When Joe Davis' 13-year-old daughter came to him with the question, "Is the world getting better?" he hesitated answering because he wasn't sure. As Davis is the global chief economist of Vanguard and heads up its investment strategy group, having an eye to the future is what he does. But this question, part of his daughter's school project, stumped him.
Speaking at the Financial Planning Association conference in Chicago this week, Davis said, "how would you answer this question? In many ways you could say yes, we have a job market today that hasn't been this healthy or robust in many ways in over a generation. And if you look at our client portfolios, or our own portfolios, clearly it's been a stellar investment environment," especially with a bull market in stocks.
However, at the same time, when Davis watches the evening news, "it doesn't always seem that way. We have rising risk of trade wars, increased tension between United States and China, which is a new economic cold war, and periods of economic softness and political tensions around the world," he said. He also had to explain to his daughter the concept of income inequality.
He proceeded to show what is called the global economic potential, an indicator that is a "trend growth rate for the economy," and which has been falling for more than 15 years. Davis sees it as the rate of innovation, and it can show how standards of living improve. It dictates the level of expected returns for portfolios, or even how high interest rates go. "This is the most meaningful trend in my judgement of all economic issues that face the world," he said.
It was just before 2000 when a game-changing idea took hold with the public: the internet. "Since that time the growth of meaningful ideas in the world has ground to a halt, which is why the [indicator's] line has kept falling," he said.
"Will this line go back up?" he asked. "Most of the leading economists in the world say it won't. Today's ideas are just less innovative."
He added that some believe this is the new normal, and "the low-hanging fruit of human creativity has already been picked, so going forward, innovation will not be as powerful."
If true, this has impacts, Davis explained. For example, for the next generation, the average American family will take three generations to see meaningful improvement in standard of living, whereas "it used to take just one."
"Ultimately, rate of innovation for the world aggregate is ultimately a summation of individual invention and individual creativity."
