It was a rough week all around and the markets reflected the uncertainty. Even bond yields ticked higher despite the drubbing in the equity markets. A renewed surge in COVID infections and uncertainty heading into next week’s election were obvious triggers for the correction. Interestingly, the earnings and economic reports were decent. But the markets are naturally forward looking, and the outlook is as murky as it has been in a while.
On the economic reports front, durable goods orders were solid and housing data was strong. The one report that garnered all the attention, though, was the GDP report for the third quarter. Real GDP surged forward in 3Q, increasing at a record +33.1% annual rate. Of course, this comes after the contraction of -31.4% in the second quarter, as you can see below.
These big annualized changes really don’t tell us much. The actual change in quarterly growth is far more meaningful. As you can see below, after the -1.3% fall in Q1 and -9.0% fall in 2Q and the +7.4% gain in 3Q, the U.S. economy remains -3.5% below where is was pre-COVID.
This doesn’t sound like much, right? But during the financial crisis the U.S. economy shrunk basically -4% peak to trough. At the time that was a big deal!!
Another way to show it is to extrapolate what growth would have been pre-COVID compared to today’s projections. For what it’s worth, the guestimates do not see the U.S. reverting back to trend growth.
But it was the same after the financial crisis in 2007 and 2008. We never made up for what we lost during that recession either.
What’s the outlook for fourth quarter growth? It’s really anyone’s guess, but consumption will likely call the tune, just as it did in 2Q and 3Q. On the favorable side, the savings rate was elevated in 3Q, which could be supportive of 4Q spending gains (chart below). And early in the quarter spending was boosted by Amazon Prime Day. The major downside risk is that the rise in virus case counts will lead to a pullback in activity just in time for the holiday season.
Challenges in Europe
It’s was also a tough week in Europe. From the terror attacks in France to the surge in COVID infections the news has been grim. As you can see below, the rise in infections is stunning.
Renewed lockdowns will obviously lead to another period of weak growth in the Eurozone. A byproduct of this will almost certainly be deflation. Even before the latest lockdowns prices were falling in the Eurozone.
Germany is generally considered the strongest member of the Eurozone, but even here prices are falling.
This is a huge challenge for policy makers. This week the European Central Bank met and President Christine Lagarde left little doubt they would roll out more policy initiatives at the December 10th meeting. The fact they waited to do anything says a lot about how few options they really have. After all, even now the ECB is pumping the money supply like there is no tomorrow, as you can see below.
Furthermore, at the current pace the ECB will buy up all newly issued government bonds in 2021, and then some.
So, what’s left? More bond purchases or cheap loans to banks won’t do much. Just as in the U.S., it’s all about fiscal policy. It is growing pretty clear that central banks can’t create growth or inflation in today’s world. Fiscal is the only game in town. And the German bond market is telling us that the fiscal game in Europe is weak given that rates are bouncing around the lowest levels in the last few months.
Charts We Found Interesting
1. Almost 90K cases on Thursday, a dubious new record.
2. It is striking the difference in the average age of COVID related deaths across countries.
3. This is also striking.
4. The betting markets are swinging heavily in favor of Biden in the closing days. But then again, they did the same thing in 2016 and were proven wrong.
5. It seems a fair bet that whoever wins, this is headed higher – maybe a lot higher.
6. I didn’t realize this – there hasn’t been a single session of Congress since 1900 where Democrats controlled the Oval office and the House while the GOP controlled the Senate. Not sure what it means, but I found this surprising.
7. And one last provocative political statement just before the election – four-way stops are ridiculous!! Roundabouts are a far superior solution!! Now don’t get me started about the metric system.
Have a good weekend.
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