Posted on 12/20/2008 10:31:53 AM PST by SeekAndFind
I've been complaining for years about how excessively pessimistic everyone has been about the economy and the stock market. But I have to admit, now that the economy is in recession and the stock market has taken a serious hit, all the pessimism is serving some useful purposes.
First, pessimism has driven stock prices down to levels that make them terrific bargains. If you've been a long-suffering value investor, frustrated by decades of high prices, then your day has come. Stocks are cheap -- at last. Second, pessimism has given everybody a healthy respect for the risks that our economy faces now. Sure, it's annoying when people falsely compare today's economy to the Great Depression. But because we're talking about it, that means that we're unlikely to repeat the mistakes that created the Great Depression in the first place.
Now put those two ideas together. Stocks are so cheap they're priced as though the economy was going into a depression. But it's not, because we've learned how to avoid that kind of horrible economic catastrophe. That means stocks really are a buy.
Imagine you were living in 1930. It looked a lot like today. The booming economy suddenly stopped cold. The stock market had just crashed. Everyone was up to his eyeballs in debt and struggling to get out of it. But at that point it was still just a recession. You wouldn't have known then you were headed for a depression and certainly not the Great Depression.
What went wrong? What turned a recession into a depression. And what made that depression great?
For one thing, Herbert Hoover raised taxes. Then Franklin Roosevelt raised them again. The theory was that falling tax revenues were putting the government into debt, and all that debt would hurt the economy. No one seemed to realize that you hurt the economy even more when you raise taxes.
Fortunately, our president-elect seems to realize that. Barack Obama campaigned on the promise to repeal the 2003 tax cuts rather than just let them expire naturally in 2011. Now he's let it be known that he won't be repealing them, so taxes are going to stay low -- on incomes, dividends and capital gains. I never thought I'd be so glad to see a politician break a campaign promise.
In 1930, America enacted the Smoot-Hawley Tariff Act, which raised taxes on international trade. The idea was that protectionism would be good for American jobs and American tax revenues. But other nations retaliated, and the volume of global trade collapsed. It took more than 50 years for the percentage of world GDP contributed by global trade to recover to 1929 levels.
There's been a lot of talk about protectionism over the last several years, thanks to the rise of China and India as manufacturing superpowers, and the trend toward outsourcing low-end U.S. labor to them. But as the recession has set in for real this year, for some reason we're suddenly not hearing very much about it anymore.
In fact, when the G-20 group of nations met in Washington to discuss the global recession last month, the members pledged not to use protectionism as a tool for creating local recovery at the expense of the global economy. That's great news because protectionism is a lose-lose proposition. By destroying the efficiencies of cross-border trading, it hurts everyone everywhere.
Worst of all, in the early 1930s the Federal Reserve just sat there doing nothing while thousands of banks failed. And once that happened, the Fed tightened the money supply. From the peak in 1929, the Fed reduced the money supply by 28% over four years. You really couldn't come up with a more effective way to strangle an economy.
Today's Fed is doing precisely the opposite. After a series of bungled interventions earlier this year in which several banks and brokers not only failed, but in my opinion were forced into failure by speculation and regulatory mismanagement, the Fed and the Treasury are now dedicated to propping up the banking system at any cost.
When Citigroup (C: 7.02, -0.41, -5.51%) got into trouble last month, the Treasury invested $20 billion in new capital on top of the $25 billion they'd invested a month earlier. And the Fed put a guarantee on $262 billion of Citi's "toxic" assets to assure that the bank's balance sheet would stay strong.
And money supply? Don't get me started. The "monetary base" -- the best measure of pure money creation by the Fed -- grew at a 740% annualized rate over the last three months. The Fed's balance sheet has tripled. It's now equal to 20% of the balance sheet of the entire commercial banking system.
The Fed's move to lower interest rates to near-zero this week is part of that, but it's not itself especially relevant. The important thing this week was when the Fed announced that it intended to keep its balance sheet huge and even grow it from here by buying mortgages, Treasurys and who knows what else.
Put it all together, and it means that the four worst mistakes that caused the Great Depression -- tax hikes, protectionism, bank failures and tight money -- are most assuredly not being repeated today.
So I'm quite confident we're not moving from recession to depression. That makes me think that a lot of the massive "stimulus" that Washington is talking about will end up being a big waste of money. By the time we do it, it won't be necessary. And even if it were, I worry that a lot of it is really just an excuse to implement politically popular spending programs using an economic emergency as the excuse.
But let's not pick nits. The point is that we're not headed into a depression. All the rest is details.
If I'm right, and this view starts to gradually seep into public consciousness, then stocks are going to keep working higher, as they have for much of the last month. There will be scares. And there will be big downdrafts as investors who didn't sell on the way down use rallies as an opportunity to get out while the getting's good. But I really think the bottom is in and that stocks are headed for a very nice rally from here.
If nothing else, a rally is due just from sheer exhaustion of selling. Late November was surely a "selling climax," and even if we ultimately have to retest those levels, we can still have a nice rally in the meantime. When stocks have moved somewhat higher a month or two from now, we can stop and reappraise. But for now, the course of least resistance is higher.
Donald Luskin is chief investment officer of Trend Macrolytics, an economics consulting firm serving institutional investors. You may contact him at don@trendmacro.com.
It actually does make a difference. With equity financing there is no guarantee the shareholder will get a dime, and he need be paid nothing unless there are profits. He is therefore likely to be more careful to put funds into a scheme that sounds plausible or a company that has a history of prudently managing itself. With debt financing, the interest and principal have to be paid, and a default leads to bankruptcy and liquidation.
Yep—same was especially true for housing the last few years. But it is possible to come out ahead with 100% financing—it’s just less likely. What % I have no idea but enough that I would never lend to someone at that.
Most privately held business operate without interferrence from the "finance industry" because they are self-financing, paying for their expansion out of retained earnings and having enough cash on hand to operate for some considerable period of time without debt. It is only when so-called "financiers" take over the company, leverage it up so that average income is just barely able to pay for the debt and short term cash flow is financed that you get into trouble.
The reason for this is that most "financiers" are financial idiots. Dixit and Pyndick wrote a book on the subject called investment under uncertainty. Successful investors it turns out operate on a much higher margin of error than the accountant types who operate on discounted cash flow models which guarantee that sooner rather than later they will crash into the sea.
The book "Investment under uncertainty" that I just referenced suggests that successful investors allow for 3-sigma excursions from the mean. Substantially less and eventually random excursions will cause your position to tank. While long term has worked out to be 30 years in this case (the real estate leveraging up nonsense started in about 1976 actually) the downside is turning out to be a leap off the Golden Gate Bridge rather than just a slightly embarassing bellyflop.
Yep—We need to get back to 20% down for conforming or 10% down with PMI at a minimum. With FHA I believe you can still put as little as 3.5% down. I’ve been warning anyone that will listen to buckle up for the ride the next few years but few are doing anything about it. They listen a lot more than they used to but still believe in the “buy and hold” and “real estate/stocks always rebounds” philosophy.
[It is indeed, especially when you know absolutely nothing, but defy instruction by stuffing your ears with media-supply venom.
There isn’t a capitalist soul left on FR. Instead we get class warfare hatred and mindless venom on a scale that would make Nazis blush. ]
Sure Jason, I know ABSOLUTELY nothing. Why ‘tis a wonder I am able to do commercial real estate given how utterly stupid I am. AND I am also so dense that I inevitably defy instruction, though I purposely stuff my brain with as much Friedmanian and Austrian economic philosophy as possible in order to avoid having my ears filled with media-supplied venom (which seems to mindlessly support the Fed’s pump priming, as do you)..
“There isn’t a capitalist soul left on FR.”
Oh come now, I believe you are talking about Washington DC, not Free Republic.
“Instead we get class warfare hatred and mindless venom on a scale that would make Nazis blush.”
Rulz are Rulz, once you revert to the Hitler argument you have lost the debate. Grope on little fellow.
It sure seems this way when we judge by most of the noise on these threads. Take this post (please):
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'Most privately held business operate without interferrence from the "finance industry" because they are self-financing, paying for their expansion out of retained earnings and having enough cash on hand to operate for some considerable period of time without debt.' |
Ah, the evil capitalists are just meddling parasites and workers have nothing to lose but--- Hey, wait a second. Most employees are on a payroll, and they get paid with pay checks because that's what most money is. Capitalism needs capital (I hope I'm not going to fast for some of us here) and remember, that's like money in the bank.
You are the biggest bloviating clueless shill of patent medicines I have met on this forum, and that is saying a lot.
First, you confuse your fellow clueless dolts in the so-called "finance industry" with capitalists. The folks who operate businesses that fianance their own expansion of the means of production out of their own profits are a whole lot more capitalists than you paper mongers ever were.
Second, you clueless shill, money is not capital, certainly not paper and computer bit money. Money is merely a medium of exchange. Capital is the assets that make production possible. A tractor, a patent on a drug, a pickaxe, a machine to make auto parts, a first rate design division and the intellectual capital that it relies upon are all capital. $50T in impossible to value default swaps are not f'in capital. Our economy is on the skids because you financial geniuses forgot the difference between producing stuff and bits of paper that are so soggy with ink they don't even make good newsprint and don't burn well.
It takes a really clueless idiot to confuse a business expense, the cost of labor, with capital. But that is what the so-called finance industry has dwindled down to.
My case of the week - EDF just bought out Continental. Wall Street is so busy chasing its f'in paper trail that we have to rely on the French to finance our nuclear industry. Even Warren, who made a nice packet in the exchange doesn't come out too well on the captain of financing industry side of things. Do you realize how clueless you and your fellows friends in the so-called finance industry are when the French are smarter than you guys. You are so witless that we have to rely on the French to keep our lights on. And you act as though you have a right to be smug. The French are far better capitalists than you and your frineds are.
This is class warfare all right. This is a war by those who learned a thing or two in life against a class of clueless idiots who sold our country down the river, not for silver put for worthless financial instruments. Folks who call themselves capitalists, but don't even know what the words mean as defined by Adam Smith or Ricardo, much less any more recent elaboration.
Hey Jason, you really got Andy mad now, are you gonna let him get away with calling you those names?
When I saw house prices hitting $600K on a block where the average income is maybe $75-$100K, I knew it was time to get out. This was in early 2005 when all the snake oil salesmen were still boosting the housing bubble.
I'm no genius. I just saw the big black handwriting on the wall, and more importantly, my income stream was not dependent on sustaining the fable that real estate Only Goes Up.
This is quite true.
America is in the fix we are in now because we have violated this concept in two ways.
First, "Let's buy up this crap and flog it off quickly to someone else before its value has been established!!" is not exactly a sound business model, especially for the final purchaser.
Second, you can sustain a consumer spending economy only temporarily when that spending is enabled by personal debt growth rather than income growth. Eventually the wheels come off.
In the last thirty odd years, somehow the roles have gotten reversed.
US dollar is worth 1.22 Canadian.
Were you claiming that the only reason we trade with Germany, Japan and Canada is because they have lower wages?
“If the American people ever allow private banks to control the issue of their currency, first by inflation, then by deflation, the banks…will deprive the people of all property until their children wake-up homeless on the continent their fathers conquered… The issuing power should be taken from the banks and restored to the people, to whom it properly belongs.”~President, Thomas Jefferson
“History records that the money changers have used every form of abuse, intrigue, deceit, and violent means possible to maintain their control over governments by controlling money and its issuance.” ~President, James Madison
“The Government should create, issue, and circulate all the currency and credits needed to satisfy the spending power of the Government and the buying power of consumers. By the adoption of these principles, the taxpayers will be saved immense sums of interest.” ~President, Abraham Lincoln
“You are a den of vipers and thieves. I intend to rout you out, and by the Eternal God, I will rout you out… If people only understood the rank injustice of the money and banking system, there would be a revolution by morning.” ~President, Andrew Jackson
“I am a most unhappy man. I have unwittingly ruined my country. A great industrial nation is controlled by its system of credit. Our system of credit is concentrated. The growth of the nation, therefore, and all our activities are in the hands of a few men. We have come to be one of the worst ruled, one of the most completely controlled and dominated governments in the civilized world - no longer a government by free opinion, no longer a government by conviction and the vote of the majority, but a government by the opinion and duress of a small group of dominant men.”
~President, Woodrow Wilson, on the signing of the “Federal” Reserve Act
Who owns it?
The Fed may have quasi-government control, but it’s owned and operated by private bankers.
“[The 12] Federal reserve banks are not federal instrumentalities for purposes of a Federal Torts Claims Act, but are independent, privately owned and locally controlled corporations.” ~the Ninth Circuit Federal Court of Appeals; Lewis v. United States (see “The Lewis Decision” 1982),
“Each of the Federal Reserve banks is a quasi-public (part private, part government) institution owned by the private commercial banks in the district that are members of the Federal Reserve system.”
The private owners must make billions a year, don't you think?
-You are clearly baiting me.
Yeah, they make money, until they F**K UP, like they did this last year:
http://www.youtube.com/watch?v=bLCHWhmyn8w&feature=related
The “federal” reserve bankers certainly aren't in it for charity, do you think? But I'll bet you are fully aware that the Fed dividends are set at 6%, and *reported* profits above that are returned to the Treasury.
It's a all a big shell game, IMO. They don't make capital gains from their stock, and they don't take a loss either.
They make money from issuing new money, and treat it as a liability.
They are involved in the FOREX market, and I'm sure there is plenty of money to be made there, (at our expense) as well as profiting on the national debt.
But as I said; they have a shell game going on, and they know how to disguise their profits as liabilities.
-And yes, as I said, they do make billions...until they F*** up, like they did in the last year, and cause all the rest of us to go broke.
But don't worry, the central bankers will come out of this depression just fine. Just like they did the last go-around.
Trying to show how silly your claim was, yes.
But I'll bet you are fully aware that the Fed dividends are set at 6%, and *reported* profits above that are returned to the Treasury.
Wow, the owners get 6% (about $1 billion last year) and the Treasury got about $29 billion. Sign me up for some of that ownership. LOL!
They don't make capital gains from their stock, and they don't take a loss either.
And they can't sell it or vote it or use it as collateral.
They make money from issuing new money,
And still, only earn a 6% yield on their stock. I can do that and I don't own a printing press.
They are involved in the FOREX market, and I'm sure there is plenty of money to be made there, (at our expense)
At our expense? Please explain further.
But as I said; they have a shell game going on, and they know how to disguise their profits as liabilities.
What do you mean?
And yes, as I said, they do make billions...until they F*** up
How can they F*** up a printing press? Sounds like pure profit.
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