April 17, 2013
“America Has Faced the Unknown Since 1776”
So wrote Warren Buffett in his March 1, 2013 letter to Berkshire Hathaway Inc. stockholders. In the phrase before this quote, Mr. Buffett wrote: “Of course, the immediate future is uncertain …” And after this quote, he wrote: “It’s just that sometimes people focus on the myriad of uncertainties that always exist while at other times they ignore them (usually because the recent past has been uneventful).” I bring this up because ever since early-fall 2012, there has been a Greek chorus of economists appearing in the mainstream media warning us about various uncertainties from the fiscal cliffs of Washington D.C. to the banking whirlpools of Cyprus. These uncertainties were supposed to freeze the purchasing decisions of businesses and households alike, threatening to plunge the U.S. economy back into recession.
Presumably because of this uncertainty, economists were relatively pessimistic about the U.S. economy’s growth prospects for the first quarter of 2013. Back in October 2012, the consensus forecast for real GDP growth in Q1:2013 was 1.7%. Now, it is 2.9% -- not spectacular but a lot better than the previous quarter’s growth of 0.4%. The U.S. data that have been released for Q1:2013 so far suggest that the only sector whose purchasing decisions have been “frozen” is that of the government. Growth in consumer spending appears to have accelerated and the strong growth in business capital spending that occurred at the end of 2012 appears to have continued in the first quarter of 2013.
Like the poor, uncertainty will always be with us. Something else that is now with us, but won’t always be, is the rapid expansion in the Federal Reserve’s balance sheet. Back in the fall of 2012, the Fed announced that it intended to expand its balance sheet by approximately $85 billion per month, which works out to $1.2 trillion per year. What is different about this round of Fed credit creation is that, in contrast to previous rounds, the private banking system also is creating credit. Historically, an acceleration in the sum of Fed and bank credit has been associated with an acceleration in domestic spending. So, the uncertainty investors should be most concerned about is how the Fed manages its balance sheet going forward. Will the Fed terminate the expansion of its balance sheet too early or too late? Right now, it appears to be managing its balance sheet “just right” for investors in risk assets and for economic growth, which is trumping all the other uncertainties, real or imagined, that the talking heads keep warning you about in the mainstream media. I don’t know about you, but I think uncertainty is the last refuge of economist scoundrels who don’t have a clue about what drives the cyclical behavior of the economy and asset markets.
Paul L. Kasriel