A 20/20 Outlook for 2020
Commercial Credit, Small Business Credit, Credit Risk Modeling, Recession Ready
PayNet and KeyBridge recently teamed up to present our quarterly economic webinar, with an eye on our 2020 outlook. As we begin the new year, a strong consumer base and a healthy labor market should keep the economy afloat, but growth is likely to slow further – potentially to a crawl. The extent of the economic slowdown will depend on the answers to some important questions:
- Will business investment remain subdued?
- Can the U.S. maintain strong job growth despite a weakening economy?
- Will trade tensions with China and other key partners ease?
- Has the manufacturing downturn bottomed out?
U.S. Macroeconomic Update
Indicators of consumer strength remain elevated. Year-over-year wage growth has been above a solid 3% for more than a year. And, consumer confidence is near historic highs at 125.5. Unemployment of 3.5% is at a 50-year low. And, consumer debt levels remain manageable at 9.9%. However, real disposable income has been on a clear downward trend for most of the past year. If this continues, consumers will either spend less or see increased financial stress in the form of debt.
In retail, we’ve seen a trend downward in year-over-year sales for the past several months, suggesting that consumers may be pulling back on their spending. We’ll be analyzing the 2019 holiday season data when it comes into see the extent to which consumers can sustain moderate GDP growth.
For businesses, corporate profits have declined year-over-year in each of the last three quarters. Lower profits mean less money available for investment, which could reduce hiring. Trade tensions and a slowing global economy also are taking a toll on large companies, with confidence at its lowest point since mid-2016, albeit still well above recession levels. The Business Roundtable CEO Outlook Index reached its peak right after the tax cut in 2017 and has been falling since then. And, the Business Roundtable Capex Index is decreasing, which affects equipment purchases.
On Main Street, businesses have been more resilient against a weakening economy, but small business indicators are still well below 2018 levels. While small business lending activity remained generally healthy in October, according to the PayNet Small Business Lending Index (SBLI), the near-term outlook for Main Street remains cloudy.
The manufacturing sector continues to struggle. The ISM manufacturing purchasing managers’ index (PMI) fell again in November, signaling contraction for four consecutive months, while new orders for non-military durable goods edged up just 0.1% in October after falling 1.8% in September.
However, while the manufacturing slowdown has affected the broader U.S. economy, the larger service sector has shown resilience thus far, and the non-manufacturing PMI continues to signal expansion.
Trade policy will be a key factor to watch in the coming months, as hopes that tensions with China and other key partners ease. And, goods exports have contracted year-over-year for seven consecutive months. This remains concerning for the economy as trade frictions are compounded by a strong dollar and weak global growth.
Factors to Watch
Key issues we are watching as we enter the new year include:
U.S. China Trade Relations
2020 will be a pivotal year in U.S.-China relations. All eyes are watching to see how the presidential election will affect U.S. policy toward China, whether Trump will be compelled to “do a trade deal,” and whether Democrats will be friendlier toward China. Financial markets seem to be overly optimistic.
As tensions rise between the two powers, the most Chinese-revenue exposed industries will see the largest impacts on their business. These include agriculture, semiconductors, technology hardware, capital goods, biotechnology, chemicals and materials, and automobiles.
What do we see next for U.S.-China relations? The tit-for-tat on tariffs are just the first step in what feels more and more like U.S.-China relations morphing into an economic Cold War. We’ll be keeping a close eye on administrative and regulatory frictions, export controls, tougher scrutiny of FDI into the U.S., ongoing tech battles, fewer student visas, and reduced use of Chinese supply chains.
Moreover, the U.S.’s posture toward China is increasingly a bipartisan position. Regardless of the 2020 U.S. election outcome, it’s increasingly likely that Washington will maintain a tough stance on China.
Negative and Ultra-Low Interest Rates
Nearly 1/5 of global government bonds are trading at negative interest rates. This conflicts with the traditional view of interest rates as a reward for deferred consumption. Why the ultra-low rates? The answer seems to lie in the supply and demand for saving and investment.
From the supply side perspective, demographics in the U.S. are shifting as the population ages and baby boomers near retirement. Demographics influence the interest rate in three ways:
- Labor supply, which lowers marginal product of capital (lower interest rate)
- Longer life expectancy means more saving in retirement (lower interest rate)
- More retirees means less saving and more consumption (higher interest rate)
The most impactful of these is the soaring life expectancy.
According to San Francisco Fed, shifting U.S. demographics have reduced interest rates by 200 basis points. And, in the EU, changing demographics have reduced interest rates by 100-125 basis points.
Also, winner-take-all firms such as Google, Amazon, and Facebook earn revenues so quickly that they cause a mushrooming of corporate saving and personal saving (through dividends, etc.).
As for the demand side, lower global investment demand is a key part of the story. Investment spending by China has declined in recent years, thereby dragging down global investment volumes. Also, steady declines in the price of computers and electronic equipment have put downward pressure on investment spending.
While lower borrowing costs are good for small businesses, ultra-low rates pose macroeconomic problems. First, they appear to be inflating asset prices, including U.S. stocks and real-estate. Additionally, U.S. commercial and industrial loans as a share of GDP are at one of their highest levels in history, while bank profitability remains depressed.
In the end, we believe ultra-low interest rates are doing more harm than good, as they undermine business confidence. In order to address this issue, we need to think outside the box and develop creative solutions around issues such as global leadership, fiscal policy, regulatory relief and social security reform.
Looking Forward to 2020
Should we expect a U.S. growth pause, a downturn, or a recession?
Currently, we expect 1.7% GDP growth in the U.S. in 2020, with consumers leading the way. Business investment likely will stagnate or be negative. Consumer spending should keep the broader economy out of recession for at least the first half of 2020. And, the U.S. manufacturing slump has yet to bottom out, and predictions of a manufacturing rebound are premature. Globally, we expect the economy to soften further in 2020 as outlook in Europe and Asia is shaky. The German and Korean economies are particularly at risk for recession. In terms of U.S.-China relations, a hardline stance on China likely will remain regardless of the 2020 election outcome. If a “clear the decks” trade deal was to happen, we’d forecast more positively for 2020.
As we look to a new year, we are increasingly on the lookout for a downturn or recession. Now is the time to prepare so you are not only ready but poised for growth when it occurs. PayNet and KeyBridge have teamed to offer a full recession readiness toolkit to help you do just that.
And, of course, we’ll be staying on top of all these trends and more in the coming year. Reach out to me at email@example.com to learn more.