The COVID economy has created one of the most challenging environments since World War II and its aftermath for understanding the economy. We mention WWII because that is the last time we had a mix of massive government spending and government-imposed restrictions on spending (at that time in the form of rationing).
This on-again-off-again consumption pattern creates confusing waves of distortion in the economy. Economic data and headlines have always been a mix of signal and noise, but the COVID economy has given us the highest ratio of noise to signal that I’ve ever seen.
As we try to use the right knobs and adjust the tuner to get the signal, a few things stand out:
- Most high frequency metrics of economic change, i.e., monthly data and even quarterly data, is a matter of timing differences. In general, really bad months are mostly deferred activity, especially deferred spending. Conversely, booming months are mostly the economy catching up after the deferred demand from the bad periods. COVID Classic, Delta, Omicron… each wave triggers a shutdown that is mostly focused on consumer spending. During these periods, production businesses generally have not slowed down as much. So, the technology, manufacturing, and building sectors (which are far and away the biggest long-term drivers of the economy) mostly keep going. Car, home, and appliance purchasing comes and goes with the waves of COVID.
- Part of the noise comes from the fact that the unseen part of the economy has generally done better than the seen part. We don’t see metal being taken from the ground, smelted, turned into components, and assembled into computer components, cars, washing machines or building material. But we see scary images of shuttered theaters, stadiums, and convention centers. But the whole culture and entertainment portion of the economy is roughly only about 4%. (“Love or Hate Big Crowds: They’re Economic Small Ball,” RealClearMarkets June 5 ,2020) Let’s add that media now survives on click rates, and sadly that even applies to financial media. So, spectacle rules the news cycle. This, too, is more noise than signal.
- Cyclical recoveries are the easy part: An economy collapses, creating a low baseline, then year-over-year comparisons look great against that low baseline. But that cyclical growth is probably close to over now, and we’re moving to our new normal. Given an aging workforce, a declining work ethic, and an anti-growth policy environment, the new normal in America is likely to disappoint.
- It is nearly a policy consensus now that the way to fight stagnation is with inflation. Both parties hit the “print” button when things are bad. Past money creation, plus the “need” for future money creation to finance a bi-partisan high-spending consensus, mean that inflation is likely to be above the trend of the past decade. Yes, there will be occasional bouts of modest Fed courage in the form of “tapering” (not reversing) central bank intervention, but history has shown that the Fed will give in to the “taper tantrum” and hand out the candy eventually.
- We wish we had a better outlook. There’s reason to try and persuade policy makers to adopt policies which will serve future generations well, and that may well succeed. But nothing good is served by ignoring the very real risks that the next several years may well see a resurgence of the stagflation we saw in the 1970s.
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