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Don’t Focus on Brexit, Focus on Fiscal Policy Instead

Last update on: Jul 28 2016

I want to thank the Washington, D.C., chapter of the American Association of Individual Investors for welcoming me last Saturday morning. The presentation went well, and the members bought a lot of copies of “The New Rules of Retirement,” second edition. You can order your copy today.

My next scheduled appearance is in August at the MoneyShow San Francisco with several of my colleagues from Eagle Financial Publications and other financial experts. We’ll be at the Marriott Marquis from August 23-25. Registration is free and available by calling 800-970-4355 (please mention priority code 041205) or go online to

By the end of the business day on the East Coast, we’re likely to know the result of Britain’s vote on whether or not to leave the European Union. Whatever the result, here’s something to keep in mind. Events such as this tend to be covered in the media as historic turning points. Most of the time, they aren’t. Or at least the effects are spread over an extended time and aren’t as dramatic as expected. The effects rarely are visible in the long-term price charts of the markets.

It is best not to overreact either before or after the events. Don’t adjust your portfolio to bet on a particular outcome or consequence. Instead, stay diversified, invest with the economic fundamentals and manage the risks in your portfolio.

In this week’s testimony to Congress, Federal Reserve Board Chair Janet Yellen finally recognized what we’ve been saying for a while. Economic growth and inflation are going to be low for a considerable time. For years, Yellen and her predecessor said that higher economic growth was just around the corner. The Fed entered 2015 with plans to raise interest rates, because a majority of the Fed board members believed that growth and inflation were ready to rise.

The long-term debt cycle took a major turn in 2007. Since World War II, debt levels in the United States and most of the developed world have risen steadily. Higher debt generally leads to higher growth levels. Debt and growth bounced around in the short-term because of the usual recession and recovery cycle, but the long-term trend was for more debt and higher growth.

In the 2005-2007 period, growth reached unsustainable levels. Now, we have to reduce the level of debt relative to gross domestic product (GDP), household assets and income. Reducing debt constrains growth. We still can have positive growth, but we’re unlikely to have growth much higher than it has been so far in this recovery without other changes.

In addition, productivity has been declining. It is hard to boost corporate profits and investment or economic growth when productivity is declining.

One change that would help, but is sorely lacking in the developed world, is wise, growth-oriented fiscal policy There is almost no discussion of growth-oriented fiscal policies in the United Kingdom, Europe and the United States. Policymakers are relying on central banks to stimulate growth and are acting as though their policies don’t affect growth. In the United States and Europe, policy changes have been more likely to constrain growth than increase it.

The future of the United States and Europe largely resembles the last couple of decades in Japan. The debt level peaked in Japan in the late 1980s, and it has been mired in slow or negative growth since then. Japan also has been the victim of poor monetary and fiscal policies.

Unfortunately, like her predecessor, Yellen isn’t forcefully telling other policymakers that they need to take actions to stimulate growth. Here’s a key paragraph from The Wall Street Journal’s report on her testimony before the Senate Banking Committee:

“For years, Ms. Yellen has argued that headwinds to economic growth would fade, allowing growth to pick up and interest rates to rise. Now, she is subtly adding qualifiers to this forecast. In her testimony, for instance, she said she expected these headwinds to “slowly fade over time.” In her testimony to Congress a year ago, she said more pointedly that these headwinds “should diminish over time.”

That approach is too mild. It is why there are few candidates in this election year talking about serious policies to increase economic growth. It also is why growth is likely to remain low for an extended period of time, and that in turn should keep interest rates low. Central bankers should help put pressure on other policymakers to take pro-growth actions. The greatest economic risk we face isn’t another financial crisis such as 2008. The greatest risk is a long period of extremely low interest rates and low growth.

The Data

Most of the data in the last week related to housing, which continues to show signs of higher growth, though it still is well below its strong years before 2007. Housing starts declined a fraction from April to May, but they’ve gained 9.5% over 12 months. In single-family homes, however, starts increased a fraction. It is multi-family housing that is peaking. Single-family homes are stronger contributors to overall growth, so the shift in the housing market is positive for the economy.

Existing home sales had a solid 1.8% increase for the month. That’s the best monthly increase since February 2007. The 12-month increase is 4.5%, which is solid but far from strong. It’s important that prices also are increasing while sales rise. Existing home sales still are restrained by a lack of inventory of homes for sale.

The FHFA House Price Index had a modest 0.2% increase for the month, following several months of increases greater than 0.5%. It’s the lowest monthly increase in a year. The 12-month price increase is 5.9%.

New home sales declined 6% for the month, and the previous month’s number was revised down. But last month’s sales still were the highest since February 2008 and were almost a 17% increase from the previous month. The new home sales were only a little below expectations and are one of the highest monthly sales numbers in the recovery. Sales are up 8.7% over 12 months. The number is volatile from month to month and subject to revisions, so don’t read too much into one month’s number.

The lone piece of manufacturing data for the week was positive. The PMI Manufacturing Index Flash increased smartly from 50.5 to 51.4. Most components of the index were positive, including new export orders at a two-year high.

The labor market might be better than the Employment Situation reports issued earlier this month indicated. New unemployment claims declined by 18,000. This keeps the number of new claims near historic lows. Claims have been below 300,000 for 68 consecutive weeks, the longest period since 1973.

Leading Economic Indicators, as measured by The Conference Board, declined 0.2%. That decline was largely due to increases in new unemployment claims, and those were reversed by the latest claims number released this week. Most of the other components of the index were unchanged.

The Markets

Stocks had a slightly positive week. Overseas stocks fared best. The All-Country World Index rose 2.14% for the week ended with Wednesday’s close. Emerging market stocks rose 2.72%. The S&P 500 rose 0.69%. The Dow Jones Industrial Average gained 0.77% and The Russell 2000 inched up 0.06%.

Long-term treasury bonds lost 1.5% as investors retreated from their flight to safety. Investment-grade bonds dipped 0.18%. Treasury Inflation-Protected Securities (TIPS) lost 0.77%, while high-yield bonds gained 1.19%.

Energy-based commodities gained 0.58%. Broad-based commodities lost 0.53% and gold slid 2.32%.

Some Reading for You

This web page from the BBC answers most of the questions you could ask about the referendum for the United Kingdom to leave the European Union.

Here’s an interesting history of how the United States became hooked on bottled water.

Recent data from the Port of Los Angeles shows economic growth is solid.

I comment and link to these and other items on my public blog at



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