By Caroline Baum, MarketWatch
The U.S. stock market /zigman2/quotes/210599714/realtime SPX -1.08% /zigman2/quotes/210598065/realtime DJIA -1.51% is near all-time highs, the unemployment rate is near 50-year lows, the Federal Reserve reduced interest rates by 75 basis points in a three-month time period, and the yield curve has un-inverted. So all’s right with the world, or at least the U.S., right?
Not exactly. It’s too soon to sound the all-clear.
As a counter to the good news, tariff wars have constrained commerce, manufacturing activity, business investment and economic growth across the globe. Even China is feeling the effect.
The U.S. economy is chugging along at a rate close to its estimated potential of just under 2%. Nothing more, hopefully nothing less.
Pro-democracy protests are racking countries from Hong Kong to Chile to Lebanon to Iran, which eventually will manifest itself in lost output.
And no, destruction of the capital stock, with its implication for future investment, is not a net positive for an economy as scarce resources must be devoted to rebuilding. (See Frederic Bastiat’s parable of the broken window in “That Which is Seen and That Which is Unseen.” )
If things are going gangbusters as the stock market suggests, then why are interest rates so low across the spectrum of advanced nations?
“The Good News Is the Bad News,” reads the headline of a story by Neil Irwin in the New York Times Nov. 28 print edition.
The coincident demand for stocks (risk assets) and government bonds (safe assets) says something about the economic future.
“The current level of longer-term interest rates in every advanced nation makes sense only if the world is going to remain in a low-growth, low-inflation mode for many years to come,” Irwin writes.
Of course, crystal balls tend to get cloudier as the forecast horizon lengthens. No one who lived through the 1970s and 1980s would have predicted that we would witness a decade of near-zero or negative interest rates in the developed world — along with persistently low inflation.
If inflation is a monetary phenomenon, which it is, then central banks are doing something wrong.
The low or negative return on safe assets has created some reaching-for-yield in low credit-quality bonds, as central banks have noted. That said, if 2% growth is as good as it gets in the U.S. today, no wonder interest rates are shockingly low.