GMO’s Jeremy Grantham letter to investors for the third quarter ended September 30, 2015.
“It ain’t what you don’t know that gets you into trouble. It’s what you know for sure that just ain’t so.” – (Attributed to Mark Twain)
It takes little experience in the investment business to realize that investors prefer good news. As a bear in the bull market of 1999 I was banned from an institution’s building as being “dangerously persuasive and totally wrong!” The investment industry also has a great incentive to encourage this optimistic bias, for little money would be made if the market ticked slowly upwards. Five steps forward and two back are far more profitable.
Similarly, we environmentalists were shocked to realize how profoundly the general public preferred to believe good news on our climate, even if it meant disregarding the National Academies of the world. The fossil fuel industry, not surprisingly, encouraged this positive attitude. They had billions of dollars to protect. If the realistic information were to be widely believed, most of their assets would be stranded.
When dealing with realistic limits to growth it is also obvious how reluctant everyone is to accept the natural mathematical limits: There simply cannot be compound growth in a finite world. A modest 1% growth compounded for the 3,000 years of Ancient Egypt’s population would have multiplied its economic output by nine trillion times!1 Yet, the improbability of feeding ten billion or so global inhabitants in 50 years is shrugged off with ease. And the entire economic and political system appears eager to encourage optimism on resources for it is completely wedded to the virtues of quantitative growth forever.
Hard realities in these three fields are inconvenient for vested interests and because the day of reckoning can always be seen as “later,” politicians can always find a way to postpone necessary actions, as can we all: “Because markets are efficient, these high prices must be reflecting the remarkable potential of the internet”; “the U.S. housing market largely reflects a strong U.S. economy”; “the climate has always changed”; “how could mere mortals change something as immense as the weather”; “we have nearly infinite resources, it is only a question of price”; “the infinite capacity of the human brain will always solve our problems.”
Having realized the seriousness of this bias over the last few decades, I have noticed how hard it is to effectively pass on a warning for the same reason: No one wants to hear this bad news. So a while ago I came up with a list of propositions that are widely accepted by an educated business audience. They are widely accepted but totally wrong. It is my attempt to bring home how extreme is our preference for good news over accurate news. When you have run through this list you may be a little more aware of how dangerous our wishful thinking can be in investing and in the much more important fields of resource (especially food) limitations and the potentially life-threatening risks of climate damage. Wishful thinking and denial of unpleasant facts are simply not survival characteristics.
GMO’s Jeremy Grantham: How Incompetent At Business The French Are
Let me start with one of my favorites. For the 50 years I have been in America, Business Week and The Wall Street Journal have been telling us how incompetent at business the French are and how persistently we have been kicking their bottoms. If only they could get over their state socialism and their acute Eurosclerosis. And as far as I can tell we have generally accepted this thesis. Yet Exhibit 1 shows what has actually happened to France’s median hourly wage. It has gone from 100 to 280. Up 180% in 45 years! Japan is up 140% and even the often sluggish Brits are up 60%. But the killer is the U.S. median wage. Dead flat for 45 years! These are the uncontestable facts. So, all I can say is that it is just as well the French have not been kicking our bottoms. But how is it that we can believe so firmly in something that just ain’t so, and by such a convincing amount?
Exhibit 2 examines the proposition that although our wages may have done poorly, we are still the place that creates jobs. The left-hand panel certainly seems to confirm that with our modest official unemployment rate for 25- to 54-year-olds of below 5% compared to 9% for the E.U. The right-hand panel, though, shows the true picture. It looks at the unemployment rate adjusted for the non-participation rate, the percentage of all 25- to 54-year-olds who are not actually working (i.e., it includes those discouraged, uninterested, or even sitting in jail). There are now 21% not employed in the U.S. compared to 20.5% for the E.U., and our long-suggested job creating skills are looking a little thin. The problem lies in the so-called participation rate, as shown in Exhibit 3. The U.S. was one of the leaders in the percentage of women working, and from 1972 to a peak in 1997 the U.S. participation rate rose from 70% to 80%. From 1984 on, the U.S. spent 20 years ahead of most other countries in participation rates, but after 1997 something appears to have gone wrong: While other developed countries continued to increase their participation rate, that of the U.S. declined from first to last in fairly rapid order. What a far cry this reality is from the view generally accepted by our business world.
Exhibit 4 examines our belief that we have the best health care system in the world. And why shouldn’t we, given the money we put in (left-hand bar chart), over twice the average cost paid by the E.U. But
the right-hand bar chart shows what we get back. Two years less life than the median. And watch out for when the Turks, Poles, and Czechs cut back on smoking, for then we may find our way to the bottom of the list.
But if you really want to be worried about our comparative health you should take a look at Exhibit 5, which comes hot off the press from the guy2 who was just awarded the Nobel Prize for Economics (wait a minute, must be some mistake, this work seems perfectly useful). The data shows the death rate for U.S. whites between the ages of 45 and 54, which happily these days is when very few people drop off. Since 1990 there has been a quite remarkable decline for other developed countries, about a one-third reduction, as you can see, including for U.S. Hispanics. But for U.S. whites there is a slight increase! Further analysis for that group reveals that the general increase is caused by quite severe increases in deaths related to alcoholism, drug use, and suicides. Had the rate for U.S. whites declined in line with the others there would have been about 50,000 fewer deaths a year! (For scale, this is nearly twice the yearly number of traffic deaths in the U.S.)
You have to be careful these days when you suggest connections. For example, people have been told off for proposing that dramatic increases in population can help destabilize societies. Syria had two and a half million people when I was born and has 29 million people now. You can guess how much worse the situation is because of this but you should not talk about it. Similarly, Prince Charles has
been extensively criticized by professors in The Guardian3 for suggesting that a several-year drought in Syria exacerbated social tensions by ruining many farmers. As if! (You cannot prove precisely what effect climate damage had, but you certainly cannot prove that it did not have a large effect. It certainly had a contributory effect.)
GMO’s Jeremy Grantham: The U.S. Median Wage
With that caveat, let me seriously suggest a connection between Exhibit 1, which shows no increase in the U.S. median wage for over 40 years following a wonderful prior 30 years of a rise of over 3% a year, and Exhibit 5, which shows the uptick in unnecessary deaths among U.S. non-Hispanic whites aged 45 to 54. This is precisely the age group that was led to expect better for themselves and much better for their children. But those aspirations have not been generously fulfilled. The U.S. Hispanics, in contrast, mostly arrived later and had different expectations. All in all, this data is quite bleak. The point here is that it bears absolutely no similarity to the more optimistic belief set that is generally accepted.
The data presented in Exhibit 6 examines the proposition that “more and more goes to the government and soon they will have everything.” You have heard that many times recently in the political debate. Sorry, “bull sessions.” You can see that the U.S. share going to the government in taxes is about the least in the developed world and that it has barely twitched for 50 years. Yet, apparently we have been steadily going to hell. How is it possible that such a view is given such credence in the face of the data, which is, after all, official and simple, not ingeniously manipulated by some perfidious Brit. (Yes, I admit it, I consider myself American or British depending on whether the context is favorable or not.)
See full PDF below.