If the long-run expected return on bonds in the future were higher than the expected return on equities, the capitalist system would grind to a halt, because the reward system would be completely out of whack with the risks involved. After all, from the end of 1949 to the end of 2000, the S&P 500 provided a total annual return of 13.1 per cent, while long Treasuries could grind out only 5.8 per cent a year.
But does this history really tell us anything about what lies ahead? Neither the awesome historical track record of equities nor the theoretical case is a promise of a realised equity risk premium. John Maynard Keynes, in an immortal observation about the future, expressed the matter in simple but obvious terms: “We simply do not know.”
Will our economy and society emerge so risk-averse after these experiences that years will have to pass before we return to a system naturally generating vibrant economic growth and a renewed willingness to both borrow and lend? Or will we head in the opposite direction, where faith in ultimate bail-outs will justify the wildest kind of risk-taking? Or will the entire structure collapse from government debts and deficits that turn out to be so unmanageable that chaos is the ultimate result?
We can neither answer those questions nor can we claim they are a complete list of the possibilities. The unknown today seems more than usually unknown. Then my whole point remains the same. The long run is an impenetrable mystery. It always has been.
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