Wednesday, 26 October 2016

2016 will most likely mark the fifth consecutive year of below average global economic growth.

While growth has been this weak for this long in the past, what makes this outcome exceptional is that it has coincided with astoundingly stimulatory monetary policy. Indeed, for the developed world as a whole, current monetary policy settings are perhaps even more stimulatory than they were at the height of the financial crisis.

Global growth is being held back by demographic headwinds. Global labour force growth (a direct input into economic growth) is weakening as the baby boomer cohort retires in many developed economies and falling birth rates in developing countries are felt.

But there is more to it than this. Productivity growth, the magic which combines the same amount of workers and machines into a sum that is increasingly greater than the parts, has been exceptionally weak.

Global Economic Growth (% change year on year)

Global Economic Growth Graph_per cent change year on year

Source: IMF October 2016 World Economic Outlook

So, the logical question to ask is why? Why isn’t growth stronger? Why, given interest rates are close to zero, aren’t more businesses borrowing to build factories and buy machinery? Why aren’t households spending? Why aren’t governments building more roads and bridges? Low interest rates are supposed to encourage all of the above, right?

Readers who follow the financial press may be familiar with the term “secular stagnation”. This term has been popularised (but not invented) by prominent economist Lawrence Summers.

Secular stagnation is increasingly being blamed for the lack of post GFC growth in the world economy, despite record low interest rates. Secular stagnation theorists argue that “it may be impossible for an economy to achieve full employment, satisfactory growth and financial stability simultaneously simply through the operation of conventional monetary policy1”.

These theorists argue that we are in a world where there is too much saving, and not enough demand for capital spending from businesses. This results in insufficient economic growth and very low real interest rates for a very long period of time.

Some central banks have also given credence to this view of the world. In particular, the US Federal Reserve has lowered its estimates for long term economic growth and interest rates in the US in recent years.

But there are many other prominent economists who don’t believe secular stagnation is the cause for the below average global economic growth we’re seeing. Ben Bernanke, the previous Federal Reserve Chair is among these.

The secular stagnation theory (like all economic theories) has some big holes. Perhaps most importantly, many don’t think it passes the common sense check. Of particular concern is the idea put forward by the theory that businesses can’t find financially viable investment opportunities (domestically or overseas) while real interest rates are currently in negative territory.

Another plausible reason for low global growth is to think about the sort of shocks that have punctuated the post crisis world. This is the headwinds argument. Since 2010, the global economic has been buffeted by:

  • the ongoing European debt crisis, which was particularly intense in 2011, 2012 and 2015;
  • the United States debt ceiling crisis (2011) and government shutdown (2013);
  • a halving of Chinese economic growth, as their Government tries to transition the economy away from investment led growth (so far unsuccessfully);
  • a collapse in global commodity prices between mid-2014 and late 2015, sparking sharp economic downturns across much of the emerging market world;
  • various geopolitical crises, including the Arab Spring, Syrian civil war/ISIS and the Russian conflict with the Ukraine; and
  • fiscal austerity across the world, as Governments began to reverse crisis related stimulus and attempt to get their budgets back in order.

With so many shocks, it may be little wonder that businesses aren’t investing like they normally would and households are using the historic low interest rates to pay down existing debt (rather than borrow more). If the global shocks fade, perhaps growth will return to more normal levels.

Ultimately, which argument is right will have profound impacts on financial markets and economies in the years and decades ahead. However, it is not in our nature to back a horse in this sort of race. We won’t pretend to know what we don’t. And as a result, we aim to position the QSuper portfolio2 so that they are robust to either (any many other) outcome(s).

In a follow-up blog post, we can review how these competing world views (should they prove correct) will impact financial markets and our QSuper portfolio.

1. Summers, Lawrence (2014). “Reflections on the new 'Secular Stagnation hypothesis'”,

2. The term ‘QSuper portfolio’ is used to refer collectively to the underlying portfolios of assets which in combination make up the individual asset allocations of QSuper Lifetime and the Balanced, Moderate and Aggressive investment options.

The views of the author are not necessarily the views of the QSuper Board. We’ve put this information together as general information only and as such it doesn’t take into account your personal financial objectives, situation or needs. You should get professional advice before relying on this information.

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