Public

Another Roaring ’20s for the US?

It depends on the supply side

UBS Chief Investment Office GWM

Jason Draho, Ph.D.
Brian Rose, Ph.D.
Paul Hsiao
Michael Gourd
Danny Kessler

November 2023

This report has been prepared by UBS Financial Services Inc.

Please see important disclaimers and disclosures at the end of this document.
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Executive summary
An unusual and hard-to-explain US economy. GDP grew 4.9% q/q The case for a Roaring ‘20s outcome. There are necessary conditions for a
annualized in 3Q (8.5% nominal) despite the Fed hiking rates by 525 basis Roaring ‘20s outcome to occur. The following five are sufficient, in our view,
points since March 2022. The 10-year Treasury yield reached its highest though our conviction in each factor materializing declines in order.
level in 16 years. These outcomes are opposite of consensus forecasts at
▪ Inflation is contained below 3%. Once near 2%, inflation stays below
the start of the year.
3%, even with upside risk, because the Fed will tighten otherwise.
The data suggests the economy is in a new macro regime. A regime
▪ Large investment across the economy. Capex boom and megatrend
is defined by its growth, inflation, and rate attributes. These are all at their
investment lift growth cyclically and are the basis for productivity growth.
highest levels since prior to the global financial crisis (GFC). Their current
high levels stem partly from past stimulus and pandemic recovery. But they ▪ Economy is more dynamic post-pandemic. Entrepreneurial activity and
could also reflect positive structural changes to the economy. risk-taking are permanently altered, benefiting productivity growth.
What constitutes a Roaring ’20s outcome? A “higher for longer” ▪ Policy is a mild headwind at worst. Fiscal tightening is modest despite
decade with GDP growth averaging 2.5% or higher; inflation of 2–3%; 10- high deficits, debt, and rates, offset by megatrend spending demands.
year Treasury yield around 4%; and the federal funds rate at 3–4%. Monetary policy becomes neutral by 2025.
A Roaring ‘20s regime hinges on the supply side. Supply chain ▪ Productivity growth increases, with an upside skew. Investment and
problems plagued the economy during the pandemic. While those have AI drive up productivity growth from low base, with wide potential range.
eased, supply issues will keep dominating—from labor and housing Assessment: A Roaring ‘20s regime is still a bull case scenario, but its
shortages, to new investment and technologies being positive supply probability is trending higher. Positive supply-side developments (capex
shocks. boom, AI) and no negative supply shocks should lead to higher productivity.
Demand was weak in the 2010s; it should be fine this decade. Post- But the magnitude and timing may not materially lift growth and be
GFC, households focused on repairing balance sheets, limiting spending, disinflationary at all, or not until later this decade. However, the probability of
while there were abundant workers, housing, and production capacity. this regime is much closer to 50% than investors assume, in our view.
Households are now in good financial shape, supportive of demand. Many things could prevent a Roaring ’20s outcome. Several of them,
Four megatrends will impact supply this decade, for good and bad: including geopolitical conflicts, political dysfunction, and a debt crisis are
essentially policy choices that could be avoidable but are hard to predict.
 Capex boom: Prior underinvestment and the need to substitute capital
Others risk factors are an energy crisis, climate disasters, and AI fizzling.
for scarce labor both suggest a surge of capex spending.
The best template for a Roaring ‘20s regime is the 1990s. The current
 Green energy transition: Substantial investment is required over
hiking cycle is reminiscent of 1994. The economy then had a soft landing in
decades, with complex implications for energy supply and demand.
1995, which we expect in 2024. The rest of the ‘90s was characterized by
 Security and deglobalization: A multipolar world and the need to faster growth, rising productivity, and disinflation.
secure vital resources and supply chains require large investment.
Preliminary investment implications: Higher growth may be positive for
 AI: Deploying AI across industries amounts to a positive supply shock, equity returns, but higher inflation usually increases the correlation between
with large but uncertain productivity gains and labor market impact. stock and bond returns, diminishing portfolio diversification, and increasing
portfolio volatility. That increases the appeal of alternative asset classes.
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Table of contents

Section 1 A hard-to-explain economy? Maybe it’s a new regime 3

Section 2 The macro regime as a function of supply and demand 7

Section 3 Megatrends that will affect the supply side 15

Section 4 Supply, potential growth, and the neutral state 26

Section 5 The policy impact on supply and demand 33

Section 6 Weighing the case for a Roaring '20s regime 40

Section 7 Appendix 49
Section 1

A hard-to-explain economy? Maybe it’s a new

regime
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The economy has evolved in unexpected and unusual ways in 2023

Consensus at the start of 2023: The economy would be in recession by 3Q, the Fed would be cutting
rates, and the 10-year Treasury yield would stabilize around 3.5% by year-end; the opposite has occurred.

Large and steady rise all year in 2023 growth expectations… …and higher-than-expected move in yields
Bloomberg consensus 2023 GDP growth forecast, in % 10-year Treasury yield, in %, and Bloomberg consensus forecast
2.5 5.0

2.0
4.5

1.5

4.0
1.0

3.5
0.5

0.0 3.0
Dec-22 Mar-23 Jun-23 Sep-23 Dec-22 Mar-23 Jun-23 Sep-23
End of '23 Forecast USGG10YR Index
Source: Bloomberg, UBS, as of 6 November 2023 Source: Bloomberg, UBS, as of 6 November 2023

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A hot economy may not just be cyclical, but also a new regime
Growth and inflation appear structurally higher than in the 2010s, comparable to or higher than pre-
GFC levels.

Nominal GDP growth defying recession calls and running hot CPI inflation also running faster
Quarter-over-quarter annualized rate, in % Year-over-year, in %
Pre-GFC avg. 10
10
Current
8 cycle 8 Pre-GFC
“Inflation above 2%”
6

4 6 Current
cycle
2
4
0

-2 Post-GFC avg.
2
-4

-6 0
-8 Post-GFC
“Inflation below 2%”
-10 -2
1990 2000 2010 2020 1990 2000 2010 2020
Note: Axes have been truncated Source: Bloomberg, BLS, UBS, as of 6 November 2023
Source: Bloomberg, BEA, UBS, as of 6 November 2023

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Higher rates and federal funds futures are indicative of a new regime
The 10-year Treasury yield breaking out of its 40-year downward trend is consistent with the market
pricing of the federal funds rate indefinitely above 4%

10-year Treasury yield reached 5%, reversing downward trend Actual and market-implied federal funds rate through 2028
In % In %
18 7

16
6
14
5
12

10 4

8 3
6
2
4
1
2

0 0
1970 1980 1990 2000 2010 2020 2000 2005 2010 2015 2020 2025
Federal Funds rate Market pricing
Source: Bloomberg, UBS, as of 27 October 2023 Source: Bloomberg, UBS, as of 27 October 2023

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Section 2

The macro regime as a function of supply and

demand
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Three pillars of the macro regime: growth, inflation, and rates

Growth

Growth, inflation, and

rates capture the essential
macro attributes of the
economy, and their levels
and evolution are
interrelated.

Rates Inflation

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Back to basics: Using supply and demand to explain regime changes

Why use supply-demand analysis? Supply (and demand) curve shifts can have profound impacts on
inflation and growth
• Many models have produced large forecast errors this year
because they are calibrated to economic relationships that Inflation
have changed. Negative Aggregate Positive
supply shock supply curve supply shock
• Simplifying to basic supply-demand analysis minimizes this
problem, while distilling the logic to its essential elements.
• It also provides a consistent way to evaluate how distinct
factors (e.g., green transition, AI, policy) could impact the
macro regime.
• At the macro level, think of aggregate supply and aggregate
demand as jointly determining the growth rate and inflation.
• Structural shifts in aggregate supply or demand will lead to
new market-clearing growth and inflation rates, i.e., a
regime change.
Aggregate
demand
curve

Growth rate

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Past, present, and potential future regimes, in supply and demand

2010s: Negative demand shock 2020–23: Negative supply and positive 2024 onwards: A positive supply
demand shocks shock is necessary for Roaring ’20s
Supply ?
S’ S S’ S’’

Inflation
Inflation
quickens
slows
Inflation
falls

Demand

D D’ D’
D D˚

Growth rate decelerates Growth accelerates Growth accelerates

The 2010s were defined by weak The pandemic and aftermath periods Demand is likely to moderate to an
aggregate demand post-GFC. The experienced a positive demand shock due average level due to solid household
demand curve shifted inward, leading to policy support, and a negative supply balance sheets. The uncertainty resides
to a decrease in both the growth shock. more with supply.
rate and inflation (i.e., “lower for
longer”). Both curve shifts contributed to much A Roaring ’20s regime requires a
higher inflation, but also faster positive supply shock, which should lead
growth as strong demand has persisted to faster growth and disinflation.
while supply problems have eased.

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Supply problems weren’t an issue in the 2010s, lack of demand was…

The supply of workers and houses available for sale were abundant for most of the 2010s; weak
demand was the problem. Now supply of both is limited.

More workers than jobs in 2010s; now 1.5 jobs per seeker Housing supply – from glut to historically low inventory
Ratio of job openings to unemployed Vacant housing units for sale, in millions
2.5 2.5
Pre-GFC housing glut

2.0 2.0

1.5 1.5

More than 1 job

per unemployed
1.0 1.0

0.5 0.5

0.0 0.0
2001 2006 2011 2016 2021 1990 1995 2000 2005 2010 2015 2020
Source: BLS, Bloomberg, UBS, as of 6 November 2023 Source: NAR, Bloomberg, UBS, as of 6 November 2023

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…but that’s flipped this decade…

It took nearly a decade to use up excess capacity in the economy post-GFC, but now output is already at
the limits of productive capacity. The good news is supply-chain bottlenecks are mostly eased.

Output gap was negative during 2010s, now positive Supply chain stress has normalized
In % of GDP Federal Reserve Bank of New York Global Supply Chain Pressure Index
4 5
COVID squeeze
4
2 1 year

3
0

11 years 2 More stress

-2
1

-4
0

-6
-1

-8 -2
1990 1995 2000 2005 2010 2015 2020 2000 2005 2010 2015 2020
Source: CBO, Bloomberg, UBS, as of 6 November 2023 Source: Federal Reserve, Bloomberg, UBS, as of 6 November 2023

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…as consumers in good financial shape should support demand

By many measures—net worth, debt servicing burden, total debt to income, and real wage growth—US
households (HH) in aggregate are in good shape, far better than coming out of the GFC.

HH net worth higher than 4Q19 HH debt burden still very low Real wages turn positive
HH real net worth (pre-recession=100) US debt service ratio, in % Atlanta Fed real median wage tracker, in %
125 14 3
Covid
120
13
115 More
2
Rebased, prior peak =100

interest
110 12 burden

105
11 1
100
GFC
95 10

90 0
9
85

80 8 -1
-10 -5 0 5 10 15 20 1980 1990 2000 2010 2020 2016 2018 2020 2022
Quarters from recession
Source: BLS, BEA, Bloomberg, UBS, as of 6 November 2023 Source: Bloomberg, UBS, as of 6 November 2023 Source: Bloomberg, UBS, as of 6 November 2023

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Many supply issues are structural, not just pandemic-related

While most supply chain problems during the pandemic have greatly eased, there are many structural
supply issues that are likely to persist throughout this decade. They include:

Semi-
Labor conductors

Housing Oil

Raw materials

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Section 3

Megatrends that will affect the supply side

 Public

Four megatrends could have large supply impacts

An investment surge, driven by corporate capex, the green energy transition, spending on security and
deglobalization, and AI are interrelated megatrends that will potentially dominate the next decade.

Capex boom : Aging capital stock and tight labor supply will encourage companies to spend more after a
decade of underinvestment.

Green energy transition : Meeting sustainability targets is a priority for more and more countries that
requires enormous investment.

Security and deglobalization : A multi-polar world argues for spending to de-risk access to critical
resources and securing supply chain.

Artificial intelligence (AI) : Deploying AI capabilities across many industries is a potentially positive and large
supply shock with uncertain productivity and labor market impacts.

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 Capex boom
Public

A capex boom: Necessary and likely, but scale of impact uncertain

A substantial capex cycle is very likely in light of an aging capital stock and a lack of investment during
the last business cycle

US firms using the oldest capital stock on record Investment peak as share of GDP is much lower than prior cycles
Average age of fixed assets, in years Private fixed investment, in % of GDP
25 20%

Investment is
24 still far below
previous peaks
23 18%

22

21 16%

20

19 14%

18

17 12%
1950 1960 1970 1980 1990 2000 2010 2020 1980 1985 1990 1995 2000 2005 2010 2015 2020
Source: BEA, UBS, as of 6 November 2023 Source: BEA, UBS, as of 6 November 2023

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 Capex boom
Public

Companies are investing more in capex…

Companies are investing more than they have in a while and say that they plan to continue investing.

Firms are investing beyond just replacing depreciating capital Firms also say they will invest more
S&P 500 capital expenditures-to-depreciation ratio ISM Manufacturing survey, capex, 3-month moving avg., index
1.8 35

1.6
30

1.4

25
1.2

1 20
2011 2013 2015 2017 2019 2021 2023 2011 2013 2015 2017 2019 2021 2023
Source: Bloomberg, UBS, as of 6 November 2023 Source: ISM, UBS, as of 6 November 2023

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 Capex boom
Public

…and substituting capital for scarce labor will become essential

An aging population and declining labor force participation will force companies to invest more in
technology and capital to substitute for labor.

Actual number of workers will grow slowly... ...supporting quick growth in the global robotics market
Net population growth, y/y in % In USD bn
0.9 Forecast 300 Forecast

0.8
250
0.7
0.6 200
0.5
150
0.4
0.3 100
0.2
Pandemic 50
0.1
0 0
2010 2015 2020 2025 2030 2035 2040 2015 2019 2020 2023 2030 2030
Upside
Services Robots
robots Autonomous vehicle
End-effectors Industrial robots
Source: CBO, UBS, as of 6 November 2023 Note “End-effectors” are peripherical devices that attach to a robot to better interact with its task
Source: BCG, UBS, as of 6 November 2023

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 Capex boom
Public

Already a strong start to the capex cycle, helped by fiscal spending

The IRA, CHIPS Act, and Infrastructure and Jobs Act have stimulated private sector investment that was
already picking up momentum.

IRA-related expenditures picking up steam Manufacturing investment has surged the past year
CBO estimate, in USD bn US manufacturing construction investment, in % GDP
600 0.7

500 0.6

0.5
400

HP, 2023.10.31 06:27:IRA 0.4

300
0.3
200
0.2

100 0.1

0 0
Initial estimate Updated estimate as of 2002 2006 2010 2014 2018 2022
Spring 2023
Source: CBO, UBS, as of 6 November 2023 Source: BEA, UBS, as of 6 November 2023

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 Green energy
Public

The green energy transition will require tremendous investment

To meet the Paris Accord 2050 net-zero requirements, an additional USD 17tr of global investment is
required through 2035. This will boost GDP, and probably inflation, before any productivity benefits.

Estimated total global investment required to reach goals US energy transition investment is already accelerating
Annual spending, in USD tr In USD bn
160
10

9 120

8
80

40
6

5 0
2020 2021-25 2026-30 2031-35 2004 2007 2010 2013 2016 2019 2022
Current Net zero
Source: McKinsey, UBS as of 6 November 2023 Source: Bloomberg, NEF, UBS as of 6 November 2023

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 Green energy
Public

Energy markets must deal with green transition and rising demand
Energy supply nexus of reliability, affordability, and decarbonization is complicated by rising global
demand, which can bias energy prices to go higher before rising green supply could lower them.

Price of energy Supply and demand dynamics for the green energy transition
considerations
+• Energy security and reliability
Price of energy
Ss Sl
+• Decarbonization goals

+• Geopolitical risks
-• New investment cost
and energy affordability
Growth of energy demand
considerations
Range of
• Population growth in
+ outcomes
emerging markets (EMs)
• Global economic growth
+
• Per capita demand trends
+
•- Energy efficiency and
productivity Di
Dd

Quantity of energy
Demand growth can increase as energy
Ss Supply in the short run is biased toward Di
negative shocks during transition period. requirements for growing EMs are large.
Demand growth can decrease as
Sl Supply in the long run is likely increased Dd
by green energy spending. economies become more energy efficient.

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 Security
Public

Security and deglobalization entail mostly unproductive spending

Increasing national defense spending due to geopolitical risks, and investment to secure supply chains via
reshoring, nearshoring, and friend-shoring, are unlikely to improve productivity and could be inflationary.

Defense spending's share of GDP has been declining Nearshoring trade is happening, as is de-risking China trade
US defense spending as % of GDP % of US imports
10 30
Vietnam
9 Canada +
Mexico
8
25
7
Cold War
6
Iraq/Afghanistan
5 20

3
15 China
2

0 10
1962 1972 1982 1992 2002 2012 2022 2018 2022
Source: CBO, UBS, as of 6 November 2023 Source: Census Bureau, Bloomberg, UBS, as of 6 November 2023

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 AI
Public

AI: A positive supply shock with uncertain magnitude and timing

Investment in AI technology is directly beneficial to productivity and growth. Estimates of its longer-term
impact range from modest to substantial, with varying impacts on labor markets.

Spending in AI’s market likely to significantly rise Large variation in potential labor impact across sectors
In USD bn Brookings AI Exposure score
350 Food preparation and service
Sales More affected
300
Healthcare support
250 Education
Office and admin.
200
Legal
150 Management
Healthcare practitioners
100
Arts and entertainment

50 Business and financial ops

Production
0 Architecture and engineering
Infrastructure Applications & Total AI
Models Computer and math

2022 2027E -1.5 -0.5 0.5 1.5

Source: Bloomberg Intelligence, UBS estimates, as of 6 November 2023 Source: Brookings Institute, UBS, as of 6 November 2023

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 AI
Public

AI to significantly impact supply but may also disrupt demand

AI adoption should shift out aggregate supply due to faster productivity gains, but how much and how
soon are highly uncertain. Long term, potential labor displacement could lower demand.

Supply considerations Supply and demand potential dynamics for AI deployment across the economy
+• Investment in AI
infrastructure expected to Inflation Sm Ss
rise from USD 25.8bn now
to USD 130bn by 2027.
+• Productivity impact
forecasts are far less
precise, ranging from an
incremental annual
increase of 0.3% to 2%.
+• Regulation could
determine speed and depth
of AI adoption. Range of
outcomes
Demand considerations
-• AI estimated to automate
up to 25% of work,
potentially displacing many
workers. Dd
-• But new jobs created as a Growth
byproduct of AI could
make up most or all of the Sm Supply can have modest increase if Demand could decrease if the adoption
demand. On a net the economy gradually adopts AI.
Dd of AI technology displaces a significant
basis, lower employment number of workers.
and income are a risk to Ss Supply could have a substantial
increase if AI is adopted quickly.
demand.
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Section 4

Supply, potential growth, and the neutral state

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Investment impacts the regime through actual and potential growth

The four megatrends collectively require enormous capital investment over many years. This will boost
current growth when it happens and can increase future potential growth if it raises productivity.

Private fixed investment not particularly stretched

Y/y growth, in %
30
20
10
Current GDP
0
contribution
-10
-20
1951 1961 1971 1981 1991 2001 2011 2021
Source: BEA, BLS, UBS as of 6 November 2023

Investment
US potential GDP growth has trended lower the past 60 years
In %
6

4
Future potential
growth 2

0
1951 1961 1971 1981 1991 2001 2011 2021
Source: BEA, BLS, UBS as of 6 November 2023

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Potential growth is supply when the economy is at “neutral”

Potential growth is the level where aggregate supply equals aggregate demand, inflation is steady at the
2% target, and the federal funds rate is neither restrictive nor accommodative, i.e., the neutral state.

Aggregate supply and demand equilibrium at neutral Attributes of the neutral state:

Inflation Aggregate • Potential (or trend) growth

supply
• Non-inflation accelerating rate of unemployment
(NAIRU)

• r star (r*) real federal funds rate

2%
target
• 2% target inflation rate (only known/observable
variable)

Aggregate
demand
Potential Growth rate
growth

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Actual growth persistently above potential is inflationary over time…

Growth consistently above potential or unemployment below NAIRU should be inflationary and cannot
be sustained if the Fed wants inflation near 2%.

Actual GDP has been above potential most of the past 5 years The unemployment rate is below estimates for NAIRU
Actual & potential real GDP, in % In %
10 9

5 Inflationary 7

Inflationary
6

0 5
Inflationary
4

3
-5
2012 2014 2016 2018 2020 2022
2015 2017 2019 2021 2023
Actual Potential Actual NAIRU
Note: Axes have been truncated Source: CBO, BEA, UBS, as of 6 November 2023
Source: CBO, BEA, UBS, as of 6 November 2023

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…and why potential growth also influences r*, and thus the regime
The higher potential growth, the higher interest rates can be without being restrictive. The policy
challenge is that the neutral rate r* is unobservable, with a wide range of different Fed estimates.

Productivity and neutral state estimates are correlated Where is r*? A wide range of estimates, even from the Fed
Total factor productivity’s contribution to GDP and real r* estimate, in % In %
0.5 5 5

0.4 4
4
0.3 3

0.2 2 3

0.1 1
2 Range of
0.0 0
r* from
-0.1 -1 1 the Fed

-0.2 -2
0
-0.3 -3

-0.4 -4 -1
2000 2005 2010 2015 2020 2000 2005 2010 2015 2020

Productivity contr. to GDP (lhs) Lubik-Matthes

r star estimate (rhs) Laubach-Williams
Source: Federal Reserve, CBO, UBS, as of 6 November 2023 Source: Federal Reserve, UBS, as of 6 November 2023

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A Roaring ’20s regime is contingent on higher potential growth

Potential growth is the sum of labor force and productivity growth. Demographics limit the former, while
productivity growth is hard to forecast, and it's highly uncertain how much and when it can rise.

Productivity growth surged 1995–2004, low in 2010s Potential growth has fallen, and labor supply won’t help
3-year moving avg., y/y in % US potential growth breakdown, in %

4 6
Covid
5
3
GFC 4

2 3

2
1
1

0 0
1990 1995 2000 2005 2010 2015 2020 1950 1960 1970 1980 1990 2000 2010 2020 2030
Productivity contr.

Source: Federal Reserve, CBO, UBS, as of 6 November 2023 Source: Federal Reserve, UBS, as of 6 November 2023

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Best case for higher productivity: Capital deepening and scarce labor
Low unemployment and increasing the capital available to workers have both led to higher productivity.
Those conditions apply now, which suggests higher productivity growth later.

Workers are more productive with higher capital intensity Productivity tends to increase when unemployment falls
Capital intensity & labor productivity Unemployment rate & productivity growth since 1950
350 3

Productivity growth, 5y lag, 3Y MA, y/y %

300 3Q23
France Norway
productivity
250 Germany growth 2.2% y/y
2
Labor productivity

200 Switzerland
U.S.
Japan U.K.
150

Argentina 1
100

50 Mexico

Brazil
0 0
0 20 40 60 80 100 2 4 6 8 10
Capital intensity Unemployment rate, %

Note: Capital intensity is defined as the ratio of total capital stock over total hours worked. Labor Note: Recessionary periods excluded
productivity is defined as ratio of GDP over total hours worked. Bubble size corresponds to population. Source: BEA, BLS, as of 6 November 2023
Source: Bergeaud, A., Cette, G. and Lecat, R. (2016), UBS, as of 6 November 2016

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Section 5

The policy impact on supply and demand

 Public

Policy primarily impacts demand, but could alter supply as well

Fiscal and monetary policy could both be headwinds for Demand curve could shift in or out, depending on the policy
demand and thus a Roaring ’20s regime, but the outlook
is not simple, nor is it easy to assess potential adverse
Inflation
supply shocks due to geopolitics.
Aggregate
supply curve
Fiscal policy directly influences aggregate demand via
spending and tax policies, and indirectly impacts supply with tax
incentives, regulatory changes, and trade restrictions, among
other tools.
Large deficits and debt suggest fiscal policy must contract (i.e.,
aggregate demand shifts inward). But there are potentially
countervailing factors (energy transition, populism) that lead to
more spending. Plus, the IRA, CHIPS Act, and Infrastructure and
Jobs Act could have long-lived multiplier effects on growth and
productivity.
Negative Aggregate Positive
demand demand curve demand
Monetary policy mostly impacts aggregate demand, minimally shock shock
affecting supply. Inflation still well above 2% suggests policy
will stay restrictive for an extended period. But it is not that
Growth rate
restrictive, the Fed appears comfortable with inflation gradually
declining, and it could respond to fiscal consolidation that slows
growth with policy easing.

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Fiscal policy looks constrained by high deficits, debt, and rates…

The deficit is 6% of GDP in 2023 despite near record-low unemployment, implying public finances are
structurally imbalanced. Interest payments’ share of the budget is rising, with no improvement forecast.

The budget deficit is disconnected from fundamentals Government debt-to-GDP will soar without major action
In % CBO projections, in % GDP
8
14 -20 Forecast
7
12 -15
6
10
-10 5
8
-5 4
6
3
0
4 2

2 5
1

0 10 0
1962 1982 2002 2022 1962 1982 2002 2022 2042F
Unemployment rate Budget balance (right scale)
Source: BLS, CBO, Bloomberg, UBS, as of 6 November 2023 Source: BLS, CBO, Bloomberg, UBS, as of 6 November 2023

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…but populism, security, and climate risks create spending demands

Addressing the green transition and security megatrends are likely to require incremental fiscal spending,
while domestic politics and income inequality suggest more, not less, government support.

More natural disasters necessitate spending Support of unions is the highest since the 1960s
Annual natural disasters cost in USD bn and count % of Americans who approve of labor unions
180 30 80

160
25 75
140

120 20 70

100
15 65
80

60 10 60

40
5 55
20

0 0 50
1980 1990 2000 2010 2020 1940 1950 1960 1970 1980 1990 2000 2010 2020
Cost (5Y MA), lhs Count, rhs
Source: NOAA, UBS, as of 6 November 2023 Source: Gallup, UBS, as of 6 November 2023

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Geopolitics is a risk for frequent negative supply shocks

Policy decisions made for national security, great power competition, and domestic politics might be
prudent politically and for long-term security, but they are likely to be negative for aggregate supply.

US/China sources of tension More geopolitical uncertainty is likely in a multipolar world

1 World Uncertainty Index, in thousands.
• Trade: After the 2018 trade war, the US and China are
likely to pursue bilateral trade agreements and 55
narrowly defined agreement with individual trading
blocs. We think the two nations will still exhibit a high 50
degree of interdependence, but the scope will narrow.
45
• Financial decoupling: The friction between the US
and China will not be easily remediated. We expect to 40
see an acceleration of the trend toward the 35
regionalization of financial markets.
30
• Technology: The US-China technology relationship
deteriorated over the past few years, with tighter 25
restrictions enacted by both the US and China. In our
view, the key issues in the US-China technology debate 20
center around semiconductors, AI, and quantum
15
computing
10
• Climate: China and the US continue to be the two
largest emitters of CO2, comprising 42% of global 5
emissions. They also have significant influence over 1990 1994 1998 2002 2006 2010 2014 2018 2022
global allies. Our base case is that both countries
World Uncertainty Index
index 3Y MA
pursue decarbonization progress independently.
Source: Bloomberg, UBS, as of 6 November 2023

Source: UBS, as of 6 November 2023

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Fundamentals and history support a sustained high federal funds rate

The Fed fears cutting rates too soon and inflation reaccelerating, a la the 1970s, while it is likely to
increase its estimate of the neutral funds rate from 2.5%, implying rates will stay higher for longer.

The 1970s monetary policy error haunts the Fed The Fed thought 4% was the neutral rate just a decade ago
% Summary of Economic Projections long-term federal funds rate, %
20 4.5

Did the Fed cut Inflation re-

too soon? acceleration
4.0
15

3.5
10

3.0

5
2.5

0 2.0
1970 1975 1980 1985 2012 2017 2022
Inflation Federal Funds Rate
Source: BLS, Federal Reserve, UBS, as of 6 November 2023 Source: BLS, Federal Reserve, UBS, as of 6 November 2023

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…yet the cost of high rates and fiscal tightening favor an easier policy
The rising cost of interest payments on fiscal policy and attempts to reduce spending are potential drags
on the economy, which may lead the Fed to lower rates and tolerate inflation modestly above 2%

The federal interest burden will rise quickly at current rates Mild fiscal policy contraction is expected through 2024
% Contribution of fiscal policy on real GDP growth, in %
7 15

5 10

3 5

0
1

0
1990 1995 2000 2005 2010 2015 2020
-5
Federal Funds Rate, % Net interest payments, % GDP 2010 2012 2014 2016 2018 2020 2022 2024
Source: CBO, Federal Reserve, UBS as of 6 November 2023 Source: Brookings Instituter, UBS as of 6 November 2023

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Section 6

Weighing the case for a Roaring '20s regime

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Factors are in place for a Roaring ’20s, but it hinges on productivity

Investment boom, AI, and no policy errors can lead to a Roaring '20s, assuming a productivity surge.
Confidence is lowest for the latter. Thus, Roaring '20s is a bull case, but no clear base case either.

Roaring '20s attributes: Roaring '20s factors: Low conviction High conviction

Inflation is contained below 3%

GDP growth ≥ 2.5%
Inflation gets close to 2% within two years and stays below 3% thereafter, even with many
upside risks, because the Fed will not tolerate sustained overshoots.

Large investment across the economy

Investment spending is large due to the supply megatrends, lifting growth cyclically and
Inflation ~ 2–3% fulfilling a necessary precondition for faster productivity growth.

The economy is more dynamic post-pandemic

Certain economic behavior, such as entrepreneurial activity, appears permanently altered

after the pandemic, and is supportive of faster productivity growth.
10y Treasury yield ~ 4%
Policy is a mild headwind at worst

Fiscal consolidation is limited in the next 18 months, and possibly thereafter, while avoiding
negative supply. Monetary policy is around neutral within two years.

Productivity growth increases, with an upside skew

Federal Fund Rate ~ 3–4%
Investment and AI drive productivity growth from low base over the next decade - with wide
range of outcomes. Growth outlook is more uncertain than for inflation.

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Expect disinflation toward 2%, then range-bound thereafter

Investment spending and negative supply shocks are upside inflation risks in the foreseeable future
before productivity gains could lower it. The Fed will tolerate inflation over 2%, but only so much.

Megatrend spending is medium-term upside inflation risk... ...but inflation is likely to trend lower, and stay contained
Potential contribution to annual inflation, in % CPI inflation and forecasts, y/y in %
6

Market
4 expectations

3
Forecast
Fed’s tolerance band range
2

0
2023 2024 2025 2026

Note: Figures are meant to be illustrative only. Source: BLS, Bloomberg, UBS as of 6 November 2023

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Post-pandemic changes to the economy could be good for growth

Some activity, such as spending, appears to be permanently altered by the pandemic. New business
formation is much higher—a sign of entrepreneurial activity, which could be positive for productivity.

Dramatic increase in entrepreneurial activity post-pandemic Post-pandemic spending patterns likely permanently altered
New business formation, in thousands Real goods and services consumption, % of pre-pandemic trend
600 115

550
110
500
105
450

400 100

350 +50% 95
300
90
250
85
200

150 80
2009 2011 2013 2015 2017 2019 2021 2023 2020 2021 2022 2023
Goods Services
Source: US Census Bureau, UBS, as of 6 November 2023 Note: Pre-pandemic trend time frame between 2018 and 2019
Source: BEA, UBS, as of 6 November 2023

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Productivity growth set to rise from a low base, with upside skew
Tepid productivity growth in the 2010s sets a low baseline (~1.25%). The megatrends (capex boom and
AI) are reasons for it to rise, but the range of outcomes is large and the timing highly uncertain.

Megatrend adoption should be positive for productivity… …but with a vast range of potential outcomes by 2030
Potential long-term contribution to annual productivity growth, in % Productivity growth, y/y in %
AI’s impact could 4.0
be a revolution
3.5

3.0

2.5
High Forecast
productivity range
2.0 scenario
CBO Forecast
1.5

1.0

0.5

0.0
2023 2025 2027 2029

Note: Figures are meant to be illustrative only. Source: CBO, UBS, as of 6 November 2023

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A Roaring '20s regime is an evolution, with activity ebbs and flows

Growth

Actual
Invest now,
growth
benefit later
High investment now
should lead to higher
Trend trend growth later.
growth
But there are still cycles
during the regime and
a growth slowdown
in 2024 due to higher
rates is not at odds
Cyclical slowdown with a Roaring '20s
with secular strength decade.

Time

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1990s redux? That decade is a good template for a possible Roaring '20s
The current Fed hiking cycle is similar to the '94 cycle. Growth slowed in ‘95, but to a soft landing.
A productivity boom followed that led to high growth and disinflation. It could happen again.

Current Fed policy may follow ’94 onwards path… …that slowed growth temporarily before it reaccelerated
Federal funds rate, in % Real GDP growth, y/y in %
7 7
‘94 pause
6 before cut 6

5 5 ’94 temporary

Q1 1994
growth
4 4 slowdown

3 3

2 2

1 1

0 0
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Quarters from first hike

1994 2022 Forecast

Source: Bloomberg, UBS, as of 6 November 2023 Source: Bloomberg, UBS, as of 6 November 2023

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What could prevent a Roaring '20s outcome? A lot of things

There are many reasons why this decade could end up not being a Roaring '20s. Several of them are due
to bad policy, politics, and geopolitics, which are avoidable but also hard to predict.

Worsening social tensions AI more hype

than helpful

Energy crisis

Climate disasters

Labor force stagnation

Political dysfunction
Escalating geopolitical
conflicts
Debt/Fiscal crisis

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What could a Roaring '20s mean for investing? Initial thoughts

There will be specific asset class and individual security winners in a Roaring '20s regime, but those are
TBD. For overall asset allocation, some implications seem likely, or at least must be considered.

Higher rates for longer Higher portfolio volatility

The current level of rates is likely to A higher stock-bond correlation will

persist in a Roaring '20s regime, make multi-asset portfolios more
though with the federal funds rate volatile, a consequence compounded
down to levels closer to current by higher inflation volatility.
market pricing.

Changing stock-bond correlation Strong case for alternatives

Inflation may be contained in the Given increased correlation between

regime, but the bias to upside risks stocks and bonds, the case is stronger
could keep the stock-bond return for adding alternatives to standard
correlation positive, or at least 60/40 portfolios, going instead with
less negative than from 2000–20. 40/30/30.

Mixed picture for asset class returns Continued US outperformance

A Roaring '20s regime is not a guarantee of A Roaring '20s regime is likely to be a

high returns for US assets. Relatively primarily a US story, with modest
expensive equity valuations are a headwind versions in other developed economies.
for future returns, but strong earnings While US equities are relatively
growth could offset that. Bond returns will expensive, this regime could support
be solid if yields stay near current levels.
ongoing outperformance.

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Section 7

Appendix
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Appendix
Statement of risk
1. Equity markets are difficult to forecast because of fluctuations in the economy, investor psychology, geopolitical conditions, and other important variables.
2. Bond market returns are difficult to forecast because of fluctuations in the economy, investor psychology, geopolitical conditions and other important variables.
Corporate bonds are subject to a number of risks, including credit risk, interest rate risk, liquidity risk, and event risk. Though historical default rates are low on
investment grade corporate bonds, perceived adverse changes in the credit quality of an issuer may negatively affect the market value of securities. As interest
rates rise, the value of a fixed coupon security will likely decline. Bonds are subject to market value fluctuations, given changes in the level of risk-free interest
rates. Not all bonds can be sold quickly or easily on the open market. Prospective investors should consult their tax advisors concerning the federal, state, local,
and non-U.S. tax consequences of owning any securities referenced in this report.
3. Prospective investors should consult their tax advisors concerning the federal, state, local, and non-U.S. tax consequences of owning preferred stocks. Preferred
stocks are subject to market value fluctuations, given changes in the level of interest rates. For example, if interest rates rise, the value of these securities could
decline. If preferred stocks are sold prior to maturity, price and yield may vary. Adverse changes in the credit quality of the issuer may negatively affect the market
value of the securities. Most preferred securities may be redeemed at par after five years. If this occurs, holders of the securities may be faced with a reinvestment
decision at lower future rates. Preferred stocks are also subject to other risks, including illiquidity and certain special redemption provisions.
4. Although historical default rates are very low, all municipal bonds carry credit risk, with the degree of risk largely following the particular bond’s sector.
Additionally, all municipal bonds feature valuation, return, and liquidity risk. Valuation tends to follow internal and external factors, including the level of interest
rates, bond ratings, supply factors, and media reporting. These can be difficult or impossible to project accurately. Also, most municipal bonds are callable and/or
subject to earlier than expected redemption, which can reduce an investor’s total return. Because of the large number of municipal issuers and credit structures,
not all bonds can be easily or quickly sold on the open market.

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Appendix
Emerging Market Investments
Investors should be aware that Emerging Market assets are subject to, amongst others, potential risks linked to currency volatility, abrupt changes in the cost of capital and the
economic growth outlook, as well as regulatory and socio-political risk, interest rate risk and higher credit risk. Assets can sometimes be very illiquid and liquidity conditions can abruptly
worsen. WMR generally recommends only those securities it believes have been registered under Federal U.S. registration rules (Section 12 of the Securities Exchange Act of 1934) and
individual State registration rules (commonly known as "Blue Sky" laws). Prospective investors should be aware that to the extent permitted under US law, WMR may from time to time
recommend bonds that are not registered under US or State securities laws. These bonds may be issued in jurisdictions where the level of required disclosures to be made by issuers is
not as frequent or complete as that required by US laws.
For more background on emerging markets generally, see the WMR Education Notes "Investing in Emerging Markets (Part 1): Equities", 27 August 2007, "Emerging Market Bonds:
Understanding Emerging Market Bonds," 12 August 2009 and "Emerging Markets Bonds: Understanding Sovereign Risk," 17 December 2009.
Investors interested in holding bonds for a longer period are advised to select the bonds of those sovereigns with the highest credit ratings (in the investment grade band). Such an
approach should decrease the risk that an investor could end up holding bonds on which the sovereign has defaulted. Sub-investment grade bonds are recommended only for clients
with a higher risk tolerance and who seek to hold higher yielding bonds for shorter periods only.
Non-Traditional Assets
Non-traditional asset classes are alternative investments that include hedge funds, private equity, real estate, and managed futures (collectively, alternative investments). Interests of
alternative investment funds are sold only to qualified investors, and only by means of offering documents that include information about the risks, performance and expenses of
alternative investment funds, and which clients are urged to read carefully before subscribing and retain. An investment in an alternative investment fund is speculative and involves
significant risks. Specifically, these investments (1) are not mutual funds and are not subject to the same regulatory requirements as mutual funds; (2) may have performance that is
volatile, and investors may lose all or a substantial amount of their investment; (3) may engage in leverage and other speculative investment practices that may increase the risk of
investment loss; (4) are long-term, illiquid investments, there is generally no secondary market for the interests of a fund, and none is expected to develop; (5) interests of alternative
investment funds typically will be illiquid and subject to restrictions on transfer; (6) may not be required to provide periodic pricing or valuation information to investors; (7) generally
involve complex tax strategies and there may be delays in distributing tax information to investors; (8) are subject to high fees, including management fees and other fees and expenses,
all of which will reduce profits.
Interests in alternative investment funds are not deposits or obligations of, or guaranteed or endorsed by, any bank or other insured depository institution, and are not federally insured
by the Federal Deposit Insurance Corporation, the Federal Reserve Board, or any other governmental agency. Prospective investors should understand these risks and have the financial
ability and willingness to accept them for an extended period of time before making an investment in an alternative investment fund and should consider an alternative investment fund
as a supplement to an overall investment program.
In addition to the risks that apply to alternative investments generally, the following are additional risks related to an investment in these strategies:
• Hedge Fund Risk: There are risks specifically associated with investing in hedge funds, which may include risks associated wi th investing in short sales, options, small-cap stocks,
"junk bonds," derivatives, distressed securities, non-U.S. securities and illiquid investments.
• Managed Futures: There are risks specifically associated with investing in managed futures programs. For example, not all man agers focus on all strategies at all times, and managed
futures strategies may have material directional elements.
• Real Estate: There are risks specifically associated with investing in real estate products and real estate investment trusts. They involve risks associated with debt, adverse changes in
general economic or local market conditions, changes in governmental, tax, real estate and zoning laws or regulations, risks associated with capital calls and, for some real estate
products, the risks associated with the ability to qualify for favorable treatment under the federal tax laws.
• Private Equity: There are risks specifically associated with investing in private equity. Capital calls can be made on short no-tice, and the failure to meet capital calls can result in
significant adverse consequences including, but not limited to, a total loss of investment.
• Foreign Exchange/Currency Risk: Investors in securities of issuers located outside of the United States should be aware that even for securities denominated in U.S. dollars, changes
in the exchange rate between the U.S. dollar and the issuer’s "home" currency can have unexpected effects on the market value and liquidity of those securities. Those securities
may also be affected by other risks (such as political, economic or regulatory changes) that may not be readily known to a U. S. investor.

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Risk information
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Version D/2023. CIO82652744

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