The following is a summary of our recent interview with Tyler Kling, which can be accessed on our site here or on iTunes here.
With the strongly anti-EU candidate in France, Marine Le Pen, losing the first round of elections over the past weekend, global markets have been in rally mode for the past two days as fears over a breakup of the European Union have subsided.
The general belief now is that the political uncertainties associated with the "populist wave" sweeping Europe have moderated and investors can now focus on generally improving economic fundamentals for the European region.
FS Insider recently spoke with Tyler Kling at Macro Ops on why fears over populism were slightly overhyped at first but why, over the longer-term, the populism trend will prevail based on the long-term debt cycle, which is now running in reverse.
The Three Socio-Economic Truths
To understand the longer-term shift towards populism, Kling relies on three “socio-economic truths.”
The first truth is that any large tribe of people is relatively open and peaceful when they perceive their standard of living to be improving. For example, since World War II, there hasn’t been too much conflict in the Western world, and living standards have been going up. We’ve seen a rush towards globalism as a result.
The second truth is that nations become closed and retaliatory when they perceive their standard of living to be declining. When this happens, people rapidly become less open to their neighbors and sharing, Kling noted.
“It’s a scarcity mindset, rather than an abundance mindset,” he said.
The third truth is that our standard of living is on a relative scale.
“Within a society, it’s better ... to benefit less as a whole than for parts of society to materially benefit more than others, even if the standard of living is higher for all,” Kling said.
This is reflected in the wealth gap, and when this gap is relatively wider, a society tends to become less stable.
Long-Term Debt Cycle Driving the Trend
To quantify — and thus model — these three truths, Kling looks at the long-term debt cycle, which is the trend in the level of debt in the economy over a long time period, characterized by gradual increases in the levels of debt, followed by a deflationary debt roll-over phase. Much of the research on debt cycles, Kling pointed out, has been conducted by Ray Dalio and his team at Bridgewater, the world's largest hedge fund.
Since WWII, we’ve seen this dynamic apply in the first truth, Kling noted, where debts have increased and have acted in a positive manner for society because the debt has generally been used for innovative, beneficial purposes.
That all began to change around the year 2000, when the long-term debt cycle reached a peak and is now running in reverse, as Tyler explains in the following clip:
Short-Term Fade, Long-Term Boom in Populism
Though this dynamic may not play out immediately, Kling expects the rise of populism to play a larger role in the economy and markets than will classic monetary and fiscal policies.
“We believe that fiscal policies are largely an influence on the short-term debt cycle or business cycle,” he said.
Ultimately, analysts and academics don’t have the tools capable of handling a long-term debt cycle, and there’s still a lot of skepticism around the concept itself, Kling noted.
Part of the issue is, these cycles happen so infrequently and with so much lag-time between them that they’re hard to test.
“In terms of the short-term … we think that the populist narrative is a little overdone,” he said. “We still think that populism in the long-term is going to continue to pick up, but these things tend to go in waves.”
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