A recession would doom President Trump’s reelection chances, according to Robert Shiller. But he said the chance of that happening before next November is less than 50%.
Shiller is a professor of economics at Yale University and a co-recipient of the 2013 Nobel Memorial Prize in Economic Sciences. He spoke to advisors via a conference call that was sponsored by Barclays Investments. Barclays offers a number of index investment products based on Shiller’s cyclically-adjusted price-to-earnings (CAPE) ratio.
Shiller’s political prediction is built on his work on narratives, which is the focus of his next and 13th book, Narrative Economics, available through the link on this page.
The Trump narrative goes back 50 years, Shiller said, to when he began in the real estate industry. Trump knows that a recession doesn’t fit in to his theme of “make America great again.” There is enough evidence that recessions are bad news for incumbent presidents, he said.
“A recession will spell the end of the Trump presidency,” Shiller said.
But those who wish for a different president might not be as enthused by Shiller’s comments on the CAPE ratio.
That ratio is at a historically high level (almost 30 in the U.S.) in part because of the Trump narrative, Shiller said. “Even those who don’t like him are inspired by his tough business attitude.”
The Trump narrative has a powerful impact on growth stocks. A value narrative requires, “holding back from enthusiasm and buying boring stocks,” Shiller said. But the spirit of our times is not a value-investing spirit.
“It’s much more fun to go to a Trump rally and invest in stocks that have a great story,” he said, “than to pull back on stocks.”
The history of economic narratives
Shiller’s book is an outgrowth of his presidential address to American Economics Association in 2017. Economists are neglecting narratives, which he said is an obvious oversight.
“The human mind is influenced by stories. Our thinking changes as narratives change, especially when a narrative goes viral, which can happen fast on a global basis.”
The idea that we can talk ourselves into a recession started with the Great Depression, according to Shiller.
Shiller claimed that a “frugality narrative” extended the Great Depression. That was when “simple living” had its heyday. But it meant that nobody wanted to spend, and that lack of consumption depressed economic growth. New car sales fell 85% from 1929 to 1933, he said.
The frugality narrative overwhelmed purchasing decisions.
“Nobody wanted a new car in their driveway when their neighbors were desperate,” Shiller said.
Since last year, he said, talk about a recession has been “blooming.” Part of that discussion has centered on an inverted yield curve which, according to the narrative, predicts recessions reliably. That narrative didn’t exist 50 years ago, according to Shiller, and arose only after inverted yield curves were observed prior to recessions.
Shiller suspects that the inverted yield curve narrative is the result of data mining. Indeed, he said, that narrative could be so strong that recessions after an inverted yield curve happened or were extended, in part, because of the narrative.
Another narrative, around artificial intelligence (AI), is “in the background,” he said. It has people scared that their jobs would be automated away by AI. That narrative is not dominant yet, but he said it could come back if there is a recession, and deepen that recession.
“When your next-door neighbor is suddenly laid off and can’t find a job and has to sell their house, that startles people,” he said.
“If you think this is going to be a long haul, then of course you will cut back on vacations and other optional expenses.”
The macro and investment outlook
Shiller was cautious about the ability of monetary or fiscal policy to counteract a possible recession.
Central banks have some ability to fight recessions, he said, as they did during the financial crisis in a synchronized way. But interest rates are so low that cutting rates, especially in Europe, won’t work.
“If rates go any more negative,” Shiller said, “people will withdraw cash.”
As for fiscal policy, politics are too polarized and there is less tolerance for debt.
He called modern monetary theory (MMT) a “fad narrative” invented by SUNY professor Stephanie Kelton and popularized by Alexandria Ocasio-Cortez (D-NY). “We do have to worry about debt,” he said, “because it has to be repaid.”
On a macro level, the main risks come from a recession in Europe, which Shiller said is already happening in Germany, conflicts in the Middle East and a spike in oil prices, which he said has historically been disruptive.
The high U.S. CAPE signifies overpricing, but it is not a clear indicator to go from stocks to bonds, according to Shiller. Bonds are also expensive and overpriced on a long-term basis. He advised allocating within the U.S. to low-CAPE sectors.
“There are always bargains,” he said.
He said four of the 11 sectors in the S&P 500 have low CAPEs relative to their history: communication services, materials, technology and health care. Technology is expensive on an absolute basis, but not relative to its history.
“In the long run, we’ll do all right,” Shiller said. “Stocks are still a good investment for the long run even though they are a little bit expensive in the U.S.”