The question of where American productivity growth has gone is plaguing policymakers. Without productivity growth, the economy must rely on credit growth to boost GDP. Credit growth is like food. If you eat a normal amount, you’ll be fine. If you eat too much food, you gain wait and become unhealthy. If the debt piles too high there’s side effects, namely a deleveraging which causes a recession. Part of the reason there have been three bubbles since the late 1990s is because of low productivity growth. The second reason is low interest rates. It would be great if the economy was able to get back to being more productive. Obviously, readers can’t do anything to change policy, but we can alter our investments based off whether the policymakers look to be headed in the right direction in terms of solving the issues.

The charts below show that the global productivity growth rate is slowing, so it’s not just America which is stagnating. The first chart shows that the advanced economies haven’t recovered to the rate they were growing at before the financial crisis. As you can see, the five-year average productivity growth rate is less than half the rate it was growing at in the early 2000s. The growth rate is now hovering around the unchanged mark, just like it is in America. American productivity growth fell 0.2% in 2016. Just like in America, the other advanced economies have slowing population growth rates which means GDP growth is tough to come by. One of the worst situations is Japan which had its population decline by 0.22% in 2017. When its economy grows in the low single digits it’s considered great because the GDP growth per capita is larger than that.

This low productivity growth in the advanced economies reinforces my point about how S&P 500 earnings can’t grow above its trend while American GDP grows below its trend. It’s true that many firms have more international than domestic sales, but the international countries are seeing the same weakness America has. There is no magic going on overseas which can boost earnings growth indefinitely. This weakness is behind the central bank balance sheet expansion in the developed world. The bankers try to claim that it’s due to the financial crisis, but the financial crisis ended in 2009. This money printing is happening because of low productivity growth, but it hasn’t healed it.

The second chart shows the emerging market five-year average productivity growth rate. The early 2000s were when emerging markets were the hottest trade to get into besides Florida & California real estate. The growth in emerging markets is part of the reason why oil rose to $147. It was also behind the extraordinary rally in fertilizer stocks like Agrium, Mosaic, and Potash. The trend of emerging markets demanding more beef which is crop intensive was behind their rally to nose bleed levels. There was some truth to the trend, but the valuations got out of hand. China was the biggest driver of the emerging economies which were nicknamed BRIC (Brazil, Russia, India, and China). The dotted line shows that productivity growth is barely growing without China. Even though China drove the growth rate higher, it is still outperforming. This shows that although it was in a bubble, it did have some solid drivers behind its expansion, namely the liberalization of its economy. It has mixed its command economy with some competition that capitalism provides.

The final chart on the right shows the productivity growth of low-income developing countries. They also experienced growth in the bubble era of the early 2000s. The decline to negative growth doesn’t mean the bubble is gone; it has taken a different shape. It has moved from within the economy, to within financial markets like the junk bond market and the stock market. The bubble is much worse than the financial crisis because it’s not based on anything tangible. The growth in the early 2000s was unsustainable, but at least it existed unlike today.

(Click on image to enlarge)

The main reason why productivity growth is weak is because global trade growth is down. Trade allows for the specialization of goods and services. Free trade should not be attacked because it makes everyone better off. If you decide to buy a product, you are saying that the product is more valuable than the money you spend. If you decide to sell a product, you are saying the money is more valuable to you than the product/service you are giving up. It’s a win, win situation for everyone. If President Trump or any other leader has a problem with the trade deficits its country has, the country should pass reforms such as regulatory cuts and tax cuts to allow firms to be more competitive. This is the correct way to improve exports. As you can see from the chart below, the global trade growth fell to 1.9% in 2016 for the third time since 2000. The previous times global trade growth fell below 2% the U.S. economy was in a recession which waves a yellow flag in terms of the current economy’s chance of slipping into a recession.

(Click on image to enlarge)

The chart below shows the breakdown between goods and services. Services are dragging down trade growth. It’s difficult to see how goods will be able to outperform services by so much for much longer. If the boarder adjusted tax is enacted, it could slow growth as any tax increase or regulatory increase slows business activity.

(Click on image to enlarge)

Conclusion

Productivity growth is low because of weak trade growth. Trade is what makes economies grow because it allows them to specialize in the tasks they’re good at. Quantitative easing hasn’t helped productivity growth. It is a symbol of how the economy has become financialized without real growth supporting it. This supports the argument that economic reports don’t matter for stocks because financialization drives them higher, not real growth. My argument is that negative GDP growth could be the catalyst for knocking down the house of cards. However, I wouldn’t be surprised to see stocks rally immediately after the weak GDP growth report on April 28th. Even if I had the report ahead of time, I wouldn’t be able to profit off it. I’m expecting a growth rate of 1.0% to 1.5%.