When I was a child my father would bring home computers he no longer needed in the office. These were some of the very first computers for businesses. The first one I remember didn’t have a hard drive or a disk drive, but instead had a cassette player to load programs. Some of you may have to google what a cassette player is. I would dive into them and see what I could make them do. Inevitably I would “push” them a bit too hard and let’s just say it ended with “Dad, don’t you think you need a new computer at the office?”
Like most kids with computers I spent a lot of time playing video games on those computers. Those initial experiences left me with a lifelong appreciation for playing video games which I still do to this day (although not as much as I once did, much to my occasional chagrin). Most video games these days have a list of “Achievements”. It’s basically a way to show others that you completed something fairly difficult. Sometimes Achievements are only possible for a limited time or under very specific circumstances. If life were like those video games 2020 would be chock full of possible Achievements, although unlike the ones in video games, many of these we would have rather missed. Let’s look at the world in the 3rd quarter and what we see in the 4th.
The COVID-19 Pandemic
Cases are starting to tick up a various locations around the world, including a number of U.S. States. This kind of ebb and flow of cases is not a surprise and will be with us for the foreseeable future. While we do not presently see a return to lockdowns in the United Stated, it is being discussed in various other countries. One very important piece of good news is the mortality rate has dropped. When and if a vaccine comes out, it will take time for it to be distributed and for people to be convinced to take it. Our view is COVID-19 is going to be with us for longer than we wish and we will continue to adapt to it from both a business and personal point of view.
We are already seeing some of those adaptations starting. We are beginning to see signs of a migration from large cities which may or not be permanent. There is a new focus on moving manufacturing, especially medical manufacturing back “on-shore”. That will take some time to happen as building medical grade manufacturing does not happen overnight. Business travel is basically non-existent, although vacation travel will likely bounce back sooner. Finally, people working from home will probably be with us for the foreseeable future. This will have lasting impacts on many different parts of the economy and we are just starting to see them.
The Election
The upcoming election is on the forefront of everyone’s mind. The recent debate certainty did not help calm any nerves about the election. The most important point I can pass on here is: Making investment decisions solely based on the outcome of an election is almost always a bad idea. Raymond James, our broker/ dealer, has put together some great information about the effect elections have on markets. It points out many of the things we think always happen when one party or another wins an election are not written in stone, and while there can be market volatility after an election, it usually subsides in fairly short order. Please contact me and I will share it with you and we can schedule time to go over it together.
The Economy
The economy is in the middle of a reallocation of resources. Some of this is due to COVID-19, but some of it is due to trends that existed long before the pandemic and have been sped up. During periods like this we can expect to see employment continue to bounce up and down as businesses not able to adjust close and new businesses spring up to take advantage of new opportunities. This will likely be a painful process as historically pandemics have upended both social and economic orders[1]. One positive point is there seems to be a commitment from both the Federal Government and the Federal Reserve to provide broad support for the economy.
The Federal Reserve
The Federal Reserve has kept interest rates low and there is very little possibility that they will raise rates in the next 12 to 24 months. In recent history the Federal Reserve has operated under the understanding that if inflation rises above 2% then they would raise rates and take other actions to make sure it does not go up much further. In September, they changed that framework. They will now wait to do something if they see higher inflation, especially if they do not also see high employment. Given our current and expected employment stats this means they will probably not raise rates for a while, perhaps a long while. The “Fed” has also highlighted the need for additional fiscal stimulus.
The Federal Government
The U.S. Government has injected $2.3 Trillion into the economy thru stimulus funding. Let’s write that out, $2,300,000,000,000. If we stacked those dollars on top of each other, it would reach two thirds of the distance to the moon. Finally, by comparison during the 2008 Financial Crisis, the government stimulus was $152 Billion. Not even 1/20 of the distance to moon. That is a lot of money. This begs two questions. One, is where does this money come from, and two, will it cause inflation. The answer to the first question is easy. Some comes from current revenues (taxes, etc.), but most of it comes from debt issuance[2]. We are issuing more debt than ever and it will likely not stop any time soon. The inflation question is harder to answer.
Inflation vs. Deflation
Inflation is the process by which things become more expensive over time. We all are familiar with this. It seems every time we checkout at the grocery store our bill gets a bit larger. It brings up visions of wheelbarrows full of Weimar Germany Deutschmarks to buy a loaf of bread and of 100 trillion-dollar banknotes from Zimbabwe. For some it will bring up memories of the 1970’s in the United States when inflation reached 14%.
Deflation on the other hand is what happens when things become less expensive. The last time the U.S. saw serious deflation was during the Great Depression. On the surface sounds great as “our dollars will go farther”; in fact, it’s a horrible thing. During deflation people don’t want to spend money at all. If the value of your money goes up without you doing anything, when do you spend it? The answer is you don’t. You hoard it because it will be more valuable tomorrow. If everyone does this, the economy grinds to a halt. Remember, the money you spend is someone else’s wages. If people stop spending, then people stop getting paid, which tends to feed on itself. It is very hard to get out of a deflationary spiral. Japan has been experiencing deflation for almost 30 years.
So yes, the economic stimulus and what the Federal Reserve is doing would be very inflationary during normal times, but these are not normal times. Let’s talk about why. The obvious reason is the pandemic which has caused economic activity to slow greatly (hence the change shortage), but there are other longer-term factors at play here.
The twenty-first century has brought with it many deflationary pressures. Globalization has been a key one. While this may be starting to fade, it will take a long time before global trade completely unwinds, if ever. Another one is energy costs. A primary driver of inflation was the cost of oil, but with technological improvements oil has become easier to find than anytime in human history. On top of that, alternative energy is steadily eating away at oil’s preeminence as the fuel of choice for the global economy. Finally, and the biggest change, are computers and the internet. One could write a whole article on how they have made things cheaper and more efficient. Not to mention what’s waiting in the wings with robotics, machine learning, and artificial intelligence.
The result of all this is while we may experience short bumps in inflation, it does not look like the COVID-19 response will cause significant inflation in the near term.
What’s next
It is our view that once we get thru the election that the economy will continue adjusting to the post-COVID world. There will be opportunities and threats for investors to deal with as there have always been. We continue to monitor markets and the economy closely to either avoid or take advantage of those. If you have questions or concerns about your portfolio or your financial plan please reach out to me and we will schedule a time to meet.
As 2020 draws to a close, my team and I would like to wish you and your families a heathy, happy and prosperous holiday season. We deeply appreciate your confidence and trust in us and look forward to working with you in the new year. •
[1] For example, the Black Death plague in Europe effectively ended Feudalism.
[2] As a side note, where things are out and where they may go, I think it is likely that the U.S. will raise taxes in the next few years regardless of the election outcome due to financial pressures; we should plan accordingly.