The American Dream 2.0
As an idea that encapsulated the principles of equitable, broadly shared growth and meritocracy, the American Dream allowed the United States to become the world's premier economy. But in recent decades, the dream has ceased to be a reality, and more and more workers have fallen behind – possibly for good.
Alexander Friedman
JACKSON, WYOMING – It is time to admit that the American Dream is dead. Its underlying conditions – strong, consistent economic growth and a meritocracy structured to keep the rich from gaming the system – no longer hold true.
Nonetheless, an American Dream 2.0 is still possible, and it will be up to those now contending for the White House to offer a blueprint for making it a reality. For starters, America’s leaders need to explain the problem clearly. The Declaration of Independence proclaimed the “pursuit of happiness” a central feature of American life. Since 1776, each generation has sought upward social mobility; and for a long time, many – though not all – met with prosperity.
For over a century after the Civil War, breakthroughs in energy, medicine, telecommunications, and transportation reshaped America (and the world). Economic productivity grew dramatically, as did the average life span. And for most of this period, a rising tide really did lift most boats. Politicians from both parties embraced the national ethos that anyone could get ahead through hard work and gradually, if imperfectly, made it accessible to immigrants, nonwhites, women, the disabled, and others who had historically been excluded from the promise of American life.
But when economic growth began to slow in the 1970s, voters grew frustrated, while oil shocks, Watergate, and the ignominious end of the Vietnam War compounded the public’s sense of what President Jimmy Carter called America’s “malaise.” It was against this dismal backdrop that Ronald Reagan campaigned in 1980 on a promise to deliver “Morning in America.” With the US Federal Reserve having signaled its willingness to do what was necessary to rein in inflation, taxes were cut, and America was fundamentally transformed from a country of savers into one of borrowers.
In the ensuing decades, financial leverage drove growth onward, but the American Dream was living on borrowed time. Americans were going into debt to buy foreign goods, and the producers of those goods were buying US government debt, thereby keeping interest rates low. Though Americans felt prosperous, the real economy was growing at only half its previous rate, and median wages were plateauing.
Meanwhile, the Fed busied itself trying to put out periodic fires in the financial markets. Yet it inadvertently made the problem of rising inequality even worse. By 2007, its policies had artificially expanded financial markets, where assets are held largely by the wealthy, to three times the size of the real economy.
The American Dream works only when growth is broadly shared and structural impediments to advancement are scarce. Neither is true today. According to the Congressional Budget Office, annual growth rates of 4% are not coming back – at least not anytime soon; 2% growth is the most that should be expected. Moreover, the innovations that drove growth in manufacturing employment and upward mobility in the past have been superseded by digital technologies. For all their convenience, the Amazons and Ubers of the digital economy are destroying working-class jobs and driving down wages.
Making matters worse, the US tax code has increasingly come to favor capital over labor, which helps to explain why labor’s share of national income has been declining. All told, there is too much debt for the young, too little retirement savings for the post-1945 Baby Boom generation, and a lack of job flexibility and security for the displaced and unemployed. Trying to get ahead has become a Sisyphean task.
Fortunately, a better narrative is possible. We already know what we need to do to help rebalance the playing field and restore deficit-neutral growth and dynamism. For starters, we should be reducing student debt in exchange for national service in fields like teaching, first response, and rural medical care. Not only is this the right thing to do, but it would also galvanize a new generation of public servants in socially important areas currently suffering from labor shortages.
Second, we must eliminate tax breaks – namely, the stepped-up basis loophole for estate taxes and the carried-interest rate – that widen and entrench the wealth divide. In doing so, we could unlock hundreds of billions of dollars in new tax revenue.
Third, that newfound tax revenue should be used for three key purposes. First, America needs to provide tuition-free community college to re-train its workers, many of whom have been – or eventually will be – displaced by automation and other new technologies.
Second, we need a national infrastructure program – a modern version of President Franklin D. Roosevelt’s Works Progress Administration – which could employ many of those who have lost manufacturing jobs.
And third, it is time to establish a national trust fund for student loans, which should then be repayable from a predetermined proportion of the student’s subsequent income for a specified number of years. Students who end up with low future incomes would pay less than they borrowed, but this would be offset by higher earners.
Fourth, the federal minimum wage must not only be raised, but also be indexed to the rate of inflation. This would both help people keep up with the rising cost of living and, as the Federal Reserve Bank of Chicago has shown, increase aggregate economic activity.
Fifth, we must make access to basic child care a universal good, or women’s participation in the labor force will continue to fall short of its potential. And finally, we need to give everyone access to the same retirement-savings benefits as the rich; namely, through an expansion of the Thrift Savings Plan, which acts like a 401k but provides critical tax benefits that most workers currently lack.
Empires rise and fall – and sometimes they rise again. America’s current trajectory does not bode well. But if we act now, we can still fashion a new American Dream for the world’s largest economy.
Alexander Friedman, an investor, is a former Chief Executive Officer of GAM Investments, Chief Investment Officer of UBS, Chief Financial Officer of the Bill & Melinda Gates Foundation, and White House Fellow.
As we continue to explore the events of the past 10 to 20+ years and how the global central banks continue to attempt to navigate through these difficult times, we want to take a few minutes to try to understand and explain how the capital that has exploded into the global markets has been deployed and used to chase returns, risk and opportunity and may continue to be deployed more efficiently going forward.
Read Part I of this series here: https://www.thetechnicaltraders.com/global-central-banks-move-to-keep-the-party-rolling-onward/
The recent news that the global central banks may begin a new round of stimulus and easing got us thinking – “what next?”. Over the past 10 to 20+ years, global central banks have attempted to prompt an economic recovery that seems to slip past economic planners and we believe that is because core functions of the global economy are weaker than many expect.
We’re going to try to explore some of these factors and prepare traders for what may come in the future months.
Much of the capital that was dumped into the markets was deployed into the global equity markets as investments in emerging markets, capital markets, and the US stock market. As much as everyone wants to think this capital went into infrastructure and other essential investments, much of it went into the only thing that was capable of generating an easy return with limited risk – the global stock market.
At first, after 2008, we saw an immediate jump in emerging markets. This sector of the global economy had been hard hit by the collapse in 2008-09 and an incredible opportunity existed because of a price anomaly that was created near the bottom in 2009. Emerging markets were recipients of some capital when the central banks began to infuse money into the system, but their equity markets were uniquely positioned for advancements because of the pricing levels after the crash.
The SPEM chart below highlights the recovery in the emerging market that took place almost immediately after the bottom formed in 2009. We can clearly see the immediate price advance and the resulting sideways price action after 2011. Once this sector recovered up to previous 2007 levels, there was really nothing else to push it much higher.
Traders should also take notice of the rally in 2016 and 2017. This rally was based on forward expectations that renewed interest in emerging markets would result in increased returns.
These aligned with expectations resulting from the US Presidential election (2016) as well. This price advance consisted of a +86% price advance from $23 to $42. Could it happen again?
We believe the next phase of the global market recovery will result in a similar type of price advance after new lows are established in emerging markets. Skilled technical traders should continue to plan for and prepare for this type of setup once emerging markets complete a process of exploring lower lows to form a bottom. This process should complete just before the 2020 US presidential elections and will likely result in another price anomaly setup where the price is well below expected asset levels (extreme pessimism) and will set up as an incredible +40% to +80% upside potential as renewed optimism and the continued transitional process of the global economy persists. Traders just need to wait for the setup – then execute their trades.
The continued process of how capital rolls from one environment to another in search of returns is something we have attempted to explain in detail over the past months. We call it the “capital shift” process. Our belief is that capital (cash) is always hunting for suitable investments in various forms and continues to shift from one environment (market segment) to another as opportunities (ROI) and risks (healthy investment environments) change. So, think of capital as a migratory asset that continues to shift into and out of various segments of the market as opportunities and risks present themselves.
One of the biggest benefactors of the quantitative easing and central bank policies of the past 10+ years has been the US equity market. Take a look at this NAS100 chart to see what we mean.
When we take into consideration the post 9/11 market rally in this NAS100 chart (highlighted by the blue rectangle) we can see that, at that time, the capital was focused away from the US markets because other foreign markets were better positioned in terms of ROI and risk. Even though the US was engaging in moderate QE processes to recover from a moderate economic crisis, a price advance in the NAS100 was muted – nothing like the right side of this chart.
The post-2009 advance in the NAS100 is a completely different story. The technology sector in the US had shifted away from a heavy risk factor and into a “unicorn” mode by 2012/2013.
This shift in the investment environment meant that global traders saw the US technology market (NAS100) and an excellent opportunity for capital deployment. As more and more cash poured into the NAS100 chasing these gains, prices continued to skyrocket higher. What next?
Unless the dynamics of this market shift away from expected gains or the US Dollar weakens dramatically, we believe the US stock market will continue to experience some volatility and continued price advancement while capital waits to see what happens throughout the rest of the global market.
We do believe the increased volatility of the past 2 years highlights an extended risk for rotation over the next 2+ years and we believe a move lower may be something we have to prepare for as the 6000 level has already been established as support. Therefore, we are not suggesting the NAS100 will go straight up from here. We are suggesting that unless something dramatic happens to change the economic environment, the US markets will continue to be viewed as opportunistic by global investors and that dips in price, even big ones, will likely respond with a nearly immediate recovery in price – even if a dip were to happen well below the 6000 level.
Once the economic environment shifts away from opportunity in the US, then all bets are off in terms of downside risk – if this ever happens.
Another factor that everyone must be aware of is Real Estate. Recently, US real estate has continued to rally as rates have continued to maintain some level of affordability throughout most of the US. Certain areas have gotten very un-affordable and these markets are already experiencing a pricing reversion where prices are declining as sellers attempt to attract buyers at high prices. Overall, though, the health of the US real estate market is still moderately strong.
One thing that we would be concerned about is a perceptional shift away from buying if the US Fed and global central banks engage in new stimulus processes. Consumers may view this process as a warning that some concern is underlying the efforts of the central banks and hold off on buying real estate while they wait to see what happens after the US 2020 elections. We believe this may already be happening right now.
CONCLUDING THOUGHTS:
The REZ real estate ETF continues to push higher as pricing becomes an issue and sales levels continue to support a fairly active market. We are concerned that a sharp change in perception could be taking place over the next 12+ months as fears of a change in US political leadership may thwart or diminish some forward expectations. Investors need to pay attention to all aspects of the markets in order to prepare for future opportunities and price moves.
In Part III of this article, we’ll look into some of the fundamental elements of the US and global economies and how the past actions of the US Fed and global central banks may have set up the global markets for the bigger price rotations we are expecting over the next 12 to 24+ months.
