Back to the future - Biden and Trudeau recreate the 1980's
Spiralling inflation, deep recession and financial malaise are in the cards under these two "progressives".
Millenials, Gen Z and Gen Alpha people have grown up in a world where inflation was low, interest rates were negligible, growth was high and stock markets dealt out gains for all but the most reckless. Now these people comprise the largest segment of the base of the Liberal Party in Canada and the Democrats in the United States (although the love affair for Trudeau seems to be waning). Fed a diet of “modern monetary theory”, “intersectionality” and “critical race theory” by leftist teachers and university professors, they protest against “racism” that is a largely historical relic rather than a current issue, labour under the misapprehension that there are more than two genders, believe that governments can print money indefinitely, and have never digested the concept that socialism (that is, state control of the means of production and distribution) leads to chaos, not utopia.
Those chickens are coming home to roost. Liberal millenials are about to learn that the progressive policies of their favorite leaders are divisive, destructive and damaging to their futures. Inflation was reported this morning at 7.5% in the United States - the highest print since 1982, long before they were born. A brief review of the economic conditions of the late 1970’s and early 1980’s should give them the cold shower that they badly need.
In the late 1970’s mortgage interest rates were about 7% which seems outrageous by today’s standards, but a new home rarely cost more than $150,000. In 1978, we purchased our first home, a four bedroom subdivision property on a nice lot in Don Mills, for about $115,000 carrying a 7% mortgage. My income was $22,000 a year at the time, and the mortgage was manageable. We had a home. We nearly lost that home in 1981 when our mortgage came up for renewal at 18% interest and we struggled with the payments until I was made a Vice President of Canadian General Electric Company Limited in 1983 and earned a large enough bonus to repay the mortgage.
My ex-wife has lived there since 1978 and is about to list that property for $4 million and she will get at least that when its sells this spring. Our two children, now in their 40’s, have been fortunate to have completed post-graduate education at University of Toronto and Massachussets Institute of Technology and have become multi-millionaires well able to afford to own a home. Not so my second family, with my three youngest children in their low to mid-twenties. While my 27 year old was able to buy a small condominium for about $500,000 with some parental support, my 25 and 22 year old children may never be able to afford a home of their own, despite their fine educations and strong employment prospects. The challenges they face are about to get worse.
Inflation at 7.5% is more likely to rise than to fall and sooner or later policy-makers will be forced to raise interest rates, driving the costs of home ownership higher until prices correct with painful consequences for those who leveraged up at 2% mortgage rates and bought homes they couldn’t really afford. Federal government debt, doubled to $1.3 trillion under Trudeau, cannot be funded without major tax increases and may not be fundable at all if rates rise and they seem sure to rise. Every 100 basis piont rise in interest rates adds $13 billion to the federal government deficit. It is not hard to see double digit interest rates returning to Canada. Higher rates and higher taxes will lead to recession and stifle opportunities as industry is forced to contract to weather the economic storm that is coming.
To stave off rampant inflation in the late 1970’s our government had to force interest rates northward until they reached 21.46% for a five-year mortgage in 1981.
Three years of wage and price controls (enacted by Pierre Trudeau in 1975 and repealed in 1978) did little to stem the runaway inflation and the only medicine that worked was extraordinarily high interest rates with damaging consequences for borrowers. It took over a decade for those rates to fall back into single digits. The immediate and devastating effect of the anti-inflationary policies was a slowing of economic growth until a deep recession in 1982 when Canada’s economy shrank by 3.2% in real terms.
Source: U.S. Federal Reserve Bank
Markets react to evidence of higher inflation and the prospect of higher rates. In the 1980’s, market downturns were pronounced with a major sell off on October 19, 1987 when the markets fell 22.6% percent in single day. The current evidence of rising inflation and potentially higher rates has markets nervous, with high volatility and some headlines suggesting this could get worse.
Market crashes are like a garage sale - they create opportunities to buy valuable assets at deep discounts to underlying value. The table has been set for a deep recession and a sharp decline in market indices. This may be a generational opportunity for wise investors - the strategy is simple. Reduce debt, build a cash balance and be patient. Buy into companies with a record of improving profits and growing revenues when there is blood on the floor.
I recall the 1987 crash very well. I had built a sizeable portfolio in The Enfield Corporation Limited, a company which I had founded. I saw the writing on the wall with foolish government policies and over extended credit at a time when the markets seemed to over value many names. By reducing debt, building a cash balance and seizing the opportunity created by the crash, I managed Enfield to turn in very strong gains in each year from 1986 to 1988 including the 1987 crash. Here is a summary of Enfield’s performance during that period as reported in Enfield’s 1988 annual report to shareholders.
The only sector of the public markets showing promise today is the oil & gas sector, itself a beneficiary of ill-conceived government policies pretending CO2 is harmful and that reducing CO2 emissions will improve global climate. The result has been a flight of capital from the energy sector and a global shortage of fossil fuels at a time when demand keeps rising. Oil prices are at a levels not seen in a decade and are poised to rise even further. Canadian energy producers are using the gushers of cash flow they are enjoying to pay down debt, increase dividends and buy back stock. The oil & gas stocks and battery metals miners may the only market sectors that gain when markets yield to higher interest rates and governments press on in their relentless “climate change” nonsense trying to force nature to cooperate with left wing ideology, something unlikely to occur in world still governed by the laws of physics rather than the Acts of a Liberal Parliament or a Democrat led Administration south of the border.
Buckle up. Enjoy the ride. Stay safe and stay liquid.