In the world of private equity, a critical component of success involves evaluating what the trend is for a given industry or business. Among economic trends, there’s no bigger trend than GDP, a measure of all final production of goods and services. Is GDP, otherwise known as production, above or below trend?

An Exponential Trend of Real GDP per Person

The following figure looks at real GDP per person in the U.S. from 1948 to 2015 (real GDP simply means the figures are adjusted for inflation). The gray lines represent non-recession years. The red lines represent recession years.

The dotted line running through the real GDP per person figure is an exponential trend.  An exponential trend presumes that growth in the given data will continue at an increasing rate, meaning growth accelerates forever. The assumption of exponential growth has generally been used for almost all of American economic history.

It’s clear to see that if one assumes an exponential trend, as most economists have done in the past, real GDP per person is well below trend.  This suggests that there’s a long expansion ahead before there should be any concern of an economic downturn.

If real GDP per person grows at 3.5% from today until 2021 (nominal GDP of 5.0% if one assumes population growth of 1.5%), then real GDP per person may catch up with trend in 2021 or 2022, placing the next recession six or seven years off.

Obviously, this also implies that private equity probably has another long while to go before any concern of a peak would be warranted.

GDP per Person with Trend

Switching to a Simple Linear Trend for Real GDP per Person

What if the exponential trend line is no longer useful in evaluating potential American economic growth?

Here’s what the figure looks like with a linear trend. As shown, the picture is quite different.  Instead of being well below trend, real GDP per person is right about on trend.

Obviously, the message is quite different than the first graph.  If real GDP per person is already at trend, then there’s reason for market observers to start talking about the boom and potential peak.

GDP per Person with Linear Trend

Which Trend is Right?

The next question is obviously – which trend is right? This, of course, is partly science and partly art. If the American economy can experience a boost in productivity growth, then the exponential trend might be right. On the other hand, the linear trend might be more applicable for U.S. economic growth for the foreseeable future.

Causes for the Change in Trend

Among the reasons for the changing in trend economic growth are international competition for skilled labor, the aging of the labor force, the shift to online work, and the hollowing out of America’s dominance in intellectual capital.

First, more-so than in the past, the competition for labor on an international basis is incredibly intense.  Inventors and others are increasingly likely to shift operations to the most desirable location, and the U.S. is no longer the most desirable location.

Second, the American labor force is also aging, putting downward pressure on productivity.

Third, not only is there headquarter-location competition, but there is also a shift towards platforms that are incredibly competitive, most notably the shift to online work.

Fourth, American labor no longer has such a large advantage in intellectual capital.  Lower cost competitors, including workers in China and India, may be shifting the American growth trend lower.


Overall, it depends on what you want to believe when it comes to trending U.S. GDP growth. If one assumes exponential growth is still applicable to real GDP per person, then economic growth is well below what it should be. If, alternatively, one assumes trend growth is now more linear, then real GDP per person is about at trend.

The difference in the message, of course, is obvious.


Unless the American economy completely unleashes in the next couple of months, the Federal Reserve is likely to raise the federal funds target rate sometime this year. The pending rate hike, at least if you believe indications from executives of the U.S. central bank, poses the question: what might a Fed rate hike mean for private equity deals in the coming year?

Federal Funds Target Rate

Looking at the Empirics

Of the many methods one could use to address the issue, one method is to see what the historical connection has been. The following graphic is such a look.

On the vertical axis is the percentage gain or decline in private equity deals since the start of the given tightening cycle. On the horizontal axis is the number of days the given cycle lasted. Each colored line represents a given Fed tightening cycle. The label on each line represents the month and year in which the Fed first started raising rates.

Discussion of the Empirics

Interestingly, Fed rate hike “seasons” are generally correlated with reasonably good private equity deal volume, as well as average deal value. The first graphic that follows is the percentage change in deal volume; the second is average deal value.

Overall, during the typical Federal Reserve tightening cycle, the average deal volume grows about 18%, while the median length of a Fed tightening cycle is 229 days.

There is, of course, a wide range of outcomes during Fed tightening cycles. Deals performed well during the tightening cycle that began in June 2004, whereas deals dropped more than 15% during the the tightening cycle that began in March 1988.

Private Equity Deals During Federal Reserve Tightening Cycles (Past 4)Average Value of Private Equity Deals During Federal Reserve Tightening Cycles (Past 4) What Does This Mean?

What does performance of private equity deals and value mean for the industry during the pending Federal Reserve tightening cycle? Essentially, there’s a positive bias to the data, meaning that a Fed rate hike will probably be correlated with continued strength in the private equity industry.  Of course, there’s also the change, albeit of a lesser probability, that deals will be affected the Fed rate hike.


If things according to what Ms. Yellen and other Federal Reserve executives have indicated, the Federal Reserve is soon to raise the federal funds target rate. Should the Fed take this step, it would be the first time in eight years that Federal Reserve bankers have considered any monetary tightening.

In looking at the performance of private equity deals by Federal Reserve tightening cycles, private equity deals generally continue on a strong path during Fed tightening cycles.  Unsurprisingly, any potential weakness in private equity deals occurs towards the end of Federal Reserve tightening cycles.


In June 2014 things looked good for the oil industry. Oil had been floating above or around $100 per barrel for a long time. There was little concern that the global economy was in trouble; rather, the global economy was on the upswing. Then something happened.

The price of oil started to slip.  And then it slipped some more.  And then some more. Fortunately for oil producers, the price of oil appears to have hit somewhere near to bottom recently (at least that appears to be the majority of market participants’ opinions).

Oil Price Drop as a Tax Cut

Generally, analysts view the oil price drop as good for the U.S. economy. The thinking goes that a drop in the price of oil helps consumers more than it hurts the oil industry.

On the whole, economists think the oil price drop is somewhere around a $200 billion tax cut for American consumers and a $250 billion tax cut for European consumers.

Retail Sales and the Price of Oil

The theory that a drop in the price of oil acts as tax cut leads one to the obvious conclusion that the extra money consumers now have should show up somewhere else in the economy.  Of all the places it could show up, on top if the list would most likely be Retail Sales since consumers typically spend their newly found money.  Did it show up there? Here’s a look.

On the top is the price of oil from 2014 to the most recent 2015 price.  As indicated, the price of oil peaked on June 19, 2014. The middle graphic is the year-over-year decline in the price of oil.  The black liquid is down about 50 percent since peaking in June. The bottom graphic is what U.S. retail sales have done over the same time period as the oil price downturn. Surprisingly, there doesn’t appear to be a connection overall (with the exception of perhaps a slight bump in November).

Retail Sales and the Price of Oil
Why is the Oil Tax Cut Not Showing Up in Retail Sales?

A couple of theories generally rule the debate. One possible explanation is that the spending is showing up in other areas of the economy, including savings and investment (you can check the numbers yourself, but this is a relatively weak explanation).

The second possible explanation is that consumers are spending the money on items that don’t show up (or show up with large, large error estimates) in retail sales, such as non-taxable purchases for such things as home repairs and online purchases (monthly estimates on this have very large error estimates).

Whether one or the other is correct, or neither of the above, one thing is for sure.  The oil price tax cut hasn’t shown up in consumer spending yet.


Conventional wisdom has it that oil price drops act as tax cuts. Surprisingly, there’s little evidence that the oil tax cut is showing up in spending or overall economic growth.

The lack of any boost to consumer spending from what is supposedly a $200 billion tax cut in the U.S. and a $250 billion tax cut in Europe presents the concerning question – where is the money going if it’s not going towards retail sales?  Interestingly, saving and investment presents lackluster evidence that the money went there.


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