Investing and the Past, by Phineas Upham
From contributor Phineas Upham
Why is this economic slowdown happening? Arguably, excluding questionable heuristic adjustments, the growth path of the US excluding real estate has been slowing down since 1980 in real GDP terms. This is despite the illusory gains in asset valuations which partly resulted from reduced volatility (thus reduced discount rates), the bubbles which gave people hope for productivity gains, and the leverage which inflated the problem. This is very different than after the great depression – in 1943 we grew at perhaps fastest rate for any advanced nation in history.
When being good investors we often examine the situation of the world by drawing on what we see as similar situations in history. On this way we tease out the larger brush strokes of history. Indeed Federal Reserve Chairman Ben Bernanke has drawn heavily on his knowledge of the Great Depression to guide the US through this crisis – implying that there is an analogy between that situation and this one and that
A broader question is: how we might use history to understand the present. Three quotes help frame different approaches:
a) “Those who forget the past are doomed to repeat it”
b) “Those who live in the past can never move forward”
Or perhaps something between these two…
c) “History doesn’t repeat itself but it rhymes”
One thing that seems certain when comparing the current to the last is that while good analogies are enormously helpful, one must choose the right ones and understand the differences. Good analogies are key but they have their limitations.
So what historical situation is this crisis “like” – what’s the most useful analogy?
1) 1999 technology bubble. One could argue that this bubble burst but at least it left a legacy of progress in telecommunications and the internet which, while below expectations, has continued.
2) Oil Crisis that led to 1982 crisis? In this case, high oil prices and government mismanagement led to unhealthy nominal inflation rates – Volker correctly responded to rampant inflation with austere financial policy and the US emerged into a period of enormous productivity.
2) Is US like Japan in the 1980s? Japan was able to turn itself into an exporter to the US and keep a high savings rate.
3) The Great Depression? Perhaps but it seems that the proper analogy for the US in the great depression is perhaps China now – an exporter with strong industry who is beginning to flex global muscles.
Two books have invigorated a debate in political science over the extent to which history is relevant in global analysis. The first is Francis Fukuyama’s The End the History and the Last Man and the second is Samuel Huntington’s The Clash of Civilizations.
To overly simplify the arguments, the first argues that the political development of the world was over because democracy was soon to be the global rule and that democracies are stable and don’t evolve (in the sense of feudalism – monarchy – capitalism/democracy, sort of a socialist dialectic the socialists thought led eventually to communism). So the world will soon reach a democratic equilibrium.
The second argues that a global struggle for power was emerging for the first time due to globalization. Islam, Asia, and the West were in a life and death struggle for supremacy and the outcome was in doubt. Both argue that a paradigm shift has occurred in global history unlike the past – that analogies are rather pointless. Which is right? Are we in a new age of history, is it “different this time”? It is important to know.