Stock markets were spooked last week by news that manufacturing and new hiring in the US were both weak last month. The markets are right to be worried, but not just for the reason you might think.
The problem is not that a recession is imminent: last week’s news that unemployment has fallen to a new low suggests it might not be. Instead, the mere fact that there are signs of weakness draws attention to a profound problem with the US economy.
I say so because if we look at macroeconomic policy the economy should be nowhere near recession. Even before the recent cuts, the Fed funds rate was below 1 per cent in real terms. In the past, such a low rate would have triggered a boom. And fiscal policy is also loose. The OECD estimates that the structural budget deficit will increase by 0.5 per cent of GDP to 6.6 per cent this year, the largest in the developed world.
The fact that the US economy is faltering despite such enormous support from macro policy tells us that something is very wrong. But what?
A big clue lies in the fact that capital spending is already falling. Undoubtedly, President Trump’s trade war is partly to blame for this not just because it is raising the prices of some imports, but also because it is generating uncertainty, which deters investment.
This, though, might not be the whole story because investment was patchy even before President Trump took office. In the five years to 2016 it rose only 5.3 per cent a year, despite the fact that it should have been strong to make up for the slump during the recession. That compares with growth of 7.5 per cent a year in the 50 years to 2007, a period that includes seven recessions.
This suggests that other longer-term factors have been holding back investment, many of which we see in the UK too: a lack of current innovation; weak animal spirits; a fear of future competition from better technology; or more abundant spare capacity than economists generally suppose. It is these factors that have generated what Larry Summers calls secular stagnation – the economy’s inability to grow much without policy support.
But there’s something else. Profits are also falling – official figures show that domestic profits are lower than a year ago and that the share of profits in gross domestic product (GDP) is lower than it was in 2012 (or indeed in the mid-1960s). Yes, a few big monopolies are doing OK, but ordinary businesses are struggling. And weak profits mean low capital spending, and hence low growth.
This is a deep problem. Since the 1980s, the political regime has been tremendously favourable for capitalists; taxes have been cut, bosses have been empowered and unions greatly weakened. But this environment is not now generating profits, capital spending and growth to the extent that we saw in the 1980s and 1990s.
In this context, worrying about whether the US will slip into recession or not misses the point. The fact is that trend growth is weak, for deep structural reasons. And this should trouble stock markets.
