John Dessauer S Investor S World Hotline Wednesday July 2, 2008

John Dessauer Investments, Inc.

John Dessauer’s market review and update as of Wednesday September 7, 2016

Slow productivity growth seems to be the number one issue among Wall Street heavy hitters these days. Stanley Fischer, Federal Reserve vice chair, wrote about it. Then Bill Gross wrote about it. And, I found a lengthy discussion of productivity when I opened the September issue of the Morgan Stanley “On the Markets.” What is different about the Morgan Stanley report is that it includes a discussion of what it takes to increase the rate of productivity growth.

There is agreement that slower growth in productivity has long term negative consequences for business and consumers. Here is a summary of the Morgan Stanley analysis: “Theslowdown in productivity has profoundmacroeconomic consequences. Lowlaborproductivitygains limit wage-incomegrowth and thus are crucial for theconsumeroutlook. In addition, itdetermines the extent to which wageincreases translate into labor-costpressures, profit-margin compression andlower investment spending.”

The reason there is so much attention being given to productivity growth and its long term outlook is that the recovery from the 2008 financial crisis has been long and slow - well below the rate of recovery from past recessions. The Federal Reserve, Bill Gross and Morgan Stanley are trying to figure out if slow growth is here to stay or if a more normal period of faster growth is on the horizon. These are serious folks, a far cry from the popular, noisy, permanently pessimistic pundits.

The below average slow growth since 2008 is not confined to the U.S. And the immediate outlook for the global economy is for the slow growth to continue. “By our estimates, potential growth for the developed market (DM) economies is only 1.25% through the second quarter of 2017—about 1.5 percentage points lower than in the late 1990s.” (Morgan Stanley)

Economists in the U.S. - including several members of the Federal Reserve Board - keep hoping good news on job creation will boost overall U.S. growth enough to allow another 0.25% interest rate increase. But, so far, reality has repeatedly dented that optimism. After very strong job creation in June and July (over 270,000 new jobs per month), August numbers came in well below expectations at 151,000 new jobs. In addition, factory utilization fell more than expected, to a level that indicates contraction rather than growth. All of a sudden the odds on a September interest rate increase changed. Now the odds indicate no rate increase until, perhaps, December. The economic expectations roller coaster ride continues. However, the quarterly growth numbers provided by the Bureau of Economic Analysis have been consistent. For the first half of this year the economy has grown at a rate well below past recoveries and well below expectations. Atlanta Federal Reserve’s forecast of a sharp increase to an annual rate above 3%this quarter looks no more realistic than the similar optimism for the second quarter. The U.S. economy, like so many others, seems trapped in a slow growth condition that may continue for a long time. The economic antidote is faster growth in productivity. Morgan Stanley says that while reviving productivity growth is not easy, the steps that need to be taken are clear and well known.

First is spending on Research and Development (R&D). R&D leads to innovation and new technologies that leverage human efforts. While we may not see a repeat of the technological revolution of the 1990s, there is no limit to what R&D can provide. Manufacturing and technology companies tend to spend heavily on R&D. That is a positive. Government can also provide money for R&D at universities, through grants to study and dig deeper into the makeup of our planet.

Second is automation. Morgan Stanley says that in the past, automation leveraged the work of lower skilled workers, but that digital automation leverages the work of higher paid and higher skilled workers. It is amazing what has become possible since the digital technology revolution began. Gone are the big wheels that once were used to steer ships. Now a joy stick controls engines and thrusters. Walk into a manufacturing plant and you see computers directing machinesthat cut and form intricate parts. It is arrogant to think that somehow we have exhausted the possibilities for automation to improve worker productivity.

Third, according to Morgan Stanley, is free trade. Free trade distributes the benefits of innovation and new technologies to the less developed economies. That improves their productivity and that benefits the global economy. There is still plenty of room for productivity improvement inemerging economies.

Fourth and finally, infrastructure spending can add to productivity. High speed internet is an example of infrastructure that adds significantly to productivity. Less obvious are structures such as bridges and roads that are built to last longer and provide better transportation. By making transportation smoother, quicker and safer they add to a community’s productivity growth potential.

Will all countries and all governments make the right decisions and follow the path to improve productivity growth? The most likely answer is, no. But the global economy is always a mixed bag. Some do very well and others fall behind. That will likely be the case in the years to come. However, the point of the Morgan Stanley analysis is that there are ways for productivity growth to improve. The U.S. and global economies are not condemned to decades of sub-par growth and stagnant wages.

Pessimism about the long term future, if popular, can have a detrimental immediate effect. Why invest in new projects if the future is so glum? During the recovery from the 2008 financial crisis, the rate of investment by businesses has been much lower than during past recoveries. A big reason for the lack of investment has been the high level of uncertainty about the costs of health care and the burden of new regulations. Time has helped. Business managers have adjusted to the new regulations and now know a lot more about health care costs and how to deal with them. There is plenty of cash on the sidelines available for investment. What is badly needed at the moment is a change in sentiment - a little more optimism.

Political turmoil in Europe, parts of Asia and the United States is a sign that people are tired of the gloomy outlook. They want change for the better, meaning real growth in wages. Odds are that there will be some change for the better. The long term productivity challenge may not ever be completely fulfilled, but even a modest improvement in expectations can boost growth and increase opportunity.

Meanwhile, third quarter earnings among U.S. companies are looking better. The Argus Research expectation of high single digit growth in third quarter earnings for the S&P 500 companies is likely to be correct. That will provide a solid foundation for current stock prices. Stocks remain our best investment choice.

I will have the next market review and update for youoneweek from today on Wednesday September 14, 2016.

All the best,

John Dessauer