Investors Remain Cautious
Investors were cautious last week as earnings season ramped up and more companies reported. Recognizing that market movements reflect the accumulated knowledge and fears of the investing public, this past week seemed to indicate a concern about future earnings. Equity markets ended the week in the red. The Dow fell 0.23%, the S&P 500 fell 0.10%, while the NASDAQ fell 0.42%. As a sign of investor risk sentiment, the less defensive Consumer Staples sector led the pack on the upside while Communications Services was the big loser on the downside, falling 3.05%. As earnings season progresses, markets will, no doubt, react accordingly.
We have been writing about some difficult hurdles ahead that the global and U.S. economies face. Not surprisingly, many of the issues tie back to U.S. – China relations, and, more specifically, the decline of the U.S. versus the ascendency of China. This paper has not been in the camp that sees China as a threat to the United States’ role as the leading global economy. Many on both sides of the aisle believe the United States is in decline; however, this is often a case of nostalgia. Nostalgia is not historical fact. Rather, it is romantic and mostly wrong, and, in this case, the numbers prove it. Why do we think it is important to write about this now? Because these beliefs can lead to misguided political decisions, which can in turn lead to economic decline. So, what better time to point this out than in an election year?
One of the big arguments has been that China has caught up or even surpassed the United States in GDP. Using one measure, Purchasing Power Parity (PPI), they are correct. However, using currency exchange rates, the U.S. is far ahead. But, perhaps most telling is the comparison of each country’s GDP per capita, a more accurate measure of welfare. The U.S. ranks 7th, while China ranks 63rd in this metric, just below Bulgaria and Costa Rica. In the U.S., income per capita in 1990 was 24% higher than Western Europe and 17% higher than Japan. Today, those numbers are 30% and 54%, respectively. Why is this? One main reason is the United States’ investment in productivity. American workers have had higher relative productivity, driven by strong investment, particularly in education. This last point may come as a bit of a surprise to some, but, as reported in the April 22 edition of The Economist, America spends approximately 37% more per pupil than the average member country of the OECD. This, along with a strong investment rate and spending on research and development, produces efficiency and high growth.
There is a lot more that can be done, particularly in improving the access to and the quality of education for all. In the long-term, this would provide a strong boost to productivity.
We hope this piece highlights two important points. One is that the market’s focus has shifted from inflation to recession/earnings fears. The second is that the United States stands in a much stronger position relative to China than widely believed. The demise of U.S. leadership is greatly exaggerated.
Read pdf here.