies have been hit hard by this drop.
It is an economic oddity, Langas said, that while the price of oil has fallen, production has increased—in part because of the investment necessary for drilling and production. With the level of investment it takes to begin drilling, you don’t just stop production as prices fall. There are set costs that cannot be recovered.
While Langas feels there is too much oil being produced, he believes we are not at the point where there will be significant action taken to curb the oil supply. He also noted the advantages that come with falling oil prices.
“All of this serves, ironically, to benefit consumers, especially lower income homes,” he said. “It costs less to heat a home and fill up a gas tank, which means more money in people’s pockets.” He added that lower gas prices serve to keep inflation (which has been virtually non-existent), as well as the Fed, in check. And that is good for the overall economy.
Langas explained that, while China and Oil do represent significant hurdles for the world economic stage, he is not overly concerned about their impact on the US economy.
As a general rule, Langas noted, people and most businesses are risk averse. They are conservative in not aggressively overextending themselves with plans for new plants, unwarranted expansion or adding new employees too quickly.
He reiterated, “We have several years before a recession.”
“The elephant in the room,” Langas said, “is the Federal Reserve. We are in unprecedented territory, with essentially a zero interest rate” and a significantly large Federal balance sheet.
Langas proposed that the big questions before the Fed include:
- How they unwind the situation (“You can’t have a zero Federal Funds interest rate forever.”)
- When they unwind it, and
- How they communicate and execute the changes that are coming.
“The market doesn’t believe the Fed will raise interest rates that much; it won’t be soon and it won’t be done quickly,” Langas said.
He noted that any change in those expectations could be problematic.
William Strauss guided the second half of the program. While he concurred with much of what Langas had to say, and is in full agreement that the US economy is not on the verge of another recession, he demonstrated how he came to those conclusions from a differing vantage point using different metrics.
Strauss characterized the US as having a “tortoise” economy.
“It is really difficult to find any areas of over utilization. There are still a number of market segments that have quite a bit of slack,” Strauss said, specifically citing housing and manufacturing as markets with more room for expansion.
Strauss suggested that the slow growth economy is the result of a continued hesitancy by some companies to invest or borrow money to initiate growth strategies. From an overall growth perspective he noted that the US economy did slightly better year-over-year.
He pointed out that the FOMC sees slightly better growth over the next two years, likely at or about 2.5 percent. Strauss called that rate “above trend, growth that is ok, decent, but nothing spectacular.” He later compared the growth rates coming out of recessionary periods in the 1970s and 1980s when the rates were 4.3 percent and 4.8 percent, respectively.
Strauss went on to discuss labor utilization rates—not the unemployment rate but the rate of people capable of working who were in fact working. The current utilization rate is approximately 63 percent. The rate peaked in 2000 at 67 percent. Strauss noted that each one percentage point differential equates to 2.5 million workers. In other words, there are 10 million workers today who are employable but for some reason have chosen not to work.
Strauss said that the difference goes above and beyond changing demographics.
He finds it interesting that in the 15 year period from 2000 to present, the only age categories that experienced an increased utilization rate were in the 55 to 64 and 65 and up categories. He went on to suggest that for some going back to work was less of a choice and more of a necessity because of shrinking savings accounts.
Less surprising was the larger than average decrease in the utilization rate of the millennial workforce. It is not uncommon for younger professionals to delay working and immediately forge ahead in pursuit of an advanced degree. Still others aren’t able to gain entry to the job market in their desired field and ultimately change their course, also pursuing an advanced degree.
Another metric Strauss highlighted was inflation, or the lack thereof. He suggested that inflation typically should always be at about two percent, but said that ours is very low. He attributed part of that to the price of oil, which translates to lower prices at the pump and to heat households.
“These are very elastic markets,” Strauss said. “The Fed doesn’t see inflation getting out of control” instead seeing a healthy build-up over the course of several years.
Among the other topics Strauss highlighted:
- The trade balance will struggle because of the value of our dollar; it is easier for us to get great value abroad than vice versa.
- Manufacturing is increasing, with the most recent increase at 3.6 percent. Productivity is better, but only slightly more than 38 percent of manufacturing workers are back working
- The credit spreads are not at a high risk of recession
- While you want to see the Fed Rate increase, you want to bring it up only when you think the economy can handle it
- We expect that the rate will go up sometime – we just aren’t certain when that will be; the expectation is that the rate could be as high as 1.75 percent sometime next year and perhaps as high as 3.0 percent in 2017 (he noted that 3.5 percent is average)
“You don’t want to be premature in a fragile economy, which we still have,” Strauss said.