June 20, 2023
Driven by our continued confidence that the US will experience a recession this year, we have been focused on short-term indicators for the economy and markets over the last several months. However, we find it helpful at times to take a step back and examine the longer-term trends. We like to call this back-and-forth “the cyclical versus the secular.” Our cyclical, or short-term, bias continues to be for weaker economic growth that would likely lead to a recession, lower corporate profits, lower inflation, and ultimately lower interest rates. But what about the secular bias?
Secular trends are determined by many factors. We have identified several trends that we believe will result in higher inflation and higher interest rates in the future versus what we saw following the global financial crisis (GFC). While we don’t have the space to address them all, we would highlight:
- Onshoring, or the transfer of manufacturing capacity to the US, is gaining steam as you can see in the chart below. The trade war with China, the COVID-19 lockdowns, and the subsequent supply-chain issues have been forcing companies and governments to rethink their decisions on where goods are produced. The process of moving capacity to the US could result in higher prices in exchange for increased dependability and national security.
- Demographic changes could reduce the number of workers over the coming years as the baby-boom generation retires. A worker shortage could mean higher wages, all else equal. If the US were to reform its immigration policy to offset the coming decline in labor force participation, the worker shortage could be partially mitigated, in our view. However, there are no signs that the US Congress is ready to make such changes.
- War has always been inflationary. Supply disruptions, increased demand resulting from military spending, and increased money supply are all inflationary forces that typically occur during wartime. The Cold War between the US and the Soviet Union and their respective allies, from 1947 to 1991, was no different. If tensions between Western countries, China, and Russia continue for years to come, supply chains could be disrupted at times. This could reinforce the onshoring issue we highlighted earlier.
While we continue to encourage investors to focus on the cyclical forces that will likely drive inflation lower over the coming months, we cannot lose sight of the secular trends that we think could affect markets for years to come.
Onshoring or reshoring mentions in corporate transcripts
Q1 2019 to Q2 2023, Russell 3000® Index constituents
Chart is for illustrative purposes only.
Sources: Macquarie, Macrobond, and Bloomberg.
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