It’s been a couple of weeks since we last checked in on SocGen’s Albert Edwards, whose October 11 warning that equity investors might be all set to get “fried alive” turned out to be some semblance of accurate by the end of the month, even as November is shaping up to be markedly better.
On Thursday, Albert’s latest begins with a primer on Marmite which, although amusing, I’ll spare you. Suffice to say not everyone likes Marmite (apparently, the former American Head of Syndicated Loans at Dresdner Kleinwort isn’t a fan), but everyone does like “gorging themselves on US fiscal profligacy”.
As you might be aware, Albert is not necessarily a big fan of Donald Trump’s plunge into late-cycle fiscal stimulus, a move Edwards once described as “grotesquely ill-timed”. Back in February, Albert said this about the decision to pile deficit-funded stimulus atop a late-cycle dynamic:
Whatever the arguments are in favour of tax reform in the US (and there are many), this is probably the singularly most irresponsible macro-stimulus seen in US history; to say it is ill-timed and ill-judged would be a massive understatement. The outcome of this front-end loaded stimulus package is patently obvious – it will rapidly accelerate the end of the economic cycle.
Right. In the same note, Edwards warned that Trump’s stimulus risked accelerating wage inflation and making the market nervous about Fed policy. That’s exactly what’s happened, although wages still aren’t rising as quickly as one might expect given that the labor market is quite clearly overheating. The latest ECI report found the headline print sticking at a cycle high 2.8% in Q3, but the real standout was private-sector wages and salaries, which rose 3.1% during the period, the fastest pace since 2008.
That was promptly following up by a 3.1% YoY print on the higher-frequency AHE data that accompanied the October payrolls report.
Higher wage growth is ostensibly a positive development, but the problem at this point is that given where we are in the cycle, and given that the unemployment rate is now at a 48-year low, there is a non-trivial risk that if the Phillips curve is not in fact dead, when it finally does reassert itself, it’s going to do so with a vengeance, as the chickens from late-cycle stimulus come home to roost and manifest themselves in the dreaded “rogue” inflation print.
So that’s the context for Albert Edwards’ latest critique of the U.S. economy and as ever, I would encourage you to take a moment to appreciate the fact that the Trump administration is ballooning the deficit to pay for stimulus at a time when the unemployment rate is at 3.7%. This, for anyone who needs a reminder, is entirely anomalous:
Beyond the question of a rogue inflation print and the ramifications of that for asset prices as everyone scrambles to price in the implications for the Fed and the prospects for stagflation, the other obvious problem with late-cycle stimulus is that it’s bound to wear off, leading to a kind of Wile E. Coyote moment.
“But as this years yeasty stimulus rapidly fades, the underlying fragility of the economy will be revealed and the aftertaste might yet prove most unpleasant!”, Edwards exclaims on Thursday, with the “yeasty” adjective being a reference to Marmite.
Albert goes to cite Fred Hickey in the course of explaining that when the SOX failed to make a new high alongside the S&P in September, investors should have known trouble was ahead.
Steering the conversation quickly back to Trump and the stimulus, Edwards dryly notes that while Trump’s stimulus “may have been ill-timed for where we are in the economic cycle, it certainly was perfectly timed for the electoral cycle where the strong economy featured prominently”. I get where Albert is going with that, but you’ll recall that Trump actually went out of his way (according to multiple reports), to steer the pre-election conversation away from the economy and towards the caravan “invasion”. So determined was Trump to focus more on the caravan than the economy that Paul Ryan actually called the President last Sunday to beg him to talk up the October jobs report.
Anyway, Edwards goes on to flag America’s rapid descent down the World Bank’s
“Ease of Doing Business” research. “It was incredible to see the US had slumped from 3rd to 51st place in only 10 years on ease of ‘starting a business’ and from 10th to 36th on ease of ‘registering property’!”, Albert writes, in an effort to explain why some of Trump’s reforms are a good thing. He’s quick to note, however, that “these are things that could have been fixed without exploding the budget deficit to 6% of GDP!”
Ultimately, Edwards questions the robustness of the U.S. economy by flagging business investment’s failure to act as a key driver of GDP growth.
“Despite sky high business confidence as, for example, is reflected in the National Federation of Independent Business Survey, the subdued pace of business investment is what you would expect given the surprisingly moderate underlying profits uplift, as shown by the BEA National Income Accounts (NIA) measures of profits,” Albert writes, adding the following:
But how does this strangely subdued measure of NIA Whole Economy profits square with the booming stock market measures? Not much it appears. And if one looks at a wider definition than the domestic non-financial profit series shown in the left-hand chart above, things are no different. Indeed they are actually worse. In the right-hand chart for example, we compare NIA Whole Economy national (ie including profits from abroad) pre-tax profits (as reported) with yoy growth in stock market profits. The recent divergence of the two series is astounding.
Albert acknowledges that the chart on the right is an “apples-to-pears” comparison given the red line is pre-tax, but as it turns out, “even on a post-tax, reported basis the recent rise in NIA whole economy profits has been somewhat subdued when compared with stock market measures.”
If you think NIA Whole Economy profits are a better way to assess profitability than pro-forma (read: manipulated) corporate EPS figures, then the question is simply what’s going to happen to the disconnect between those figures and S&P EPS when the adrenaline rush from the stimulus wears off in 2019. Edwards thinks it’s going to be “Marmite sandwich”, which, he reminds you, tastes like “Yuk!”