Headlines, headlines. If only we weren’t so dependent on them we might see through them. You’ll remember a piece I did a few months back showing historically when the press where very negative on markets how they responded so positively very soon after. The same was true of when they were positive. Take the guidance from them like a loose road signpost on a windy day, or perhaps a faulty watch – right now and then but not great for decision making.
You will therefore have seen a stark change in financial headlines over the last two months where we have moved en masse to ‘recession chat’. Googling UK recession will return over four million entries for the last month alone. 2.64million of those are from the last week, so expect this to perk up closer to Christmas. The CBI are behind many of them and the starkness of the headline and detail, point to a ‘decade of lost growth’, ‘UK to fall into a year long recession’. Why, all of a sudden? It’s important. Let me explain.
What is a recession?
A recession is classed as two quarters of negative growth. Negative growth? (I’ll leave that conversation for another time). But to use an analogy/metaphor, think of your waistline (inflation) where it’s just become a tad puffy. If it carries on at that rate there are issues like diabetes etc, so you have to retract it (economy) sustainably. No-one wants to be the surgeon proclaiming the operation was a success but the patient died. Excessive interest rate rises aren’t good for the patient.
Central banks have been focussing on choking inflation by using higher interest rates to weaken tight labour markets – where there are lots of available jobs and not as many wanting to do them, which can create wage inflation. That really isn’t a good thing. In the US, unemployment is at a 50 year low with 1.7 job openings per person. ‘I’ve had enough’ early retirement, deaths, and negative net immigration haven’t help.
We have higher prices now in part due to corporate opportunism – blame the price on a COVID, a Ukraine, a whatever – but also disrupted supply chains. If people want something and there is less of it, we have price hikes that are unsustainable in a balanced economy. Simply put, economies have to function in a balanced way, and if ‘big stuff’ breaks, a ‘recession’ is the least of our worries.
You’ll see evidence now with strikes, as workers demand compensation for the dramatic contraction of the real value of their wages. This isn’t the employers’ doing, and as such can be one of those ‘big stuff’ things that breaks. The worry is this becomes ‘baked-in’ inflation as employers simply pass these wage increases onto consumers who demand more wages – the ultimate negative feedback loop which can cause implosion.
The traditional cure for inflation (think ‘over extended belly’ above) is an economic slowdown which reduces demand and increases unemployment.
Learning from others
In the US (we will follow what happens there), increased interest rates are having the effect. Net profits have shrunk more than expected in the third quarter. Central banks have engineered a squeeze on fat profit margins to contain inflation. Policy can push equity markets lower, reducing confidence and tapering the desire to spend based on that confidence. Higher taxes, credit costs and fear mongering are a great strategy which rein in our ‘animal spirits’.
So, when you see the results above, it’s a good thing. It’s happening.
Economies should be like the first time you cycled a bike and achieved speed wobble. There was a prime speed just before the wobble.
Is there evidence of this controlled, or engineered slowing, and in particular the job market? Major tech corporations have been laying off large numbers of staff. In Ireland, Intel has offered three months unpaid leave in Q1 2023 to thousands of staff in a bid to manage costs while retaining skilled labour.
The UK has done the same. Hunt’s Autumn statement basically contained higher taxes and fear mongering which will drop real disposable incomes by around seven per cent over the next two years. The hope is that this curbs enthusiasm, and if the headlines are anything to go by (spending is slowing), it may be working. This will ease the need for higher rates which could create a deep, damaging recession.
It’s worth remembering for long-term investors that when the fundamental news is bad, the investment news is often good, because you can buy the future returns for less.
If you have a question about the content of this column or an investment query, please get in touch by emailing [email protected] or by calling our Truro office on 01872 222422.
For more market analysis from Peter McGahan visit our Finance channel.Tags: Recession Last modified: December 15, 2022