Tim Duy gave his projections for 2016. I will go through his 10 points with my reflections from the effective demand point of view.
1. He says that there will be no recession and the economy will stabilize by the end of the year. Yet, I see a higher probability of recession than he does. The economy is already weak from peaked profit rates and vulnerable from already having hit the effective demand limit. China is showing weakness and has also been vulnerable to the effective demand limit of the US. It is possible that the economy could stabilize by the end of the year if labor share continues to rise carefully and not too fast to spook business. The US consumer could come to the rescue and keep the business cycle alive. But then inflation would tend to trend upward and the Fed might be a little too confident to raise rates which could trigger weaknesses in business health.
2. He says that economic growth will soften to around 2%. That is a reasonable position.
3. He says that job growth will decelerate. I agree. He points to 2014 for where job growth peaked. That is when the economy reached the effective demand limit. After the economy hits the effective demand limit, employment must be matched by constraints in capacity utilization. Yet, there reaches a point where unemployment will stop falling. 2016 is the year that I foresee that unemployment stops falling and begins to level out.
4. He says that wage growth will accelerate. I agree. The economy is at its natural output level (potential output). The labor market will tighten and create pressures to raise labor share. We already see this happening.
5. He says that inflation will accelerate. I agree. He thinks this view is a bit wildly optimistic. However, even as we see weakness in the price of oil and gas, core inflation will tend to rise due to a rising labor share of national income. As output slows, prices will tend to push up. So I do not see inflation falling this year. And also, with China having problems, there is a hope that labor share will rise in the US. I share this view with Noah Smith. So problems in China could help resuscitate inflation in the US. But even so, cascading economic weakness globally would weigh down inflation.
6. He says that oil will end the year higher than it began. This is a complicated call. He points to production slowing. Yet, demand is also looking weaker from China who is playing to keep the price of oil at a floor of $38 per barrel. China is losing their strength to control the price of oil. Also, if there is a recession, then the price of oil would fall. My view is that the price of oil will stay between $30 and $47 barring a recession and grand geopolitical conflicts. The Saudis are forcing the price based on their own personal psychological desires. Will they change their whims? What would make them change? By keeping the price of oil low, the Saudis are trying to force North American producers out of business. This is a problem for the US because much of that investment in productive capacity could turn into non-performing loans. This will drive down the markets and potential output once again. But there is an election coming up, and meetings can take place behind close doors to affect the price of oil. It would be like the rumors of meetings with Iran to help Reagan become president during the hostage crisis at the end of Carter’s term. There are so many psychological and political factors around the price of oil that it is tricky to forecast it until the end of the year.
7. He says that stocks will be up, yield curve flattens and US dollar flat to declining. He says that equity gains would be modest. I do not see stocks going up. A year ago I said that the Dow would orbit around 17,300 and it has done just that over the past year. I have also said that the Dow would not go up much above 17,500 and that it would eventually drop from this 17,300 to 17,500 level into a recession. There is no sign of a strong asset bubble to inflate the market above this level after reaching the effective demand limit in 2014. Aggregate profit rates have already peaked when the economy reached the effective demand limit in 2014. The yield curve will flatten too. This makes the economy more vulnerable to a recession. And I agree with him that the US dollar will not rise much from this point. The US economy is not going to look that strong as we move through 2016, but greater problems elsewhere would support the US dollar.
8. He says that single-family housing will get strong. I am not so much in agreement. The job market and wage gains will not be so great as to have single-family housing take off. I expect it to keep trending upward but with only a small acceleration.
9. He says that the Fed will continue to raise rates slowly. I agree. The Fed is in a mindset that the economy is tightening up with slack still available to utilize. From my point of view, slack has already been used up as the economy has already reached the effective demand limit. The Fed can only raise rates very slowly when up against the effective demand limit of peaked profit rates. Still, I see that the Fed will have to think very hard about maintaining a pace to raise rates. The economy is more vulnerable than the Fed appears to think. But they want to get on a path to careful normalization. 2016 should be the year that the Fed realizes that they cannot get back to normalization. Then the debate will rage as to whether they should have raised rates more slowly starting a couple of years ago.
10. He says that productivity is a wild card. I will give the view from my effective demand research. If productivity starts to rise with the economy against the effective demand limit, history since the 1960’s shows that a recession will form. The recession will then release productivity from its effective demand constraint. So wishing for a surge in productivity would contradict a forecast of no recession. Yet, thinking along those lines with Tim Duy, it is possible and somewhat likely to see a rise in productivity. This would be a sign to me that a recession is forming.
May there be peace in your lives, family and communities this year…