Eye of the storm?
Posted on 28 August 2015
"..the first US interest rate rise and its ramifications for the world economy is likely to become (if possible) more hysterical yet."
“On what principal is it that, when we see nothing but improvement behind us, we are to expect nothing but deterioration before us…” – Thomas Babington Macaulay
After the stomach churning falls seen in the first part of the week, data suggesting both European and US economies remain on improving trajectories have encouraged investors back into risk assets in the second half of the week (so far!). We’d be wise to expect nervier times ahead – investors will be hypersensitive to any further news out of China, and the debate about the first US interest rate rise and its ramifications for the world economy is likely to become (if possible) more hysterical yet. This latest bout of volatility has reinvigorated the legion of talking heads who have long thought the modern world economy, and therefore its capital markets, is founded on little more than massive debts and central bank largesse – calmer voices may well struggle to be heard for a while yet.
Regular readers will know well that we’re suspicious of this caricature of the world economy. The admittedly dramatic increase in global debt seen since the liberalisation of the 1980s in particular has not been accompanied by a dramatic increase in global economic growth. The aftermath of the crisis of 2007 and 2008 may have made us forget the important point that the world economy’s collective wealth is ultimately not financial in nature. Financial assets and liabilities are entitlements and obligations, they do not actually produce anything. Mankind’s stock of productive capital likely continues to rise, much as it has done for most of recorded history. It may simply be that this stock of productive capital is becoming harder to accurately measure as we move further away from heavy industrial assets and towards more intangible technological advances. It is also worth remembering that the world cannot be meaningfully insolvent collectively – there is no net debt. My predecessor would regularly point out that mankind has surely not yet managed to persuade the so far undiscovered inhabitants of distant planets to lend us money just yet (or vice versa)1.
This does not mean that there is nothing for global investors to worry about, just that many of the answers offered by the commentariat in the wake of this week’s bout of capital markets volatility lack nuance and an appreciation of the real underlying drivers of global economic growth – the factors of production. An over-reliance on data that have, by and large, failed to keep up with the modern economy combined with a widespread belief that optimists simply lack intellectual rigour has led many to miss much of the post-2009 rally in equity markets. It is these same commentators that are gleefully telling us that now is the time to sell everything and stock up on tinned food.
1 Making Sense of Markets, An Investor’s Guide to Profiting Amidst the Gloom, Kevin Gardiner, Palgrave Macmillan, July 2015
William Hobbs, Head of Investment Strategy, Europe