Pixel Tracker

Wednesday, December 12 , 2018, 7:11 pm | Fair with Haze 56º

 
 
 
 

Larry Kudlow: Strong Profits, Easy Money, Tea Party Gains Argue Against Recession

The economy is sputtering, but we're muddling through; what's missing is true pro-growth tax reform

Stocks and bond yields are sinking, as Wall Street disses the debt deal and instead focuses on a likely double-dip recession. Everyone is gloomy. But is this pessimism getting a little overbaked?

Granted, the economy is sputtering, with less than 1 percent growth in the first half of the year. But if there is a recession in the cards, it will be the first time one occurs when the yield curve is steeply positive (an ultra-easy Fed) and corporate profits are strong.

And since we do have ultra-easy money and strong profits, I don’t believe we’re heading into a recession. Nor do I believe stocks will continue to swoon.

The principal reason for the sub-par first-half economy is the rise of inflation, which severely damaged real incomes and consumer spending. We experienced a mini oil shock, which has dampened the whole economy. Actually, it’s worth remembering that oil shocks and inverted yield curves, along with falling profits, are the most important leading indicators of recessions. We don’t have this right now.

Fortunately, oil and gasoline prices have come down well below their highs. That’s going to take pressure off the economy.

Of course, QE2 backfired, as the dollar sank and the inflation rate temporarily jumped 5 or 6 percent. However, as energy prices have eased back down, the inflation rate as measured by the consumer deflator has fallen, and is up only 1.3 percent annually for the past three months. If the dollar can hold its current level and energy prices remain quiescent, the economy will be OK.

Not great. The second-half economy could grow 2.5 to 3 percent. There are so many tax-and-regulatory threats out there that it’s hard to expect much more growth. But at least it’s not recession.

Recent reports from the Institute for Supply Management purchasing managers for manufacturing and services are not signaling recession. Car sales have actually bumped up. And at least employment is rising, although slowly.

It’s all sub-optimal, but it’s not recession.

Meanwhile, profits are at record highs as a share of gross domestic product. Second-quarter earnings are coming in much stronger than expected. For some reason, investors have chosen to ignore profits. But they’re still the mother’s milk of stocks and the economy. Stocks may well be undervalued right now.

At roughly $95 a share profits for 2011, stocks are running near a 13-times price-earnings multiple, which calculates to a near 8 percent forward-earnings yield. Compare that with a 2.6 percent 10-year Treasury bond or a 5.5 percent Baa investment-grade corporate bond, and you can see that stocks have good value. The equity-risk premium is very high.

At the same time, corporate credit-risk spreads are relatively narrow, while financial conditions in general are vastly less stressful than they were a couple of years ago. This is not the stuff of recessions.

Regarding the debt-ceiling deal, no one is thrilled about it. But it is a step in the right direction: no tax hikes and at least some spending cuts. The level of discretionary spending will come down $72 billion over the next two years. Even if the budget caps don’t hold beyond that, it’s still a budget cut without a tax increase.

Some of the Paul Krugman left-wing Keynesian types think small budget cuts will throw us into recession. Not a chance. The GDP is roughly $14 trillion, and total budget spending is moving toward $4 trillion. So these are relatively modest cuts. Plus, if government spending more works to grow the economy, why hasn’t massive government spending already worked to grow the economy? Here’s the dirty secret: Smaller government is good for growth.

We will see what phase two of the debt deal brings. It will be an uphill climb. But at least the strong possibility exists that another $1.5 trillion will be taken out of the spending baseline. That’s not nothing.

And of course, Treasury-debt default was avoided.

Slowly but surely the Tea Party Republican coalition is turning the tide on spending. Too bad President Barack Obama was out once again this week attacking millionaires, billionaires, businesses, and oil and gas with his usual soak-the-rich class-warfare redistributionism. This kind of politics has helped generate a capital strike by profitable and cash-rich businesses. It’s pure folly, and it’s holding back the animal spirits. Stocks dropped 100 points after Obama’s news conference on Tuesday, when he once again blasted free-enterprise incentives.

Which brings me to a final point: What’s missing from the whole budget debate is a true pro-growth tax reform that would flatten rates and broaden the base for individuals and companies. A fresh round of incentives would do wonders for our ailing economy.

Unfortunately, we’re going to have to wait until the 2012 election before we see any of that. In the meantime, despite an anti-growth administration, the free-market economy will continue to muddle through.

Larry Kudlow National Review Online’s economics editor, is host of CNBC’s The Kudlow Report and author of the daily web blog Kudlow’s Money Politic$. Click here for more information, or click here to contact him.

Support Noozhawk Today

You are an important ally in our mission to deliver clear, objective, high-quality professional news reporting for Santa Barbara, Goleta and the rest of Santa Barbara County. Join the Hawks Club today to help keep Noozhawk soaring.

We offer four membership levels: $5 a month, $10 a month, $25 a month or $1 a week. Payments can be made using a credit card, Apple Pay or Google Pay, or click here for information on recurring credit-card payments and a mailing address for checks.

Thank you for your vital support.

Become a Noozhawk Supporter

First name
Last name
Email
Select your monthly membership
Or choose an annual membership
×

Payment Information

Membership Subscription

You are enrolling in . Thank you for joining the Hawks Club.

Payment Method

Pay by Credit Card:

Mastercard, Visa, American Express, Discover
One click only, please!

Pay with Apple Pay or Google Pay:

Noozhawk partners with Stripe to provide secure invoicing and payments processing.
You may cancel your membership at any time by sending an email to .(JavaScript must be enabled to view this email address).

  • Ask
  • Vote
  • Investigate
  • Answer

Noozhawk Asks: What’s Your Question?

Welcome to Noozhawk Asks, a new feature in which you ask the questions, you help decide what Noozhawk investigates, and you work with us to find the answers.

Here’s how it works: You share your questions with us in the nearby box. In some cases, we may work with you to find the answers. In others, we may ask you to vote on your top choices to help us narrow the scope. And we’ll be regularly asking you for your feedback on a specific issue or topic.

We also expect to work together with the reader who asked the winning questions to find the answer together. Noozhawk’s objective is to come at questions from a place of curiosity and openness, and we believe a transparent collaboration is the key to achieve it.

The results of our investigation will be published here in this Noozhawk Asks section. Once or twice a month, we plan to do a review of what was asked and answered.

Thanks for asking!

Click Here to Get Started >

Reader Comments

Noozhawk is no longer accepting reader comments on our articles. Click here for the announcement. Readers are instead invited to submit letters to the editor by emailing them to [email protected]. Please provide your full name and community, as well as contact information for verification purposes only.