For managers of money, the post-crisis low growth world has had major implications for asset allocation strategies. Assumptions about returns are greatly affected by both monetary easing used to counteract the slowing and the yield curve flattening that is indicative of easing’s ineffectiveness. Recent research on demographic trends and wage growth suggest trends now in place may continue, with grave implications on returns.
My biggest macro thesis for the past two years is based on the belief that the low rate environment will continue due to the ineffectiveness of monetary policy to create sustained growth. And this means that over the medium-term, there will be a flattening of yield curves that will be most pronounced in countries that have the steepest yield curves — with relative value coming from differences in short-term rates, thus favouring investment in bonds in countries like Australia and New Zealand.
The last post I wrote on the ineffectiveness of monetary policy gets at why we should expect the bond bull market to continue as yield curves flatten in all developed economies as they had done in Japan earlier. My worry is about wage growth, because without wage growth, sustainable spending growth for the whole economy is dependent either on population growth or leveraging, either by the state or private actors.
Now, wage growth has been stagnant in the US for some time. Early in my blogging career, I even noted that real hourly earnings peaked in 1973, which is 43 years ago. Despite that peak in wages, household income was bolstered by increasing labor participation of women. But, at some point in early 2000, the labor force participation rate began to decline.
And to maintain spending growth, the US economy in the 2000s depended on the notorious housing ATM associated with that period’s unsustainable rise in house prices. But when the housing bubble popped and the US lapsed into recession, interest rates at zero percent limited releveraging in the household sector since the Fed could no longer cut rates. Yield curve flattening has allowed for some marginal releveraging, as long rates have fallen. But it has not been enough to drive the kind of growth we saw last decade.
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