Monthly Archive for January, 2016

The Unsurprising Financial Markets

There is no doubt that the world’s financial markets play an indispensable role in fueling economic growth and development. There is equally no doubt that large amounts of capital are misallocated and therefore wasted. Part of the misallocation occurs because far too many conflicts of interest and instances of self-dealing continue to be tolerated. That is in addition to those who with malice aforethought create false information to mislead the unwary. However, responsibility for the greater part of this misallocation arises from a different source: those who claim that the future cannot be predicted usefully. Notice how this plays out.

Those who are optimistically inclined, whether genuinely or not, and those who are optimistic in order to promote sales, deals and commissions are of course often contradicted by events. Are they then held to account? Rarely. The prognosticators always invoke their great excuse, claiming that nobody could see the anomaly coming, that they were all wrong together. After all, the future is unknowable, they plead. But they plead not for forgiveness, but for acquiescence in the state of their version of reality.

Of course, they are right about one aspect of predicting the future, the aspect they use to excuse all else. Indeed, the future cannot be predicted in great detail, or in any detail in some circumstances. But that does not mean it cannot be predicted usefully. The definition of useful in this context is quite clear. Can you use the prediction to guard yourself from danger, or in some cases to advance your economic interests? And for economic predictions that are thoughtfully applied, the answer is emphatically yes.

This blog has long argued that the only realistic outlook for the global economy is slow growth, at best. The reason is entirely clear: all of the world’s major marketplaces face serious and multiple problems. The governments of the United States and the European Union, for example, are near dysfunctional. And interest rates are so low only because growth is illusive. To predict sustained growth at historically high rates requires us to assume that all or almost all of the world’s major problems are resolved nearly simultaneously. That is an assumption only the heroically blind optimist could make.

Nevertheless, modest growth in the United States and no immediate crisis like 2007-08 were enough to propel the financial markets upward, with no allowance for anything to go wrong. Strictly speaking, it actually meant that everything had to go right!

As this blog has pointed out, these multiple, complex and overlapping problems inevitably produce both high uncertainty and high volatility. So how could you be surprised that energy and commodity prices are unstable? Or perhaps you are surprised at exactly how low energy prices have fallen? But it is the essence of volatility in uncertain times that the swings will be very wide, if not wild.

Notice what assumption was necessary in order for energy and commodity prices to be even approximately stable. China would have had to slow its massive economy from unsustainable to sustainable growth rates and would have had to do so smoothly. China would have had to do this even though it had never done it before and its financial and regulatory institutions are still in development. It would have needed timely and reliable statistics, and minimal corruption. It could not overshoot its targets in either direction. And why we are surprised that China has struggled with this great challenge? And as China struggles, the energy and commodity markets weaken further.

So now that reality has emphatically asserted itself, the optimists have bailed and the markets have tanked. Of course, once you really do believe that the future is completely unknowable, adversity easily causes over-reaction. So the markets are likely to fall far further than circumstances warrant. But even that observation is uncertain. So where does that leave the individual?

Since everyone’s circumstances are different, there is no single way to effectively respond to today’s environment. But there are several basic approaches that serve in times of great uncertainty. Avoid inflexible obligations. Try to insulate part of yourself from the external environment. One way is to seek out individual investment opportunities that are not strongly dependent on the overall economy; ideally, you find an investment that is strengthened by volatility and slow growth. They do exist.

Last and not least, make sure your career strategy is aggressive. Add to your advantage by enhancing your innovative capability. Remember the highly innovative problem solver is always in demand.


Economic Outlook 2016

As you will see from previous posts, there are few surprises. The comments in the post of January 2015 still stand: global growth will be slow, at best. Too many countries have too many problems for a return to the relatively high rates of the past. There is no particular reason to be impressed with the reliability of these forecasts since the evidence and logic are so clear. Wishful thinking has no place in this discussion. The goal is to be neither optimistic nor pessimistic. The goal is to be correct. And while the forecast may be sobering, the truth is always helpful, or can be.
Mature industrial states, like Europe and Canada, will have painfully slow growth. Canada of course is particularly sensitive to low energy and commodity prices. China continues to struggle to both sustain growth and avoid volatility. India is making only modest headway; other newly industrial states are coping with the consequences of unsustainable boom. Russia is stuck in the twilight zone of personality politics. Most of these governments and their electorates are overwhelmed with the complexity of the challenges before them. Moreover, given this complexity, the economic environment becomes ever more unpredictable. As a result, the financial markets remain inherently volatile.
The American economy is doing relatively better than most other states and this helps all of us. But its challenges remain very high. The government is perpetually on the edge of paralysis. Cheap oil is a bonus stimulus, but its effect cannot be counted on long term. While U.S. employment growth is reasonable, many of these new jobs are in lower wage service industries. Moreover, this relatively adequate growth is still being fueled by abnormally low interest rates. As those rates rise, the effect is uncertain. Maybe it will be accommodated reasonably well; maybe it will chill growth substantially. There is no way to know, because, as noted before, the circumstances are unprecedented. So where does this leave the individual?
The answer is equally clear, if not exactly welcomed. If the overall environment is going to be difficult for the foreseeable future, then the onus is on individuals to look to their advantage. This means pursuing one’s career more aggressively. It means having a detailed plan to get promoted. It will often require using your own resources and time to invest in the development of your skills. In addition, you will have to be a person of ideas, new ideas. It will no longer be enough to repeat the ideas of others, or those you learned years ago in a classroom. If you relax your commitment and focus, you will dramatically increase the odds of a nasty surprise.
Moreover, your investments will have be chosen with exquisite care, forcing you to turn your back on the herd. And if you spend almost all of your income on your current consumption, then you are skating on the thinnest of ice. Warning, warning, danger, danger.