What’s the new “normal”?

That’s the big debate on Wall Street right now. And the answer is of key importance to your portfolio.

One on side, there are what I’ll call the “growth bears” who believe that once we’re recovered from the global financial and economic crisis we’re in for an extended period of slow economic growth. Bill Gross of PIMCO, Mr. Bond, is the most high profile of the growth bears. He’s calling for 2% growth in the economy (or less) and a 5% annual return in equities as the new normal.

On the other side, there are what I’ll call the “growth bulls.” They believe that once the crisis is over we’ll see a huge rebound off the bottom that continues the recent rally. This camp, composed largely of money managers running equity vehicles, is looking for earnings to climb 26% in 2010 and 22% in 2011, according to data put together by Bloomberg.

Which will it be?

I’d love to believe the growth bulls are right. Gross’s prediction of a 5% a year return in equities is just downright depressing. (And, frankly, hearing a bond guy predict low returns for equities makes me a bit skeptical. Low returns on equities make bonds a better investment and Gross runs bond funds. Get my drift?)

But hope and skepticism aside it’s hard not to see Gross’s point. This crisis has produced long-term changes that point to lower growth in the years ahead.

Look at what’s happening with applications for Social Security, for example. The Social Security Administration has projected an increase in applications of 315,000 for the 12-months that ended on September 30 as a result of the huge Baby Boom generation starting to hit retirement age. Instead the agency has seen a jump in applications of 465,000. That’s a 47% increase over projections.

Why? The Great Recession is “encouraging” people to file earlier for benefits. A 62-year old who has lost a job files for benefits now, for example, rather than holding out to 65 or later in order to collect higher monthly payments. If the economy were better, that worker would have kept on working or, if laid off, would have looked for another job, even if it required retraining. But with unemployment at 9.8% and still climbing, why bother?

The long-term effect is that the economy has lost a productive worker—even when the economy recovers. And that early retiree has locked him or herself into a lower income, in all likelihood, even after a recovery.

You don’t have to look very hard to see examples like this all over the economy. Rising savings rates by consumers may be healthy for the U.S. economy after years of over-spending and under-saving by U.S. consumers, but it sure doesn’t push up global economic growth. The huge deficits incurred to “fix” this crisis are almost certain to push up interest rates (eventually) and taxes (soon than the politicians want to admit).

Gross’s 5% annual return on equities may be overly pessimistic, but I think his general point that the new normal for growth will be lower than in the leveraged 1990s is right on the mark.

The growth bulls damage their argument, in my opinion, with a bad case of double counting. They’re predicting a 2010 with another 20% or 30% gain in the stock market indexes and then the same for 2011 on the basis of an earnings recovery off the economic bottom.

That earnings recovery is real enough. But the stock market has already discounted it once, no? Isn’t that recovery the basis for the almost 60% rally we got in stocks from March 9 through the end of September? I think it’s dangerous to invest as if stocks had anticipated that recovery once in this rally and then that they would rally again to rack up another two years of 20% to 30% gains on the actual arrival of those anticipated numbers.

I don’t think stock investors have to run for the hills even if they believe Gross is correct. But they certainly shouldn’t be swinging for the fences and piling on risk in the belief that the economy is going to grow so strongly that paying the most outlandish multiple for future earnings is reasonable.