Despite a solid footing heading into the next economic cycle—low interest rates, a hot housing market, and strong GDP growth—there are some looming signs of a recession on the horizon that shouldn’t be ignored, a financial expert says.
“As good as prosperity is now and will be in the near future, there’s 100 percent certainty that we will fail at keeping this success going,” University of California–Irvine (UCI) finance professor Christopher Schwarz said during a June 10 virtual presentation.
“The question is, how are we going to fail?”
Schwarz’s presentation was made in conjunction with the Newport Beach Chamber of Commerce, the Greater Irvine Chamber of Commerce, UCI’s Paul Merage School of Business, and 26 other co-sponsoring chambers of commerce.
During his economic and financial forecast, Schwarz—faculty director for UCI’s Center for Investment and Wealth Management—pointed to a few warning signs to watch.
The issues influencing his analysis include residual COVID-19 fears combined with too much stimulus, rising inflation, lost productivity of U.S. workers due to pandemic closures, misallocation of resources, and what he refers to as a “huge prosperity hangover” especially if, or rather when, interest rates begin to climb.
Schwarz said much of the general public is still overly concerned about the pandemic despite vaccines and herd immunity statistics. Infection rates continue to decline and the lifting of mask mandates should make a positive impact on daily life for most Californians.
But Schwarz said there’s still a lot of unnecessary fear.
“Statistically, there is no reason to be frightened,” Schwarz said. “As humans, we’re really bad at dealing with low probabilities. For example, your probability of dying on a plane is something like 300 million to 1 in any given year, but somehow people [who are afraid] think those odds are far greater than they actually are, despite the reality.”
“Your chance of dying of COVID is about on par with dying from accidental poisoning, or walking across the street here in OC.”
Bouncing Back
“Looking back 15 months ago, it looked like the world was coming to an end, yet financially and economically things are coming back better than ever,” Schwarz said.He said that GDP this quarter is likely to be up 10 percent after being up 6.5 to 8 percent for the first half of the year, numbers that haven’t been that high in the past 30 to 40 years.
“It’s coming up champagne and strawberries as far as we can see,” said Schwarz.
But that’s also what makes him a little nervous.
He said an abundance of stimulus created abnormal demands on natural resources, causing commodity prices to climb to record highs. Resources such as grains, wood pulp, lumber, and copper are in high demand and short supply, so prices have skyrocketed 60 percent so far, resulting in a huge spike in inflation.
Schwarz said the Biden administration has been using the phrase “transitory inflation,” implying that the inflation is temporary, and due to “supply chain disruptions.”
And while it’s unlikely that the Federal Reserve will raise interest rates in the near future, if and when it does, it will have a significant negative impact on the economy, Schwartz said.
“In looking at the outlays of government spending as a percent of the GDP, since the late [1940s], U.S. GDP has averaged around 18–19 percent. The Biden administration would like to take that to 28–30 percent, taking it to 50 percent over baseline, which is a huge outlay—a sustained level of stimulus that hasn’t been seen in a very long while. And since taxes will not increase to anything near that rate, it’s hard to avoid the inevitable results of all that stimulus.”
The bottom line, Schwarz said, is that although 2021 will be a strong year economically, the Federal Reserve raising interest rate is something to keep a close eye on due to the serious consequences that could result.
He also noted that until more housing comes on the market, the current real estate boom will continue, and ultimately, “we are likely to see ‘mean reversion’ in the financial markets this year.”
