Gavekal Research

In our politically correct age the pressure to bow down before certain popularly accepted and apparently proven “truths” can be overwhelming. In the aftermath of the US elections, two such nostrums are unnecessarily vexing investors—the urgency of deficit reduction and fear of higher taxes. I believe that both of these obsessions will soon be forgotten—and as a result equity markets will be stronger in 2013 than generally expected.

In A Study of History, Toynbee explains that the role of a society’s elite is to rise to the challenges of the times, and find solutions fitting to those times, even if this involves a radical break with the past. Meanwhile, the modus operandi for most leaders is to try and maintain the status quo, and restore the “old order” that prevailed before the disruption. But if the problems are large enough, this does not work, and the same challenges reappear until either a solution is found (e.g., the European Union project as the solution to Franco-German rivalry), the elite is replaced by a new elite (i.e., revolution), or the country, system or civilization disappears (e.g., end of the Soviet Union). Now if one buys into Toynbee’s grid of reference (and a number of us do), then it is possible that welfare states everywhere around the world are entering revolutionary times.

Perhaps the most famous economic law is the one that there is no such thing as a free lunch. By keeping US short rates at abnormally low levels beyond the financial crisis and as growth bounces back beyond the dreams of the wildest optimists, the Fed increasingly seems to be trying to ‘feed the US economy for nothing’. This is worrying for as we have reviewed before, extended periods of cheap money typically come back with a hefty price tag, namely higher unemployment, less efficient economic output, and stagnant financial markets (see Ricardian Growth, Schumpeterian Growth & the Cost of Capital).