Feeling Good About the Economy? Be Careful

Here's What You Should Do Now With Your Finances

May 23, 2019
Finance

SMITH BRAIN TRUST  A recent Gallup poll revealed that Americans have near-record confidence in their personal financial situations, with 69% saying they expect to be financially better off a year from now. Maryland Smith finance professor Albert “Pete” Kyle says he can see why people feel so optimistic, but he cautions the good feelings won’t last forever.

“It’s just a matter of time,” he says.

People feel so good about their personal financial situations because the economy is strong, says Kyle. “Everything is staying on the high side of normal. You haven’t seen a huge increase in wages, but you haven’t seen a huge spike in inflation, so that’s going pretty well. That explains why the economy’s expansion has gone on so long.”

One of the factors at play, says Kyle, is a strong labor market and the relatively high elasticity of the labor supply. People aren’t having trouble finding jobs, even people who are just rejoining the workforce. “You’ve seen a lot of people move from the ‘happy-not-working’ category into the ‘employed’ category. When they decide to start looking for a job they immediately find one, so they don’t remain unemployed very long.”

Other factors Kyle says are at play: The banking system is reasonably healthy, not overextended. Consumer spending is reasonably healthy, not overextended. The housing market is doing pretty well, but not in a bubble situation. The stock market has gone up a lot, but it’s not a bubble because of corporate profits tax cuts, which increases cash flow to the companies and makes them more valuable. The stock market is on the high side of normal.

What goes up must come down

Given the economy has already expanded for a record length of time, Kyle wonders how much longer can it go on. “It seems to me that it might be able to go a bit longer, but something will give at some point. Something will get overextended or some big event will happen that breaks it – I don’t know what,” he says.

Kyle says he’s watching taxes, consumer credit and the rest of the world for signs of a slowdown, and he says consumers should do the same. He says one thing people haven’t quite figured out yet is Trump’s tax reform and how it will impact them in the long run. “It was not very favorable for homeowners.”

Kyle is also looking at consumer credit for clues of a slowdown. It has been expanding, he says, but consumption expenditures are such a big part of GDP that if consumers stop spending, that would break the growth that we have.

A shock could also come from abroad, he says, perhaps from tariffs.

Some advice

For consumers, Kyle recommends being cautious and prudent. Don’t buy a house if you don’t need to right now, don’t take out that home equity loan or otherwise overextend your credit, and don’t buy more stock shares just because it seems like stocks are doing so well right now.

Kyle says don’t fall for the tendency of most retail investors and become overly enthusiastic about the stock market when it’s been doing well. He says if you’re putting money into a 401(k), put less into stocks than you normally would. So if you’re a younger person who normally puts 70%-80% of your portfolio into stocks, Kyle says this is the point in the business cycle where scaling back to 40%-50% in stocks would be more reasonable.

“I would say proceed with caution,” says Kyle. “I’m not optimistic, but I’m not pessimistic either.”

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About the Expert(s)

KylePete

Albert S. (Pete) Kyle has been the Charles E. Smith Chair Professor of Finance at the University of Maryland's Robert H. Smith School of Business since 2006. He earned is B.S. degree in mathematics from Davidson College (summa cum laude, 1974), studied philosophy and economics at Oxford University as a Rhodes Scholar from Texas (Merton College, 1974-1976, and Nuffiled College, 1976-1977), and completed his Ph.D. in economics at the University of Chicago in 1981. He has been a professor at Princeton University (1981-1987), the University of California Berkeley (1987-1992), and Duke University (1992-2006).

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