The chief global strategist at JPMorgan Asset Management lays out 3 reasons why the Fed's recent rate cuts could hold the economy back for 10 years - even as investors celebrate
- Investors were thrilled this summer when the Federal Reserve started cutting interest rates again. But David Kelly of JPMorgan Asset Management says they've failed to see the damage they're causing.
- Kelly says low rates and easing have slowly started to depress economic growth, which harms corporate profits and affects stock prices.
- Today, 30% of all the debt in the world has a negative yield, and all indications are that rates will stay low for many years. Kelly says that means the problem will hamper growth and returns for at least a decade.
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Central banks around the world have committed to lower interest rates over the past few months, and investors appreciate it, since it's helped major stock indexes hit all-time highs.
But David Kelly - the chief global strategist at JPMorgan's $1.9 trillion asset management business - says those investors should hold off on sending a thank-you card. He argues that low interest rates and monetary stimulus have held back the global economy for years, and he believes they're setting it up for 10 to 15 years of sluggish growth ahead.
Slower growth means weaker corporate earnings, since those profits are the main source of fuel for the stock market, that suggests smaller returns are coming. And because lower rates helped pull the world economy out of the Global Financial Crisis, he argues that their damaging effects have gone unnoticed by central bankers.
"Any medicine, taken to extreme, turns into a poison," Kelly said at a media event detailing his firm's long-term capital market views. "There is this assumption out there that monetary stimulus is becoming less effective over time. But it actually quite possible that it is not just less effective, it is actually counterproductive."
That's one reason Kelly and his firm think the US economy will grow just 1.9% a year, on average, over that 10-to-15-year period - a period during which he sees US large-cap stocks delivering annual returns of 5.6%. That's well below their historic average of 7.6%.
Other factors in that forecast include the aging global population and trade tensions.
3 reasons the Fed has created a difficult situation
Kelly gives three major reasons that those bank efforts have gradually turned into a problem - one that isn't about to fade away, and will likely get worse in response to a major slowdown or recession.
The first is that low rates don't really help the US economy as a whole. They help the housing and manufacturing sectors, which are fairly small compared to the rest of the country's service-based economy, at the expense of millions of people who are trying to save money.
"It's not possible to stimulate that much economic growth by taking the cost of capital lower," he said. "Households have far more interest-bearing assets than interest-bearing liabilities ... so when rates fall, you don't have any benefit."
Big banks are even more critical to the European economy, he says, and since interest rates there are negative, the struggles of those banks are even more devastating.
Next, he adds that the promise of low rates has been eroding demand and spending for years, slowing growth.
"The expectation of low rates forever more is telling people there's no need to borrow money now," he said. "The whole way you stimulate an economy is to tell people 'don't wait and see, do it now."
Kelly also says that rate cuts and easy money are damaging confidence by sending the discouraging message that the economy is still fragile.
Those negatives have been piling up in recent years, and Kelly says the Fed, Bank of Japan, and European Central Bank haven't realized it. That means that during the next downturn or recession, they'll cut rates and use other monetary tools again, and when that doesn't work, it could set off a spiral of bigger and more harmful policy mistakes.
"One of the problems we think is going to occur over the next 10-15 years is that when we have another problem, central bankers will probably provide more monetary easing, which actually won't cure the patient at all, and therefore leads to even more [easing]," he said.