Protecting potential
2024 is an election year across the world, but the results are far from homogeneous. In the UK, the Labour Party has routed the Conservatives after 14 years in power, whilst in France, as in many other European countries, we are seeing the opposite trend, with the far right on the rise.
Yet these upheavals have one thing in common – a firm rejection of the powers that be. This is not a purely European phenomenon. In the US, the resurgence of Trumpism, despite its leader’s setbacks, form part of the same trend.
This rejection of the ruling powers is of course influenced by local factors, but some elements of this phenomenon are universal. In particular, as we can see in Europe, it is rooted in a deep sense of economic frustration that is manifest in a fall in purchasing power.
This sentiment can be partly explained by inflation, but this is proving transitory. A deeper-rooted yet less visible cause is the structural slowdown in growth that has been at play for far longer. It is true that growth remains positive at the global level, at over 3% on average over the last 10 years. But there is no doubt that it is slowing. And according to most economists, barring rigorous reforms, it is destined to slow further, auguring substantial difficulties for newly elected governments!
The World Bank recently focused on this structural decline[1]. It is based on the erosion – in part reversible – of potential growth sources: a decline in the growth of the global labour force, and a structural fall in productive investment and in productivity gains. Other factors given little consideration in this study could further aggravate this forecast, in particular, the impact of global warming, with the potential for far more dramatic consequences than predicted by the models that are usually cited. A recent study by the National Bureau of Economic Research[2], although not yet validated by the economic community, has recently caused consternation by estimating that one additional degree of warming could slash global GDP by 12% over six years – with a confidence level of 68% – six times more than suggested by previous estimates.
To counter this erosion of growth and the social frustration it entails, governments have often resorted to supporting demand through public-sector debt. But with public-sector debt approaching the limits of what is sustainable, it will become increasingly difficult to resort to this expedient. In any case, supporting demand is an inadequate response, as its impact is purely one-off. According to the World Bank, the only sustainable solution is to boost the factors of production: to increase productive investment, the total labour force (including via recourse to immigration, which generally supports growth) and its productivity. But this requires a mobilisation of energies, of electors and financiers alike. A difficult task, given that this type of measure is generally less popular than support for demand.
If economists are right and if drastic reforms are not undertaken, the consequences for markets of this structural decline in growth are clear. Unless companies can further raise margins – which looks difficult given their already record levels – future returns on equities are in danger of gradually falling. But this trend only applies to the average. It does not apply to all equities. Individually or in groups, certain high-performing companies will buck this trend. The so-called Magnificent Seven[3] companies that have dominated the market for the last two years is one example of this phenomenon, and others will appear over time. It illustrates the fact that even if the world – and in particular the industrialised work – is moving towards low growth, or even zero growth over the very long term, some companies will continue to prosper. It will be the role of active portfolio managers to spot these companies in good time, so that they can take advantage of remaining sources of returns, whilst also supporting investment in any sources of increasingly rarified growth. In certain conditions, protecting potential growth will thus go hand in hand with upholding market returns, at least in certain sectors.
Final version of 5 July 2024 – Alexis Bienvenu, Fund Manager, La Financière de l’Echiquier (LFDE)