In a recent (September 14, 2016) article penned by my colleague Joanne Baynham, entitled ‘The Keynesian Put’, Joanne outlined the negative impact low, in some cases negative, interest rates were having on the banking sector and, more broadly, demand in the economy and on economic growth.
Where once governments around the world (particularly those with large deficits) relied on central banks to do the heavy lifting and prop up the economy through the enactment of monetary policy tools, namely, the management of interest rates and by adjusting the supply of money in the economy – they are now steadily shifting away from such reliance and are instead looking to boost both demand and subsequently economic growth through fiscal policies.
At the time of writing this article, the UK Government has just given its backing for a third runway to be built at London’s Heathrow airport, with some projections suggesting this will result in an economic benefit of £61bn and the creation of 77,000 additional jobs. Add to this, the £18bn Hinkley Point nuclear power station and the potential construction of the new £42bn HS2 rail line, and it is evident that the UK has come a long way from the days of former Chancellor George Osborne advocating austerity and targeting a narrowing of the fiscal deficit.
As we watch the ‘soap opera’ that is the US election trail, one message that remains consistent from both candidates is that, in an attempt to boost demand, the successful candidate will embark on a policy of fiscal stimulus, in the form of government spending on infrastructure projects; the ‘Fiscal Cliff’ seems to have been forgotten about for now.
As the chart above reflects, the S&P Global Infrastructure Index (in yellow) has outperformed both the MSCI AC World Index (orange) and the S&P 500 Index (white) year to date. Though it could be argued that there are additional factors driving performance, it could also be argued that expectation of support from government spending is a considerable tailwind.
There are a number of aspects to consider in following a path of government spending. Firstly, increasing government spending without balancing the equation, by increasing tax receipts (which would be counterintuitive), would potentially widen the budget deficit. However, with borrowing rates in most developed economies at record lows, it would seem an opportune time to follow such a policy.
Secondly, increased spending on infrastructure should increase demand for labour and potentially drive wages higher, particularly in an economy like the US where the job market is somewhat tight. Again, this should not be such a problem in developed markets with benign inflation measures; in fact, a degree of wage inflation is desirable and is being specifically targeted by some central banks.
Looking forward, who would the potential beneficiaries of an increase in infrastructure spending be? We would suggest companies involved in the process of constructing new and/or updating of old infrastructure through to the extractors/producers of the raw materials being used. Construction companies, engineering, machinery, suppliers of equipment, producers of components that go into equipment, steel producers, cement providers etc., rather than the infrastructure providers themselves, including, for instance, in transport (toll roads/rail/airports), utilities networks (power grids/water works), and communication lines (broadband/fibre optic cables etc.).Time for a Change of Policy?