By now we all know that governments around the globe have implemented the largest single stimulus plan in the history of economics. There is no doubt that the global stimulus plans have been highly effective. What is less certain is how much of the underlying structural problem we have actually solved with these programs. Let’s not forget – debt got us into this mess and much like the Great Depression and Japan, it is unlikely that short term stimulus will solve these long-term structural debt problems. In fact, you could argue that much of what governments have done have actually made the problems worse. Unfortunately, we haven’t solved the problem of excess debt and all the stimulus does is prolong and delay the eventual day of reckoning with this mountain of debt. Comstock does a wonderful job of detailing these long-term issues.
Strategists at Morgan Stanley Europe are still quite optimistic that the stimulus plans will continue to inject equity markets with life. They do a nice job of connecting the dots between the short-term effects of this stimulus and the long-term structural problems that still exist. In essence, we’ve stimulated the markets in the near-term, but kicked the can down the road:
We have a positive bias to equities in the near term and believe in range-bound markets for years to come. We believe downside risks to equities are limited until this new growth (and earnings) cycle ends, probably when rates / inflation go up by too much, or when there is a negative growth surprise in China. Our economists expect the 1st Fed hike by mid-10, and expect 10% China GDP growth in 2010.
Post the rebound rally, we expect some sort of trading range for years to come because of the structural problems of the financial sector and household deleveraging as well as the poor state of government finances. We expect MSCI Europe to be in a broad trading range for years to come, between 600 and 1200 (Latest value 1046). Timing-wise, we do not expect material fiscal tightening and/or significant spending cuts in the next 12-18 months, but the 95/96 VAT hike in Japan highlights the risks of a policy mistake. The implication would clearly be negative for growth and equities, as evident in Japan. At the sector level, we would highlight A&D, Building & Construction, Bus & Rail, Healthcare and Software as the biggest potential losers from a significant cut in government spending.
The accompanying chart shows just how beneficial the Japanese stimulus was in the short-term. Ultimately, it proved to solve none of the problems that actually caused Japan’s financial crisis. The stock market, obviously, continued to suffer over the long-term:
David Rosenberg at Gluskin Sheff notes the extreme effects of the stimulus and the unlikely long-term impacts:
While the U.S. economy (global, in fact) looks like it is emerging from recession, the reality is that the patient is so loaded up on medication that it is next to impossible to conduct an accurate assessment. All we can ascertain is that while a -1.0% real GDP growth rate in 2Q doesn’t look so bad, and sequentially is a fabled green shoot, the reality is that without all the doses of fiscal stimulus, U.S. GDP would have contracted at a 6.0% annual rate. We see from the folks at Goldman Sachs that the dramatic initiatives this quarter in the auto and housing sectors are making the difference between a 0% GDP performance that we would otherwise see and the 3%+ GDP print we are likely to see.
Investors do have a right to know what the economy does look like organically, and it will probably get a chance to have a peek in the fourth quarter, where the odds of a 4Q 2002-style relapse are better than 50-50, in our view. The consumer needs steroids on a constant basis — without them, auto sales head back to 8 million units (as they are seemingly doing now that cash-for-clunkers is history). And, we can see that MasterCard Advisors’ SpendingPulse data found that sales at apparel and specialty stores were 6.6% below depressed year-ago levels in August — maybe we need a cash-for-clothing program too.
We’ve administered a short-term solution to a very long-term problem. Unfortunately for the global economy, the only solution to our problems is patience and prudence. We’ll get through this, but no short-term cure is going to fix the underlying structural debt problems that continue to plague the consumer and the global economy. The global economy is still addicted to debt and leverage. It is unlikely that we’ll solve these problems until we admit we have a problem, bite the bullet and begin focusing on the real problems that got us in this mess to begin with. Printing more dollars and encouraging more reckless lending is not part of that solution…
Disclosure: No positions
