In the last decade, the world economy has faced an era of austerity. Government budgets have been slashed as a wide range of countries have sought to reduce their budget deficits. In some cases this has been successful in its aim, but in other cases it has meant a slowdown in economic growth and in overall business and investor confidence.
Now, though, a new post-austerity era looks set to commence, with the US and countries across Europe apparently seeking growth in a bid to cut budget deficits. This could provide a boost to economic growth and make now a good time to buy shares.
A changing mentality
Following the onset of the financial crisis, the generally accepted idea across the developed world was that government spending had to be reduced. In many cases it had spiralled out of control, and governments were running sizeable deficits which added to their national debt. The result of this was a commencement of government spending cuts which caused a negative effect on overall economic growth, since it lowered aggregate demand for goods and services.
Now, though, the mood seems to have changed. Many voters across the developed world seem to be seeking a return to higher levels of government spending and an end to the cutbacks of recent years. This can be seen in the election victory of Donald Trump, who has promised to significantly increase government spending, as well as in the recent election results across the Europe.
Just as a reduction in government spending caused aggregate demand for goods and services to fall, a rise should cause higher aggregate demand in future. This is likely to have a positive effect on overall economic activity levels and could create improved trading conditions for a range of companies. Sales and profitability could gradually rise, leading to higher valuations and increasing share prices.
In addition, austerity is likely to have caused a degree of uncertainty for investors. Anytime that spending by governments is reduced over a sustained period, instability about the economic outlook is almost certain to increase. Therefore, even if government spending does not increase significantly in future, the idea that the end of austerity is near may cause investors and businesses to become more confident. They may invest more, take more risks and the end result in itself could be higher levels of aggregate demand.
While there is never a perfect time to invest, an era of more liberal levels of government spending could be a relatively successful time for investors. Certainly, not all economies, industries and stocks stand to benefit from higher levels of government spending. However, many are likely to do so, and a positive effect on business and investor confidence could act as a further positive catalyst on stock valuations.
As ever buying a range of companies which have wide margins of safety could be a shrewd move. Such stocks could prove to be the best risk/reward opportunities for the long term.
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