God is a Capitalist

Monday, November 28, 2016

Goldman Sachs rains on Trump honeymoon

Traditionally, a new president enjoys a “honeymoon” period during his first few months in office but it seems that Goldman Sachs doesn’t like tradition. The investment bank tried to puncture the euphoria in the stock market over Donald Trump’s victory by issuing a sober forecast of what the US can expect from his regime next year. Their conclusion:
The prediction comes as part of the team’s annual not about the top ten market themes for 2017. Theme No. 1: Utter disappointment.
Actually, the theme was closer to “more of the same.” GS thinks stocks are pricey already and the economy won’t improve enough for profits to relieve some of the altitude in valuations. They are probably right and things might actually get worse if we get the long overdue recession.

GS expects bonds to drop another 0.5% over the coming year, which means they assume higher inflation and the Fed raising its rate an equal amount. Again, that won’t happen with a recession.

The forecasters expect Trump’s infrastructure spending plan, what I tagged as welfare for Mexican immigrants last week, to boost the economy while a shortage of workers will restrain its impact. However, there is no shortage of workers south of the border and many will wade through the Rio Grande for those jobs. But the plan will do little to boost the economy for several reasons. Any bill won’t get through Congress for probably six months or longer. When it does pass, and it will because Keynesian (medieval) economics is all politicians understand, it will include thousands of additions that politicians use to pay off their campaign contributors. That will make it even less efficient. Then federal regulations will bog down implementation until sometime in 2018.

Socialists can call spending on roads and bridges “investment” if they want to abuse the language, but pork by any other name is still pork. The US has too many bridges to nowhere. Adding more of them will not increase productivity and can in no way be considered investment.

Meanwhile, the GS gurus expect productivity growth to remain mired in the muck for the next year. That allows them to predict an annual increase in GDP of just 2.1%, about the same as this year.

Keep in mind that productivity increases come mostly from businesses investing in new plants and equipment, especially computers, and such investment has fallen short of expectations since the Great Recession. Instead, businesses are stuffing their mattresses with cash, buying back their own stocks and increasing dividends. The gurus conclude:
We are skeptical...Until more clear evidence accumulates showing that the outlook for productivity and trend growth has improved, the opportunity set for investors is likely to remain low.
Greater federal spending and tax cuts might lead to inflation, which would erase some of the federal debt, but Peter Schiff disagrees with the weathermen who claim the Fed will stomp on higher inflation:
The reality is if we have bigger deficits as a result of tax cuts and more government spending, the only way for that to happen would be for the Fed to monetize it. The Fed would have to have even more monetary stimulus to offset or to make possible the fiscal stimulus … If the markets think we can increase the deficits the way we did under Reagan, yet it result in rising interest rates that helps the dollar or a tighter monetary policy, they’re crazy.
And Schiff expects the year to be good for gold:
The mentality is we’re going to have more inflation; therefore, the Fed is going to fight that inflation by raising rates, and so the higher rates will mean a stronger dollar and that’s going to hurt gold. But what people don’t realize is that the Fed will not fight higher inflation. They will surrender. It’s inflation that’s going to win the fight, not the Fed. The Fed is not even in a position to step into the ring with higher inflation. The minute they try to fight inflation by raising rates, they crush the bubble economy.
The GS gurus follow Keynesian (medieval) economics while Schiff is a pretty good member of the Austrian school, so I’ll take his advice. The dollar will probably collapse because the Fed will have to buy all of the new debt in order to keep interest rates from rising like a noose and strangling the economy. If the Fed continues to raise rates, the dollar will fly higher and choke off exports that the economy needs to keep going.

Inflation will take off as federal spending causes massively more dollars to chase a limited supply of goods and services. We could have two results: 1) The Ricardo Effect will kick and gives us an old fashioned recession that will reset the stock markets and reallocate poorly invested capital so that real growth can begin, or 2) we could get a return of the stagflation of the 1970s in which we enjoyed high inflation and high unemployment at the same time.

Either way, the outlook for investing next year appears to encourage buying long term bonds, now paying around 4%, and waiting for interest rates to fall or sticking with gold and silver. In spite of the recent euphoria, I’m still waiting for a major correction in the stock market before jumping back in.

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