One of the scariest terms used in investing is the phrase “It is different this time.” Usually, when things do not seem to be working as they should, and the market goes up without explanation, people begin to think things have permanently changed from the way they used to be. For example, the dotcom era. While the NASDAQ market was going up over 80% in 1999, even though many companies were not making any money, people explained things “were different this time.” When you see those words, as an investor, you should begin to run.
…I am beginning to wonder if we can use that term when it comes to recessions. For as long as business has existed, we have had cycles of boom and busts, growth and recessions. How can I begin to even think about saying this time is different? The answer to that question is within the past 10 years. For hundreds of years before that, something called Quantitative Easing had never been a part of the picture.
Let me explain: Quantitative easing is a policy in which the Federal Reserve purchases government securities (bonds) from the market in order to lower interest rates. So with the stock market falling in December 2018 the most it had ever fallen, Federal Reserve Chairman Jerome Powell, with his tail tucked between his legs, turned 180 degrees from his previous month’s comments and stated the Fed was there, unafraid, with the power to add to its balance sheet (quantitative easing). The stock market has soared and not looked back. I am not saying we will never have another recession, but I am saying the future of economics is going to be different now that global central banks have discovered the power of Quantitative Easing.
In case you have been asleep since March 2009, the economy and market has been in the longest expansion in the history of America. Is it possible that the introduction of quantitative easing during this time has changed things for the economy going forward? As in…forever?
The evidence in Japan makes one think it is worth watching. Take a look at the chart below, and really study it! The red bars show recessions in Japan dating back to 1998. The length of them shows the depth of the recession. The bigger the red line, the deeper the recession. The grey squiggly line is the Bank of Japan balance sheet. As it goes up, it means the Bank of Japan is buying assets (Quantitative Easing) in the marketplace. What you will note is from 1998 to 2012, the bank increased its balance sheet by about 50%. During those 14 years, there were 16 recessions, or about one recession every 10 months. But then look at what happens from 2012 to today. The balance sheet increased by 300% in a matter of seven years! Common thinking would conclude the entire Japanese market would fall apart and the “system” would implode. At least that is what we are always told. Instead, what you see is only three recessions in the past seven years (one recession every 2.25 years roughly), and the three recessions that took place lasted only for about one quarter and were VERY shallow. In fact, all three recessions in the past seven years register as the lowest in size of the 19 recessions over the past 21 years.
This chart is only through 2010, but it doesn’t matter. There hasn’t been a recession since 2009 in case you missed it. We are currently in the longest US Expansion in History! The grey lines in the chart above are quite a bit more frequent before 1930 in case you didn’t notice. This brings me to my next point:
Being off the gold standard has been awesome for stocks!
In 1933, the country effectively abandoned the gold standard. Having a more fluid currency allowed our country to react better to excesses and imbalances. This isn’t to say that we have gotten it perfect. There are times when the excess is a bit too much (2000) and other times when liquidity is tight (2008). You can see by the chart that after abandoning the gold standard in 1930, the recessions became less severe and less regular. Fast forward to 1970 and you will see from that point on the recessions got even further spread out. I would argue this has everything to do with the US completely severing the link between the US dollar and gold in 1971.
Up until the great financial crisis in 2009, the US had only dabbled in QE, having never really used QE as a tool to stave off or reverse a recession. In 2009, the floodgates were opened:
When you overlay the S&P 500 against the Fed balance sheet, you will find the stock market performing very well. Since the end of 2018, the Fed balance sheet has been dropping, making one ask if it is a shock that the stock market hasn’t really gone anywhere for the past 20 months?
Since going off of the gold standard, the US economy has seen shorter and less frequent (although arguably more violent) recessions. When you combine being off the gold standard with QE though, the economy is now reaching a new, never-seen-before level. We are now in the longest expansion in history, which is similar to what Japan has been experiencing since it enacted an aggressive QE program:
In order to answer the doom and gloomers who will argue hyper-inflation is just around the corner and this is all a facade, they will argue that although the stock market is up hundreds of %, the US dollar has lost 96% of its purchasing power over the last XYZ years. On the surface, this seems like a logical statement. Everyone knows that you could buy a candy bar 30 years ago for 5 cents, while that same candy bar today costs $1.00.
Left here, this argument seems convincing and causes the uninformed angst that can lead to anger and a desire to buy a bunker stocked with ammo. It is best though to live in a world of full truth, which brings balance and perspective one may not have had.
I like to ask a simple question to prove my point when addressing this half-truth. It goes like this:
“If you had to work for 10 minutes today to earn 1 gallon of gasoline that costs $4 per gallon, are you richer or poorer today compared with having to work for 20 minutes to earn a gallon of gas X years ago when gas cost $2 per gallon?”
You see, most who make this argument of a devalued dollar forget to mention that we are making many more dollars per hour to do the same job. Sixty minutes of labor in 2019 is the equivalent of 60 minutes of labor back in 1980. That is the constant. While the price of that candy bar has skyrocketed, the amount of dollars we get for 60 minutes of labor has also skyrocketed.
Just to prove my point, let’s take a look at an ounce of gold the last time it went through a parabolic spike in 1980. The average price of gold in 1980 was $615/oz. Back in 1980, the minimum wage was listed as $3.10 per hour. This means it would require the minimum wage laborer to exchange 198 hours of labor (before taxes) to earn that ounce of gold. Today, with gold sitting at $1,480/oz. and the minimum wage at $12.00 here in California, the minimum wage worker need only exchange 123 hours of labor to earn that same ounce of gold! So while the price of gold is in fact up 140% during this time frame, the amount of dollars earned per hour for the minimum wage laborer has gone up FASTER than the price of gold. A minimum wage worker can work 37% LESS HOURS to buy an ounce of gold today compared to 1980 when the price of gold was almost 60% less! I realize I am cherry picking data points here, but the thrust of the point should not be missed… just throwing out the price of goods and services without the corresponding recognition of the wage increases is ignorant at best and deceptive at worst.
Oscar Wilde from Lady Windermere’s Fan states it best:
“What is a cynic? A man who knows the price of everything and the value of nothing…”
Not to be outdone with the blasting of the truth canon:
“The real price of everything, what everything really costs to the man who wants to acquire it, is the toil and trouble of acquiring it… But though labour be the real measure of the exchangeable value of all commodities, it is not that by which their value is commonly estimated… Every commodity, besides, is more frequently exchanged for, and thereby compared with, other commodities than with labour.”
– Adam Smith, The Wealth of Nations, 1776
While the prices for cars, gas, food and candy bars have gone up, the key point is that productivity and wages have more than compensated for this increase. Instead of looking at the price of everything, as the quote above argues, learn to price everything in hours of work it takes to get it! Your anger and stress level will drop instantly.
Market gurus across social media are looking at the Fed’s announcement yesterday for QE4 (which they wrongly say is not QE – but that is a different point) and are using all the normal doom and gloom cliches:
“The Fed is kicking the can down the road”
“Blowing a bigger bubble”
“This will not end well”
“The eventual crash will be worse”
Blah, blah, and more blah. We have been hearing this for a decade, and while they have been certain and dogmatic in their views, the only thing we are certain of is they have been wrong. Of course, they will never admit that. It is always a “just wait” comment that will keep those uninformed out of the stock market even longer.
4.5 years ago, in the midst of all the comments of the impending collapse of the market, I wrote on this very website and article that stated QE Was The Foundation For Continued Higher Asset Prices.
While many thought I was nuts back then, history has shown the doom and gloom crowd to be wrong, and me to be right. 4.5 years is a pretty long time to “just wait”.
With the stock market is BARELY off all-time highs, investor sentiment is in the pits and fear is rampant.
Macro Charts (@MacroCharts) just produced a great chart showing that investors have been selling stocks at a relentless pace for almost two years. In fact, this week saw almost $14 billion of equity outflows, which is in the bottom 3% of all weeks since 2007!
Since we left the gold standard in 1933, recessions have become further and further apart. Since we completely de-linked gold and the dollar, recessions have been even less common (although more violent). Since QE was introduced as a normal tool for the Fed, recessions have gone away and the longest expansion in history has taken place. This isn’t an argument that we will never see a recession again, but if Japan is a good test, those recessions could be much short and less severe than what we have ever known. Things are different this time, because the story is different with QE. We have never seen it before, so how can anyone say with confidence it will be worse this time?
What if…it actually works the way it has been working instead?
We are in a 20-month consolidation phase near all-time highs, with people scared to death of another crash. This is the perfect set-up for a massive rally to take place that will confuse people. My guess is the market is about to go higher than anyone would have predicted.
Now that the Fed is back into the QE game, I have to ask you, are you going to miss the rally yet again?
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.