Viktor Shvets is Macquarie’s head of global equity strategy and Asia-Pacific equity strategy.
We recently spoke with him about Donald Trump and the wave of populism that’s spreading around the world and what role technology has played.
This is part one of a series.
This interview was lightly edited for clarity.
Jonathan Garber: What does history say about the implications of a Donald Trump presidency for the global economy?
Viktor Shvets: You’ve probably seen the paper that we’ve written on populism, and what does it actually mean. For different people, it means clearly different things, but the essence of populism, whether it’s the left wing or the right wing, is that they tend to use the power of the state very aggressively to fulfil whatever objectives they want to achieve. Populism sits easily with both extreme left and right who claim to represent ordinary people in their struggle to restore their right to be heard as an expression of “pure will of the people.”
In the case of left wing, it could be a redistribution of wealth (“billionaires corrupting our system”). It could be nationalization of businesses. In the case of right wing, policies could be different (such as nationalistic undertones, “build that wall”), but the answers are still the same, “we are prepared to use the state aggressively to achieve what we think is right.” Whether it’s Theresa May in the UK or Donald Trump in the US, or a number of other presidents and prime ministers that have appeared over the last couple of years, most of them had a populist tilt. Given that dislocated electorate is suspicious that it might be a victim of a “bait and switch,” it tends to gravitate to extremes, and this pulls conventional politics to either the extreme right or left.
Essentially, what politics is doing is responding to cries for help. In other words, people are suffering, and the politics have to respond. It’s as simple as that. Now, why are people rebelling? Primarily because productivity growth rates have been very low globally, in some cases for decades. In the case of the United States, total factor productivity has not really grown since the mid-1970s.
Just increasing fiscal spending doesn’t necessarily increase productivity. What does increase productivity is the ability to combine labour and capital in a way that generates incremental output compared to the inputs. Because productivity rates remained low for an extended period, society theoretically should have been getting paid less, but society’s insistence on continuing wealth creation and uninterrupted growth implied that politics needed to respond and the only answer was deregulation and leveraging. We had a deregulation of capital markets, deregulation of labour markets, deregulation of product markets. The purpose was to give people the freedom to try to make money through greater flexibility, asset prices, and leveraging rather than through conventional wages and earnings.
Since 1980s, we all started to leverage. As productivity stagnated and leverage increased, income and wealth inequality started to rise. That’s been the case for decades. That’s not anything new, but there eventually comes a time when populace starts to believe that the system is not functioning properly. That started to happen not just five or 10 years ago, it actually has been going on for decades. The dysfunctionality of Washington is a reflection of a dysfunctional society. Politics is simply a mirror. The way I look at it whether it’s Brexit, Theresa May, Beppe Grillo, Le Pen, or Donald Trump, it is a response to people’s crying for help.
The question then becomes of course why productivity growth rates have been so limited for such an extended period of time. This is a fertile area for debate but to my mind, there are two reasons why that is the case. Number one is technology, and number two is overleveraging and overcapacity that we have created, as our preferred policy responses.
If you think of technology, most people assume that technology increases productivity, but in fact, when you are in the middle of industrial revolution, productivity actually falls, because parts of the economy become hyper-competitive, and over time these more productive segments slowly (one cut at a time) kill the rest of the economy. The jobs change. Labour markets change. How one is getting employed changes. The new jobs are not necessarily the same as the previous jobs and neither are they as productive. Compensation levels are not necessarily the same. The titles, the career path changes. What you end up with is actually lower productivity. For example, because of Amazon, two million Walmart employees today will have a lower productivity even though they work very hard. The same happened to equity and the fixed income traders, for example, over the last decade or two. They might be working very hard, but they’re not as productive anymore, partially because of a technological shift.
Eventually, history tells us that everything would line up, but it takes years and decades. That’s why the 19th century and 20th century were the centuries of revolutions and wars as they were going through similar processes as what we are going through right now. To me, technology is the biggest part of the answer why productivity rates had been lagging. It is structural in nature and therefore it probably would take decades for productivity to accelerate.
In the meantime, the political and societal response remains to encourage leveraging and bringing future consumption forward. That’s why real estate became an asset class rather than being just a utility or a home where you happen to reside. As we continue to leverage higher, creating more and more instruments from every piece of asset claim, gradually the private sector starts to lose confidence. The loss of private sector confidence started to happen not just in the last five or 10 years but had been an ongoing process since the late-1990s for most economies. As the private sector loses confidence, the velocity of money declines and the public sector feels that it is their responsibility to ensure that aggregate demand is maintained, whether it’s through proactive and aggressive monetary or fiscal policies. However, the more proactive the public sector becomes, the lower visibility the private sector has and it becomes a vicious cycle. There is no longer visibility of demand and neither are there any genuine prices, ranging from cost of capital and money to commodities. That’s what we’ve been living through over the last couple of decades.
At what stage should the government step back, or should it ever step back, as the nature of economies change? I think that’s what populists are confronting. Are we at a point that the conventional private sector will never genuinely come back, and therefore the public sector should become more and more aggressive, whether it’s using the bully pulpit in order to force companies to do what otherwise they will not be doing, sponsoring infrastructure or other investment, changing regulatory structures, nationalizing industries or nationalizing capital markets, dominating the bond market and other trading the way central banks have been doing for the last decade? At what stage should the government step out? Maybe they shouldn’t. Maybe they should just keep going.
The answer to this question depends on whether the conventional private sector recovers. If the private sector never recovers (or at least it takes years or decades until a new private sector emerges) then there is no way out, and so the public sector will have to become more and more aggressive. We have been arguing for the last five or six years that we are residing in a period similar to the years prior to the introduction of FDR’s New Deal in 1934. Public sectors in most countries remained dominant from the 1930s until the late 1970s, or until Ronald Reagan and Margaret Thatcher. The state was the decider. The public sector was deciding what will happen, how it will happen, how capital will be allocated.
I think we’re living through a very similar stage, and governments are somewhat reluctantly embracing more and more of those ideas. The pendulum is definitely swinging far more towards the public sector and this could go on for decades. As I said, because labour markets are disintegrating, most of the professions are becoming unrecognizable, compensation levels have been stagnating, and even if compensation rises you’re not confident of its durability and most people no longer have employment progression paths the way they used to back in the 50s, 60s, 70s, even in the 80s. We are dealing with deep secular changes.
Politics responds accordingly by saying, “We can protect you. We can help you.” That’s why one of the first statements made by Theresa May as a prime minister, “I don’t care whether you’re Google, Amazon, or Starbucks, you’re a citizen of this country.” She also said, “If you’re a citizen of the world, you’re a citizen of nowhere.” It is hard to envisage Bill Clinton or Tony Blair or even David Cameron expressing the same views. The same applies to Donald Trump’s “America First.”
Deglobalization trends have been strengthening since the collapse of the Doha accord in 2008. People, nations, states, and politics are now arguing that at the very least we need to slow down the pace of globalization and somehow compensate its losers. These are extremely treacherous times. We have been arguing for several years that we’re now residing in the era of declining returns on humans and declining returns on capital. The value of conventional labour inputs is declining every day. We’re also in the world of declining return on capital, simply because we have too much of it; the global economy is drowning in capital. When people say, “I don’t have capital,” my answer is that you just happen to be on the wrong street. If you cross the street to the other side, you will find plenty of capital. We have at least five to ten times as much financial instruments as the value of the underlying global economy. This is more than we’ve ever had in terms of capital.
As a result of declining return on humans and capital, both are rebelling. The response by politics is de-globalization. In other words, trying to protect domestic businesses, domestic employment, and support local demand. It becomes a zero-sum game. We entered it a while ago. The WTO is showing that over the last five, six years, about 20 instances every month occurring around the world where countries have been introducing various anti-trade measures. Sometimes it’s tariffs, but most of the time it’s anti-dumping duties, it’s aggressive usage of local licensing laws, aggressive usage of local taxation laws. Sometimes it’s certificates of origin or health checks. There are various ways that governments have been trying to slow down the pace of globalization.
Technology is driving globalization and deflation. Technology is driving unlimited scale, but it clashes against borders, frontiers, nations, and people who are trying to defend themselves. Politics is asking for reflation, not deflation. It’s like two boxers. Sometimes one wins, sometimes the other wins, and that’s why we keep gravitating between reflation and deflation; reflation and back to deflation.
Garber: Trump wants to prevent jobs and manufacturing from leaving the US for places like China and Mexico. Is that what he should be worried about, or should it be the robots?
Shvets: Populists get elected because people are afraid. The next question is to say, “By commanding Carrier air conditioners to keep operations in Indiana, does that preclude management of that factory from automating it, and those jobs will be gone anyway?” Of course it does not preclude it, that’s probably exactly what will happen. If Ford or GM decide, “OK, we’re not going to do certain things,” it implies some other segments in the economy are going to suffer. You’ve got one winner in Ford, but there are other sectors that as a result of this are going to lose. Similarly, when Toyota says, “We’re going to spend money,” they probably would have invested anyway. The way I basically describe it, the private sector bends and tries to accommodate politics, but they very seldom break. The only time they break is when the government nationalizes the industries, and the only other time private sector breaks is when the public sector underwrites private sector liabilities.
In other words, if the public sector says, “You know what? I will underwrite your margins on this highway or this project.” Fine. Or, “I underwrite your pricing and liability, but I will try to hide it in some off-balance sheet vehicle, so perhaps it’s not going to get reflected in the public sector liability of the United States.” If the public sector is prepared to underwrite the risk, the private sector will participate. If the public sector nationalizes the private sector, then the public sector can do whatever they want. Otherwise, the private sector accommodates politics as much as possible but very seldom does it break. The private sector delivers notionally whatever politics want them to deliver, but in reality, it doesn’t actually make that much difference, and if it does make a difference in one sector (like automotive), it usually comes at the expense of another sector. Generally speaking, it’s not something that’s been proven in the past as delivering results, very similar to the way Ronald Reagan was bullying the automotive industry back in the 1980s.
All I’m saying, whenever you act, there is an opposite reaction somewhere else, either within the United States or outside of the United States. That’s a zero-sum game rather than growing the entire global pie. From my perspective, it makes political sense, because people usually look at everything as zero-sum, even though economics doesn’t work like that. If you have an administration which is basically deal-makers, you could satisfy politics by making deals but at the end of the day, you probably won’t achieve much. Having said that, if the incoming administration embarks on meaningful structural reform (such as re-writing taxation code, easing the regulatory burden, increasing investment in a research part of R&D and reducing the degree of public sector interference), then clearly that would be highly advantageous. In other words, less cutting taxes for the highest earners and less bully pulpit and far more structural reform.
In terms of technological shifts, there is nothing that can be done about technology. One of the best quotes was from Boris Johnson when he was Mayor of London, and when people were clamoring for Uber to be outlawed. He basically said, “I cannot uninvent inventions. I can do many things, but uninventing inventions is not one of those things I can do.” At the end of the day, technology is going to win, but what politics is trying to do is to create much more socially acceptable outcomes in the short to medium term. People and politics are basically de-globalizing as much as possible, which is opposite to the way the world functioned from the late 1970s until about five or ten years ago. It’s going very much back to the 1930s, 40s, 50s, 60s, and 70s, rather than the conventional views of the last 30 to 40 years.