Imagine a world where the silos are bursting with grain, but people are starving. Something is obviously wrong. It’s even worse if there is a pandemic.
Now picture a world with an abundance of savings but people, due to no fault of their own, lack purchasing power to keep their families fed and housed. Something is wrong.
But wait a minute: What does an abundance of savings look like?
When there is more supply than demand, prices go lower, even into negative territory. We recently saw the price of oil go negative. Sellers were begging buyers, “Please we will pay you to take our oil because the cost of storage is killing us.”
Same with savings. With the savings deposited, the banks, retirement fund managers and insurance companies offer the cash as “capital” that can be invested for the right price. And what do we call that price? Interest rate.
So interest rate is the price of capital and it has been behaving like the price of oil. You take your savings to a bank and expect to get interest income. Some banks, however, will charge you for keeping your money. Negative price of capital.
Some see the negative price of capital as a funcion of central bank policies for easy money in the aftermath of the Great Recession: “It is cyclical and not here to stay.”
Others say there is a long term superabundance of capital that is structural, and not just cyclical. “Low interest rates will be around for a decade or more,” according to Bain & Company, a US consultancy.
Bain compares the growth of global financial capital with the growth of global GDP over the past several decades. The former clearly outstrips the latter.
The researchers at Bain point to the growth in numbers of people between the ages of 45 and 59 around the world – especially in China, India and other emerging economies:
“People in this age bracket have moved past their prime spending years and make a higher contribution to savings and capital formation than any other age group. These ‘peak savers’ will represent a large and growing percentage of the global population until 2040.”
Bain estimates that global financial assets, meaning the supply of capital invested or available for investment, totaled around US$220 trillion in 1990 or 6.5 times global GDP, and that this grew to US$600 trillion in 2010 or 9.5 times global GDP. And it will probably rise to US$900 trillion in 2020 or ten times global GDP.
The point is, in the last three to four decades the global economy has hit the sweet spot where global financial assets grew faster than global income or GDP. Why so?
The trend line for GDP growth is defined as (population growth) + (productivity growth) period. For rich countries, that is like (0.5% growth) + (1.5% growth) or 2.0% GDP trend line growth. For emerging economies it could be (1.5% growth) + (2.5% growth) or 4.0% GDP trend line growth.
On the other hand return on invested capital could be anywhere from minus (in case of bankruptcies) to double digit. In the aggregate the returns tend to be better than 5% or 6%.
Except in years of a pandemic. So here is our Plan A/Plan B dilemma:
Plan A: If this pandemic lasts only a year or two, superabundance of financial assets should continue and interest rates should remain low.
Plan B: If this pandemic lasts three or more years, the age of abundance of financial assets could come to an end and interest rates could begin to rise.
Every policymaker should strive to make Plan A the likely outcome.
Here we will not go into epidemiology and whether more polymerase chain reaction (PCR) testing will make that outcome likely.
Rather, we would argue for more fiscal deficit spending. The cost of debt today is nearly zero if not negative in some economies. This is indeed the time to “nationalize salaries,” keep wage earners on payroll and keep disruption to a minimum. Once small businesses disappear, they are very difficult to re-launch.
If there was ever a Keynesian moment, it is now.
The Bain researchers add an even more helpful point. If financial capital is in superabundance, what is in scarce supply? Trained, talented, creative, innovative, eager workers.
In big capital letters, WORKERS! They could be retired or they could be young, but good, trained people are the scarcest commodity in this world. What a time to be investing in education, especially when the football stadiums are empty.
In this age of the pandemic, fiscal policies around the world should not only keep organizations – legal persons, as they say – alive, but also keep good workers in touch and in employment and ready to jump-start the economy.
At the end of the day, it is workers who will restart our engine of growth. Spend the money. Fiscal deficit in times of low interest rate is the best investment for the future.
Former longtime Tokyo-based Merrill Lynch analyst Matt Aizawa currently watches world news and markets, and continues to crunch numbers, beside a lake north of the city.