As we roll into the 3rd quarterly earnings results, it’s becoming more and more difficult to find silver linings. Some might say that slow economic times are part of cycles and are to be expected. Okay, I agree with that in general, but when we examine the math, a perspective comes forth that needs serious consideration. For instance, when looking at our Gross Domestic Product (GDP), is there really a material difference over time between a 1.0% growth rate and 3.21%? After all, we’re only talking about a meager 2’ish percent gap.
Let’s walk through a household analogy to see if we can gain appreciation of this math. Let’s say your after-tax income is $10,000 per month and your expenses on average equal $9,500, so you’re paying your bills and have a little bit left over.
Then all of a sudden you have an incredible bad streak occur and every single month some unexpected cost drops in your lap. The first month you put $5,000 on your credit card to pay an expense; the next month $7,000; then another $5,000 and in the fourth month a whopping $10,000. So, in 4 months you have $27,000 in credit card debt and you shake your head in disbelief, because you wonder how in the world you’re going to pay this off when you’ve only been saving $500 per month. Do you feel that pain?
Okay, let’s set that picture aside for a moment and circle back to it.
A brief history of the GDP and what it looks like today
The below graph represents the U.S. Gross Domestic Product and since 1948 the United States has expanded by an average of 3.21%.
If you look at this next graph, it shows the 3.21% growth rate, moving from lower left to upper right. Then I illustrated growth rate scenarios A +2.0%, B +1.5% and C -0.5%, which are all below 3.21%. Which is fine every once in a while, but you can’t make a habit of it.
Historically, whenever our country has experienced a negative growth number (remember the technical definition of a recession is 2 negative quarters in a row), we’ve always bounced back with a 4%, 5% or even bigger year or several years. Take a look at the first graph – notice any dip below zero, how the bounce always gets us back on course.
Here’s the challenge with the A, B and C scenarios in my graph above. The only way you get back to your average of 3.21% is to experience a D, E and F well ABOVE the 3.21%. Let’s look at the graph below to see what has gone on since the 2007/2008 implosion. Of the 34 quarters we’ve had, only 7 quarters were above the 3.21% average and only 2 of those 7 were north of 4%. Um, that math doesn’t work.
What options do we have? Are there any?
Now, let’s circle back to our painful household example, where we were saving roughly $500 per month, but through misfortune, accumulated $27,000 in credit card debt. But, let’s discuss this in tandem to what corporations would do if they found themselves in a similar situation.
What are our options? We could cut our expenses and divert the savings toward the debt. That’s a good start. We go out to eat less, cut back on cable and maybe fewer rounds of golf. What would a corporation do to cut costs? Answer = RIF (Reduction in Force), that’s a nice way of saying, “fire a bunch of people”. If companies aren’t doing a pure RIF, they are certainly cycling down their payroll costs. In other words, let the higher compensated people go and replace them with lower paying (less qualified) people.
What’s another option? How about refinance the house? Interest rates are down, so getting a lower rate would cut our mortgage payment substantially. Nice. How about a corporation? Answer = stock buyback. I did a video on this in June as part of my TREND series
Wall Street has been in a Revenue Recession, for quite some time
There’s a saying on Wall Street, “you can’t cut your way to profitability”. Whether it’s your household or a corporation, you can only squeeze so much blood out of a turnip. Something has to happen on the income side. If you want to pay off the $27,000 in credit, plus the interest that’s accumulating, you have to make more than $10,000 a month.
As for Wall Street, we’ve been in a Revenue Recession for quite a while. As you watch the Q3 corporate earnings being reported over the coming weeks, you’ll see a lot of “ABC company missed revenue, but met the street’s expectation for earnings.” This is the dynamic I explained in the video above.
Even though we’ll see yet another round of poor Wall Street financials and poor economic indicators, the ‘players’ will keep things intact until the election. Regardless of who wins, we’re staring at real recession numbers, whether the government wants to be honest in their reporting or not. The credit card is maxed out, the interest is piling up and it’s not likely we can go to our boss and ask for a 20% raise ‘just because we need it’.
What does all this mean and how does it impact you?So, back to my question in the beginning: is there really an impact on our lives if the GDP growth is 2% less than what it's supposed to be? Michael J. Hicks, Ph.D., the director of the Center for Business and Economic Research recently concluded a study of addressing that and when he used a historical 3.5% GDP growth rate and a predicted 1.5% average rate for us, it's a startling difference. Most economists measure health in terms of living standard; meaning a solid sign of economic progress is that people are living better, healthier financial lives in the future versus today.
Assuming current population growth rates, with a 3.5% growth rate, a United States citizen would see their standard of living double in 25 years. If you think about that empirically, if you're 65 years old today and look back at what financial life was like when you were 40, I'll bet most of you would see close to a doubling up of your standards.
How long would it take to double your standard of living with a 1.5% economic growth rate? Answer = 88 years; which means you realistically wouldn't see any substantive improvement in your lifetime, since we don't start working until 25 and generally stop at 65, which is a 40 year span. There are times when I like math, this isn't one of them.
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