Global Is Trends Nalysis

MARKET INSIGHTSGlobal Risk Trends & AnalysisBROUGHT TO YOU BY NE W YORK LIFE INVESTMENTSAPRIL 2021U.S. economy: Five reasons for a multi-year upswingChris WatlingFounderLongview EconomicsChris founded Longview Economicsin 2003 with a desire to produceresearch that was independent,courageous, and relevantto every type of investor.Longview has built relationshipsacross the globe and is constantlyseeking to deliver cutting edge marketanalysis and trading ideas.With vaccines now being administered across the major western (and other keyemerging) economies, a boom in economic growth in 2021 seems all but assured—and is now becoming consensus.High levels of spare cash are sitting in household and corporate bank accounts—estimated at about 2- 3 trillion. And businesses have been supported by policythroughout the pandemic, such that bankruptcies have been kept to a minimum,while levels of pent-up demand are high. With most consumers being locked downfor the best part of a year, many commentators are suggesting that the “roaring1920s” is the closest parallel to how consumers are expected to behave in 2021 associeties become “unlocked” around the world. Amongst other things, the 1920s wasfamous for a consumption boom and a “good times” theme sparked by the release ofpent-up energy after World War I and the Spanish flu of 1918.“Last year was the worst year for economic growth since WorldWar II. The costs of doing too little is much higher than the priceof doing something big.”—Janet Yellen, Treasury Secretary, February 18, 2021A good 2021 has already been largely discounted by markets. In November we sawequities rally sharply after President Biden’s election as vaccines started to receiveclinical approval, again when the Democrats won the Georgia Senate run-off, andeven more recently we’ve seen the markets pricing in Biden’s 1.9 trillion stimuluspackage. Reflecting that, bond yields across the globe have backed up sharply in thefirst part of 2021.Not FDIC/NCUA InsuredNot a DepositMay Lose Value No Bank GuaranteeNot Insured by Any Government Agency1

Global Risk Trends and AnalysisWith growth already largely assured and priced in for 2021, the key question becomes: What’s the outlookbeyond 2021? Is this simply a 2021 stimulus sugar high that will fade quickly post 2021? Or is growth momentumexpected to endure much beyond 2021? Understanding the longer-term outlook should generate a clearerunderstanding of the likely themes that will play out in financial markets later in 2021 and especially beyond.In that respect there are five key reasons why we expect a multi-year economic upswing, and why the stage is setfor a growth phase much longer and more enduring than simply a 2021 sugar high. As always, there are risks—which we’ll address at the end of this report—but for now, those five key reasons are as follows:1. Structural strength of the U.S. private sectorBoth the U.S. household and corporate sectors are in good structural shape. U.S. households have been payingdown debt (relative to GDP) for over a decade post the financial crisis, with debt service ratios at record 50-yearlows (see Figure 1). Additionally, household debt to GDP is around a 20-year low, net housing wealth is uparound 15 trillion since 2012, and total household wealth is at record all time highs. Even with 6%-8% of thecurrent workforce being unemployed—making things more challenging for them—the remaining 92%–94% of theworkforce remains in good shape when it comes to their household finances and wealth.Figure 1: Debt service ratios are at 50-year lows as U.S. households continue topay down debtU.S. household debt service ratio (%), shown with U.S. recession bands14.0Shaded area:U.S. recession13.0Percent12.011.02020 Q1 9.78%10.02012 Q4 9.82%Prior all time 19961994199219901988198619841982198020142020 Q2 8.80%8.0United States, Banking Ratios, Household Debt Service Ratios (DSR), Total, SASources: Longview Economics, Macrobond, March 2021.Equally companies are, in aggregate, throwing off “free cashflow.” That’s the message of the corporate financinggap, which measures free cashflow across the U.S. domestic private and public corporate sector. Recessionsoccur when companies are running cashflow deficits and spending more than they are earning. Economicexpansions/cycles typically start after the corporate sector has reset its cashflow position back into positive/free cashflow.In recent quarters, as the corporate sector has retrenched, its free cashflow position has risen back to broadlyhealthy levels, which are typically associated with the start of new/enduring economic expansions. In addition,and much like the U.S. household sector, the level of cash in corporate bank accounts has risen to its highestlevel on record—both in U.S. dollar terms and as a share of GDP (see Figure 2). In other words, companies haveconsiderable capacity to increase CAPEX, rebuild inventories, and hire new workers to help drive economicexpansion further.2

Global Risk Trends and AnalysisFigure 2: Cash in corporate bank accounts is at its highest level—both in U.S. dollarterms and as a share of GDPU.S. corporate sector cash and cash equivalents (as a % of GDP)22.0Highest cash levelsat corporates on recordin Q2 2020: 20.0%20.0as % of GDP18.016.02020 Q417.8%1949 Q414.5%14.02019 US non-fin corp sector cash & cash equivalents as % of nominal GDPSources: Longview Economics, Macrobond, March 2021.2. The mini-cycle upswing is underwayVarious cycles are in operation at any one time in the U.S. and global economy. That includes the long seven- toten-year economic cycle, as well as housing and investment cycles, among others.The mini-cycle is another of those key, regular cycles that, broadly speaking, can be traced back to the early1970s. It’s a pattern of two- to three-year “swings” in economic growth—both up and down. Those “swings” areregulated by Fed policy and bond yields, which have a significant impact on key cyclical parts of the U.S.economy (e.g., in manufacturing and housing).For example, when growth slows, sharp falls in interest rates and bond yields stimulate those sectors (amongothers) and the outlook improves. When growth accelerates, Fed policy and bond yields eventually have theopposite effect—the “mini-cycle” turns lower. The Fed and the bond market are therefore endogenous tomini-cycles in the U.S. economy. In that respect, the slowing of the U.S. economy (in 2019) and the sharp/deeprecession (of early 2020) marked the end of the last “mini slowdown phase” and resulted in a particularly sharpfall in yields—as well as significant Fed policy easing. As such, the stage was set for the next two- to three-yearupswing, which is now underway.The ebb and flow of those cycles is neatly illustrated by U.S. Treasury yields, as well as the ratio of the copperprice to the gold price (see Figure 3). Those indicators, among others, are useful in judging “where we are” in themini-cycle—and currently suggest that we’re in the relatively early stages.3

Global Risk Trends and AnalysisFigure 3: Indicators like copper and gold suggest we’re in the relatively earlystages of a mini-cycleCopper relative to gold—Shown with U.S. 10-year Treasury yields (%)4.5The ‘mini-cycles’:‘Eat, Sleep, Rinse & Repeat’2004.03.51753.02.51502.01251.510075US 10 year yields (%)Curel to GOLD(rebased to 100 in 2009)2251.02009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021US 10 Year government bond yieldCopper relative to GOLD0.5Sources: Longview Economics, Macrobond, March 2021.3. Significant fiscal stimulus (and “helicopter” money)On top of monetary (and bond yield) stimulus (refer to point #4 below), the fiscal support from the U.S.government in this pandemic is unparalleled in modern times. In particular, there have been (and remain) anumber of significant spending bills associated with the pandemic. They include the 2.2 trillion Coronavirus Aid,Relief, and Economic Security (CARES) Act; the 900 billion stimulus package passed over Christmas, PresidentBiden’s latest 1.9 trillion package (recently passed); and his proposed infrastructure bill for later this year (i.e., a 1-2 trillion “Rebuild Better” bill). Those bills amount to 31.8% of U.S. GDP over five years—with most of thatspending happening in 2020 and 2021. Much of that spending will be paid for with newly created money andpurchases of Treasuries by the Fed (i.e., effectively helicopter money). In other words, the pandemic has resultedin a coordinated, and especially large, fiscal and monetary policy response, which is likely to result in anespecially strong phase of economic growth. Of note in that respect, and illustrating the coordinated nature ofU.S. policy, the old Fed chair is now the new Treasury Secretary and, as the quote on the cover highlights, she’sdoubling down on efforts to ensure a strong U.S. economic growth outcome.4. The 18-year land cycle points to strong housing activity overcoming yearsHistorically, the U.S. has experienced an 18-year pattern in land cycles (& speculation), which can be traced backto 1800. Towards the end of each 18-year cycle, the order of events is almost always the same: Land values andspeculation peak, followed by a peak in building activity, with that then followed by a recession. The last majorpeak in U.S. building activity and land sales was in 2006. As such, and if that usual 18-year pattern is followedonce again, the U.S. is moving towards an economic peak in the mid-2020s (i.e., in 2024). If correct, thatsupports an expectation of strong economic growth continuing through to at least 2024—with a recession likelyin 2025/26. That strong growth is likely to be driven by the consumer as rising house prices generate positivewealth effects. In that scenario, consumption should remain supported by an ongoing increase in housing equitywithdrawal as households “cash-out” some of their newly created housing wealth. So far, the trend is up, with asharp increase last year (see Figure 4). Of interest, and as the chart shows, the pattern was similar in the finalyears of the last 18-year land cycle (which ended in 2006).4

Global Risk Trends and AnalysisFigure 4: Households “cashing out” some of their newly created housingwealth is trending upU.S. home equity withdrawal (billions per quarter)100USD, 1020122014201620182020Total Combined Volume of Cash-Out & 2nd Mortgages/HELOC ConsolidationTotal Home Equity Cashed OutTotal Volume of 2nd Mortgages/HELOC ConsolidationSources: Longview Economics, Macrobond, March 2021.5. U.S. commercial banks’ balance sheet capacity is growing rapidlyThe health of the banking system today is significantly stronger than it was in the aftermath of the global financialcrisis. Following the crisis, banks spent many years repairing their balance sheets—building capital buffers andstronger leverage ratios. Today, therefore, after a decade of private sector deleveraging, capital buffers are high(and so too are the banks’ capacity to make loans). In addition, loan loss provisioning by banks was excessive inthe pandemic. Banks are now releasing those provisions (i.e., back as profits), which further enhances theircapital and liquidity ratios—and their capacity to lend. Driven by wealth effects from housing, credit growthmomentum is therefore likely to return to the U.S. economy this year.Figure 5: Households “cashing out” some of their newly created housingwealth is trending up4035False signal3.0Shaded areas:US recession30252.52.020151.51051.0US core CPI (Y-o-Y %)NFIB Small Business Price Plans:Next Three Months (12m advanced)National Federation of Independent Business (NFIB) small business price plans0-51999 2001 2003 2005 2007 2009 2011 2013 2015NFIB Small Business Price Plans: Next Three Months (12m advanced)20170.52019 2022US core CPI (Y-o-Y %)Sources: Longview Economics, Macrobond, March 2021.5