Back in 2001, just after 9/11, the Economist ran a cover with the headline The Day the World Changed. It felt right at the time. But when historians come to look back at our times I wonder if, vile as it was, that will really be the event they note as the trigger for the Western world changing.
Instead, if you look around you now you might wonder if it was instead the poster moment of the financial crisis – the fall of Lehman Brothers.
After all, the crisis is clearly changing global politics as fast as it is global finance. These things are obviously complicated but you can make a case that the Arab Spring was precipitated by fast rising food prices – something you can easily blame on QE – a clear and direct result of the financial crisis.
The crisis has also precipitated the sovereign debt disasters across Europe and is obviously responsible for the increasingly common protests they come with. It can be blamed for China’s spat with Japan: would China’s leaders be any more bothered about the Senkaku islands than usual if they weren’t keen to shift attention from their own export slowdown?
It is also responsible in part for various independence movements. Would Scotland have elected the Scottish National Party if its voters hadn’t perceived Labour as being financially incompetent? And would Catalonia be making a bid to take over tax raising powers from Madrid without Spain’s economic crisis?
Then of course there is quantitative easing (QE) itself. Printing money for too long and in too great a volume is a bad idea for many reasons, but one is that printing money eventually kills faith in money. The legendary investor Sir John Templeton liked to point out that abusing weights and measures was a pretty fast way for a government to lose the trust of an electorate. And what is QE, something that changes the value of the dollar, pound and euro in your pocket, if it is not an abuse of a measure?
You could also blame the crisis for the fact that the size of Western governments is more likely to increase than decrease from here. Why? Inequality.
You can make a (pretty good) argument to say that rising inequality, in the form of falling real wages for the 99%, left consumers with no power to consume unless they borrowed to do so – another big contributory factor in the financial crisis. But whether that is true or not doesn’t really matter. Inequality has become a political big deal across the West and that means politicians of all colours, even as they fail to deal with their budget deficits, are still trying to find new ways to redistribute.
This is why we have to put up with the interminable arguments about the introduction of wealth taxes here (I would remind you that in stamp duty and non- index linked capital gains tax, we already have two wealth taxes); why not everyone is outraged by the Lib Dem idea that those earning over £50,000 should be forced to fund a greater share of the UK’s debt repayments than they have so far; and why most of France’s rich have already packed their bags for a multiyear sojourn in Monaco.
My point in all this is that the crisis has not just had economic effects. It has had huge political effects too. Add all these together and you can see that levels of both misery and uncertainty across the global economy are surely at something of an extreme.
That doesn’t necessarily matter from a purely investing point of view. The question, as Sandy Nairn and Jonathan Davis say in their new book, Templeton’s Way with Money, is just “how much negativity is already being discounted in the price of shares, bonds and other financial instruments”. Usually when times are as tough – and in particular as unpredictable as this – investors are compensated in the form of very low valuations and thus a strong probability of high returns in the future. Hence the idea that one should “buy when there is blood on the streets”.
But there isn’t any blood. Yes, one or two markets, especially in Europe, are cheap on the basis of long-term valuations. But, thanks to a toxic mixture of QE and delusion, the US is certainly not.
Strategist Andrew Smithers suggests that while US equities should be “cheap in recognition of the risks” they are instead expensive – 59% overvalued on Smithers’ preferred measures. These are the cyclically adjusted p/e ratio, which looks at profits over a ten-year period, and Tobin’s Q, which compares share prices to the replacement value of assets. How long can that last?
Société Générale’s Albert Edwards thinks not very long. His latest note suggested that everyone should slash their equity exposure to the bone, something he last suggested back in May 2008, on the basis that while QE might well provide the money to keep asset prices up for a while, investors will eventually lose faith and accept that Ben Bernanke’s “ruinous” policies will one day or another “destroy the world”. Something to bear in mind if you think your money might be safer in the US than Europe.
• This article was first published in the Financial Times