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Is the US Headed into a Recession in 2017?

Dec 7, 2016


How would you feel if your income had gone nowhere for 20 years?

The chart below is straight from the Federal Reserve Economic Data (FRED) site.

Real (after inflation) household income in the US has zigged-zagged sideways since 1997. Yet, over that period household expenses (adjusted for inflation) have risen.

People are being squeezed.

Against this background, the social unrest is not surprising.

People are disenfranchised. The system does not work for them - it works against them.

What's surprising is that the hoity-toity commentariat is so surprised. How out of touch are they?

The events of 2008/09 rang the bell on the old economic model of debt-funded growth. This was the economic model used by the middle class to maintain first-world living standards.

The next chart shows the debt trajectory of US debt since 1950. That little disruption in the trend in 2008/09 bought the world to a standstill. That's all it took to ring in the greatest economic upheaval since the Great Depression.

Which raises two very critical questions.

How dependent are we on debt?  Answer: Very.

How fragile has our system become from this dependency? Answer: Very.

Since that minor hiccup in debt accumulation, the authorities' substantial stimulus efforts - introduced under the guise of the 'wealth effect trickling down' - have only driven a bigger wedge between the haves and have nots.

No one from Wall Street was charged over the corrupt business practices that resulted in the GFC...the event that put the skids under the middle class.

Taxpayer money was subsequently used to not only bail out, but also enrich (to the tune of billions of dollars), the very people who drove the culture of greed that brought the world to the brink in 2008.

While the insiders' wealth soared after 2008, the outsiders have struggled to make ends meet. Which is the reason why I think we are seeing an increased uptake in credit card usage.

Growth in household debt is being driven from car loans and credit cards.

People with stagnating incomes are borrowing to make ends meet, while the 'haves' are paying US$300 million for a painting.

How did they not see the 2016 election result coming?

Trump tapped into the unrest. His timing was perfect. He played the right card at the right time.

Watch social mood

Social mood is extremely important. It tells us far more than the doctored data.

How people are thinking and acting is what drives economic activity. Cautious and concerned people tend to act with restraint when it comes to spending, and take offence at being lectured to by those who can afford to live on another universe - one with gated estates, private jets and luxury yachts.

Conversely, when people are feeling good, they open their wallets and purses a bit wider, and can entertain the notion of doing their bit for popular social causes.

Confidence is a very fragile thing. When confidence is lost, the economy and financial markets are at risk.

When people, collectively, start questioning their future, there are serious implications.

Americans obviously decided Trump was the better person to 'Make America Great Again'.

Unfortunately, they'll be disappointed.

The legacy of debt and entitlements is far too great. Irrespective of who took up residence in the White House, the 'Queen Mary' effect is in play...turning this debt-ship around is going to take a long, long time.

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America - great again without pain

People want things the way they used to be - Make America Great Again - they do not want the new economy.

They want to go back to a post-Second World War economy, when the US had a productive manufacturing base, jobs aplenty, oil was cheap and abundant, debt levels were low (look at the FRED debt chart to see how little debt was in the system back then), families were re-populating, and the developed world had the lion's share of economic growth.

That ship has sailed.

The components of the new world are different.

Record levels of debt. Growing numbers of people accessing welfare. Changing and ageing demographics. Workforce participation levels are falling. Global competition from China, South East Asia and India. Technology and automation.

We ain't going back; we're going forward. And the new world is going to be highly disruptive.

To make America great again requires making America lean, hungry, young and debt-free again. No chance.

The US had a purple patch for a few decades after the Second World War. Unfortunately, they took it for granted...a bit like the Clintons took the American people for granted. Complacency comes with a heavy price.

For 60 years, the politicians (of both parties) have played both ends off against the middle.

Offer tax cuts and offer increased welfare payments - these bribes compete against each other. Reduced revenue and increased expenditure.

The US is not the lean, mean, competitive machine it was in 1950. It's bloated, bureaucratic, and broke.

For the US to be great again, it needs to sign up for the economic equivalent of the Betty Ford clinic...a massive detox program.

That's not what the people really want.

What they want is an ALL gain and NO pain solution...which is what was given to them during the decades of debt excess.

A genuine detox would require enormous pain - unwinding the excesses of the past six decades is not something I think many people would go through willingly.

The last time the US went on a forced detox program was from 1933 to 1953. Debt shrank to 120% of GDP.

After the detox, the US enjoyed a period of inclusive economic success. All boats were lifted, not just the one percenters'. This is the period the people are hankering for again.

Well, the question is: Are they prepared for debt to shrink (paid and/or written off) to 120% of GDP?

When you see the numbers, you'll appreciate why Making America Great Again is a price they will not pay voluntarily.

Total US debt is US$64 trillion. US GDP is US$18 trillion. Currently, debt-to-GDP is 350%.

For debt-to-GDP to reach 120%, requires one of three things to happen:

  1. Debt to fall from US$64 trillion to US$22 trillion - expunging US$44 trillion in debt from the system, while GDP remains static at US$18 trillion. That's a lot of air to be let out of the economic tyres WITHOUT causing a fall in GDP. Expecting economic output to remain static in this situation is fanciful...unless of course there is 'helicopter money' printed and distributed that's not officially recorded as public debt.

  2. OR

  3. US GDP to grow threefold to US$54 trillion AND for debt to stay static at US$64 trillion. How do you treble economic output with static debt? Impossible.

  4. OR

  5. A combination of GDP expansion and debt contraction. This is not how the model has worked in recent years - it's taken around $4 of debt to produce $1 of economic output.

Whichever way you look at it, there are no good choices confronting president-elect Trump.

Debt and unfunded entitlement promises have to be expunged from the system for it to be be great again.

Logic tells me there has to be pain before the gain.

The previous detox period lasted 20 years. But the majority of the debt reduction came hard and early in that period.

The economic upheaval of the 1930s resulted in a rapid reduction in debt levels.

Recessions and depressions tend to change social moods. The once-loved debt is spurned.

The likelihood of Trump avoiding a recession during his first (and possibly only) term is quite low.

Given the debt levels within the system, the lack of wiggle room in interest rates, the proven ineffectiveness of QE, and an over-dependency on government transfer payments, this will be no garden variety-type recession.

The last time the US and the rest of the developed world went on a debt detox program, it was a depression.

In due course, Hillary Clinton may be thankful she dodged this bullet.

2017 is shaping up to be a very crucial year.

Please note: This article was first published in The Daily Reckoning Australia on December 05, 2016.

Vern Gowdie is a contributing editor to Money Morning - Australia's biggest circulation daily financial email. Vern has been involved in financial planning since 1986. In 1999, Personal Investor magazine ranked Vern as one of Australia's Top 50 financial planners. His previous firm, Gowdie Financial Planning, was recognized in 2004, 2005, 2006 & 2007, by Independent Financial Adviser (IFA) magazine as one of the top 5 financial planning firms in Australia. Vern has been writing his 'Big Picture' column for regional newspapers since 2005 and has been a commentator on financial matters for Prime Radio talkback. His contrarian views often place him at odds with the financial planning profession.

Disclaimer: The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

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