Some of you commented on my sharing of the FORBES article comparing current economic indicators with the Reagan years. My neighbor Jim is an economist, and sent me this response. I appreciate him taking the time to craft a lengthy comment, although given the complex topic its really not that long. Id like to share it with my FB friends: Hi Sally, Linda pointed out to me the story you linked to below. Having studied economics and finance for over 40 years now (man, does that make me feel old!), and having begun my professional career right at the beginning of the Reagan era, I cant begin to tell you how much is wrong with this article. I could write an entire tome, but let me try to be succinct. First off, measuring the health of the economy solely by employment data is woefully shortsighted. The true measure of economic health is the growth of REAL (as opposed to nominal) GDP and real wage growth. Secondly, presidents do very little to affect or effect economic growth; congress and the FED, however, do. But when Reagan negotiated the drop in marginal tax rates (in exchange for a bunch of social goodies with the democrat congress) from 70% to 28% max, it unleashed an entrepreneurial boom unmatched in history. The math is really quite simple: if I as an investor or provider of capital require, say, a 10% AFTER-TAX return to persuade me to invest in a project and compensate me for risk, then I need a PRE-TAX rate of return of 33.3% to net 10% after tax. Lower that marginal tax rate to 28 and now I need only 13.88% pre-tax to net that same 10% ROI. Suddenly, tons and tons of various projects that were sitting idle, or new business ventures that were contemplated but too uncertain, became viable, profitable and worth the risk. In fact, new business formation in the 1980s exploded off the charts. That momentum continued into the 90s and culminated with a record-low unemployment rate of 3.8% during the nascent stages of the internet boom in 1999. The wealth gap and income inequality we hear so much about today by the media spinmeisters is simply the result of now 30 years of compounding. There is nothing nefarious about it. That prohibitively high hurdle rate is precisely why the economy stagnated in the 1970s. Capital froze up and new business formations ground to halt. Productivity gains stalled with no new capital investment and stagflation reigned. Interestingly, we have the same phenomenon today, as capital expenditures have been flat for the past five years. Policy makers incorrectly keep trying to stimulate demand to jumpstart the moribund economy, but adding more store clerks at Best Buy, Macys or Wal-Mart does not create lasting prosperity. Encouraging investment in new plant and equipment is what does. But today, with personal and corporate taxes high, government and legal red tape stifling, health care costs soaring and uncertain, new business formation and capital investment has slowed to a crawl. Secondly, one has to look at the quality of job formation. Today, we have an extreme polarization of job quality. People who have maintained and improved their skills and education with the growth of technology have done fine. Those no-skill and low-skill jobs that began leaving the country en masse 20 years with the growth of emerging markets (because their massive supply of cheap labor was sooooo much cheaper than capital) have been left behind. Throw on top of that the perverse disincentives created by the ACA and you have the income strata now becoming more and more polarized. Ironically, those same emerging market countries that went through their own bloodletting in their banking and economic crisis of 1997-98 are now the most fiscally responsible nations on earth and are enjoying an economic boom. Third, historically the stock market bears very little correlation to the growth in the real economy. Equity returns are relative, and much of the gains we have experienced since the 09 crash lows are the direct result of the FEDs ZIRP (zero interest rate policy) and the $3 trillion of liquidity injected into the system, that ironically was intended to stimulate the real economy but instead just fattened the pockets of the big investment banks on Wall Street that should have gone bankrupt (meaning restructured after an equity wipeout and bond haircut) in the wake of the crash. More new government debt has been issued in the last six years than in all the presidencies that preceded the current administration. As an aside, I am personally preparing for an economic $#!+storm before the end of the decade. Dollar hegemony is ending, and the wealth dichotomy will cause massive social unrest in the major cities once it becomes necessary to trim government largesse to avert a debt default. Such a default will never be allowed to happen, however, so expect an increase in pernicious inflation similar to the 1970s and a declining dollar. It is also no coincidence that those aforementioned emerging market countries are aggressively accumulating gold to hedge their exposure to the day when the dollar loses its reserve currency status. Finally, let me add that the BLS has radically altered its methodology in how it calculates its numbers. If it was using methods today consitent with how it worked in the 80s and 90s, the unemployment rate would easily be 50 percent higher than the published numbers. For a more thorough explanation read the work of John Williams at Shadowstats. Having managed other peoples money for over thirty years, it is imperative that I maintain an unbiased, objective view of the world. I admittedly came out of my mothers womb a constitutional conservative but I am politically agnostic. Having said that, this article smacks of desperation by people scrambling to halt the POTUSs plunging approval ratings. We, unfortunately, are now a one-party system in this country. It is all about power and who gets to carve up the now nearly $4 trillion budget (well, its really only 3-ish because we are still running a massive deficit--and I am not even counting the $80 trillion of off-budget, off balance sheet liabilities). Our only hope to restore the USA to its former preeminence is to elect true fiscal conservatives. Unfortunately, the powers that be and the accompanying lobby industry are so deeply ingrained in Washington and Wall Street that I dont believe we can reverse the trend. For the first 100 years of the USAs existence it got by with a government that consumed no more than THREE percent of GDP. Beginning with the Wilson administration following WWI that number began to creep steadily higher. Then in the wake of the Great Depression and the introduction of FDRs New Deal, that number soared to roughly 20 percent, where it then leveled off for the next 50 years. Now, however, that number has stair stepped again to where federal, state, and local government now consumes over 25% of GDP. This is absolutely unsustainable, especially when it is funded by ever increasing debt. So in the meantime, I keep building my bunker! I could ramble on and on, but I wont bore you. Suffice to say, that this article is short on facts and long on spin. Regards, Jim Martin P.S. I have succeeded in the bloodsport of investing by abiding by the words of one our late senators who said, Everyone is entitled to their own opinion, but not to their own facts. Here is the link to the original article.
Posted on: Thu, 11 Sep 2014 13:09:28 +0000
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