JPMorgan warns the K-shaped US economy could spark a broader macro shock

• The K-shaped recovery risks sparking a new economic shock, JPMorgan Asset Management says.

• The bank outlined several risks that stemmed from the widening gap between high and low earners.

• The K-shaped economy will likely persist, it said, citing expectations of higher capital gains.

America’s K-shaped economy is sticking around, and it could what sparks a fresh economic shock, JPMorgan Asset Management is warning.

In a recent report, the bank’s asset management arm highlighted fragilities associated with the K-shaped economy, in which lower-earning households struggle while higher-earning Americans do fine.

The bad news: The K-shaped divergence doesn’t look like it’s going to even out anytime soon. What’s more, the split in the economy could also be a catalyst for macro and market volatility, a team led by George Gatch, the CEO of the asset manager, wrote in a report.

The bank pointed to how capital gains are poised to grow faster than income from labor in the coming years, a dynamic that should keep economy K-shaped.

US stock investors are sitting on a tidy nest egg after years of bull market euphoria, but most of the US’s stock wealth is concentrated among the upper percentiles of earners.

The S&P 500 is up 70% in five years. Additionally, households in the topmost income quintile are sitting on $56.3 trillion in stock and mutual fund wealth, or 87% of all household stock and mutual fund wealth in the second quarter, according to the latest Fed data.

The bank said it expects growth in US large-cap stocks to clock in at around 7.5% a year.

Meanwhile, labor productivity growth from AI is expected to be far more subdued, with JPMorgan estimating that AI could boost US total factor productivity growth to around 1.2% annually in its base case.

It’s also unclear how the productivity gains from AI will be distributed among lower- and middle-income Americans, who make up the lower leg of the K-shaped economy.

The bank highlighted several risk scenarios to the economic outlook if the needs and distribution of resources in the K-shaped economy were to shift.

In one scenario, workers demand more resources than economists currently expect, potentially destabilizing the broader economic and financial ecosystem.

In another, the US attempts to redistribute the capital returns from AI, which inadvertently disincentivizes investment, producing a string of knock-on effects.

Alternatively, the US is also at risk of “widespread capital misallocation,” and if the investment boom fails to meaningfully boost US productivity, economic growth could trend lower, the report added.

“A K-shaped economy, with unequal returns to capital vs. labor, is a metastable state — surprisingly durable, but sensitive to stress or shock,” the bank wrote, adding that a miscalculation of balances between the upper- and lower-legs of the K-shaped economy was the “greatest risk” to its economic outlook.

“While we expect the metastable equilibrium of the K-shaped economy to persist, factors that push the balance of rewards between capital and labor too far in either direction could cause bouts of volatility,” it added.

The K-shaped economy has been part of the zeitgeist in recent years, particularly as the post-pandemic AI-boom has minted wealth for asset owners, while people who don’t own stocks are left out.

But there are signs that even higher-earning Americans are starting to pull back on spending, a signal that even the upper-leg of the K-shaped economy may be feeling the pain of hotter inflation and high gas prices.

Read the original article on Business Insider