As markets continue their volatile streak, Jim Puplava turned to long-time financial analyst A. Gary Shilling to get to his take on what’s happening and what investors can expect in the weeks and months ahead.
On our FS Insider podcast two years ago, Shilling correctly predicted interest rates would dip to one percent and that oil prices would fall. He made this call while the Fed was raising rates and many didn’t see much validity in his forecast but, as the markets see some of their worst days, the call is more prescient than ever. Shilling and Puplava discussed the oil supply war, economic impacts of the coronavirus and the reorganization of the global supply chain.
For audio, see Gary Shilling Warns of a ‘Major Recession Shaping Up’.
Oil Production Ramping Up
Shilling explained that supply currently exceeds demand for oil and the only way you can support prices is by limiting supply. Russia and Saudi Arabia have both promised to increase their oil production in this price war, thus sending oil prices down sharply. Shilling believes there’s a bit of a hidden agenda in this fight between the two countries.
“I think the ultimate aim here is they're both trying to drive American frackers to the wall because their oil is cheapest, as fracked oil is, their oil is cheaper on a marginal cost basis. Once you've got the holes in the ground, the cost you're getting out into the market is about five bucks a barrel in the Persian Gulf.”
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But Shilling doesn’t see this lasting forever. He pointed to the entrepreneurial spirit of frackers and predicated that once oil prices bounce back to $40 or $50 a barrel, “they’ll be back in there drilling like crazy.”
Consumers No Longer Supporting US Economy
In the past four years, consumers have accounted for nearly 90 percent of the U.S.’ economic growth. In the wake of the coronavirus panic with bars, restaurants and most public events and spaces closing or canceling, this won’t hold true much longer. Most discretionary spending has halted, whether because restaurants and bars have closed, conferences canceled and travel stopped, or because many of the people working in such service-based industries no longer have jobs due to the forced closures.
This lack of consumer spending will continue much longer than the closures. Interestingly, Shilling pointed to the stockpiles many Americans have made with things like toilet paper and non-perishable items. “People are going to be working down those inventories after [the quarantine] is over, which is going to reduce their spending for many more months beyond the end of the coronavirus scare.”
Push for Infrastructure Spending
Just as in 2009, Shilling believes there will be a “big push” for infrastructure spending the U.S in the coming months. But, he said, “the results will not come in time to prevent a major recession shaping up—they will come much later.” The reason we haven’t seen this much needed infrastructure spending is due to concerns over how it would be funded.
Concerns over the federal deficit have vanished in the wake of Modern Monetary Theory (MMT). The U.S. has had skyrocketing federal deficits consistently over a trillion dollars, while interest rates have collapsed. This has led people to think deficits don’t matter and Shilling said, whether they matter in the long run or not is a different matter. He said the idea of MMT is taking away all concerns about deficit financing.
“The way I see it,” Shilling said, “We’ll have big fiscal stimulus in the form of infrastructure spending, with plans now and action not until later, but it will attempt to convince voters that the [government] is doing something.”
The End of Globalization?
Shilling said the coronavirus has put “the last nail in the coffin of the globalists, of the people who thought free trade was wonderful and the route to growth and global prosperity.” While the idea may have sounded nice, people have long been against it. He pointed to China not playing by the rules, to those who voted Trump into office and to those who voted for Brexit in the U.K.
“Globalization’s under attack,” Shilling said. This will lead to a less efficient world. A world without production in one country, manufacturing in another and labor in yet another. There will be slower economic growth and less productivity growth. Shilling doesn’t believe this model will lead to higher wages in the U.S. as many like to think. He said, “We won’t see a big benefit to U.S. wages because if you don’t have productivity growth, you don’t have the wherewithal to pay people more money.” He added that a slowing global economy is highly deflationary.
While the coronavirus isn’t a war in the typical sense, Shilling said it’s a threat to national security. It’s a national security issue if we can’t be assured that necessary supplies like raw materials, components, finished products will get to us. This could lead to more reliance on domestic industries such as steel and auto manufacturing. “There will be a lot more pressure to do things close by and I think it’s going to work to the benefit of Mexico, because Mexico is still a lot cheaper for manufacturing than the U.S,” Shilling said.
There aren’t currently any big imbalances in the U.S. economy like the subprime mortgages of the 2007-2009 recession. But, with all the disruption in the global supply chain, Shilling believes the U.S. could see a severe recession. “Simply because it’s such a novel situation. It’s such a disruption in the way the world has been put together.”