The president and democrats have claimed repeatedly that some healthcare reform is better than none, yet they are on track to virtually guarantee that nothing will change in our healthcare system for the next few years. If Obamacare fails, the president and democrats will have no one to blame but themselves. After many debates and presentations designed to garner support, recent polls clearly show that the vast majority of Americans believe Obamacare will substantially add to our national deficit and debt, severely hamper economic growth, and most importantly, it will not improve the affordability or quality of healthcare for the average American.
The president and democrats appear to have backed themselves into a corner with few good options for advancing their vision for a new healthcare system. They can quit now days short of a congressional vote, a la President Clinton in the 1990s, and risk a repeat of democrats losing big in this year’s elections as they did in 1994. More likely, the president and democrat party leaders will pressure congressional democrats to support Obamacare by using draconian and desperate carrot and stick measures. If Obamacare fails, history tells us that democrats will still lose big next fall. If Obamacare passes, democrats may redeem themselves by November’s election, assuming they can dramatically change the voting public's emphatically negative opinion of the plan and the unsavory process that made it law. That would be a long shot at best. Either way, if democrats lose big in 2010's election, republicans will do everything possible to disrupt implementation of Obamacare, even if it becomes law. If republicans establish a majority in congress you can bet they will do their best to repeal it altogether. Either way, Obamacare is unlikely to become a sustainable viable plan for our healthcare system.
Wouldn’t it be better for the president, the democrats, and the nation, for the president to make a deal with republicans, and capitalize on the 80 percent agreement the president claims both parties have for his plan? Wouldn’t it be better for the president to pass that 80 percent, or whatever percentage a bipartisan group can agree upon, and get a resounding bipartisan endorsement for healthcare reform? The president and democrats could claim victory for long awaited healthcare reform, and have bipartisan support that would ensure its future political viability. It may also restore some of the public's faith in government and potentially create enough good will to encourage bipartisan cooperation for tackling other major problems, such as our faltering economy, and burgeoning debt and deficit. That approach would also give the president an opportunity to call the republicans bluff. If republicans don’t cooperate with such a truly bipartisan approach, then they will prove to be the party of “no.” Also, the president claims that republican congressional majorities have always and will continue to do nothing to reform healthcare, so shouldn’t he use his majorities to get something worthwhile done now?
The president has made it easy for his republican critics by giving them nothing to lose by opposing Obamacare. For example, the president’s refusal to make tort reform part of his plan is the most egregious example of partisan democrat politics and makes Americans less sympathetic to democrat claims of republican political obstructionism. Furthermore, in an otherwise often abstruse debate about healthcare reform, tort reform makes intuitive sense as a way to trim the cost of a hopelessly cost bloated healthcare system.
The president’s all or nothing strategy is likely to yield nothing of enduring value to improve our healthcare system. Replacing comprehensive reform that has limited support with some incremental bipartisan changes would allow the president to succeed at real healthcare reform without potentially decimating our economy or the democrat party.
Wednesday, March 10, 2010
Saturday, February 20, 2010
Florida's Mass Transit Problem is not Mickey Mouse
As a resident of South Florida witness to some of the worst driving in the nation, I am always interested in discussions about bringing public mass transit to Florida, but the proposed Tampa-Orlando high-speed rail seems to be extravagant and irrelevant to some of the real public transportation issues facing Florida at the moment. The Tampa-Orlando high-speed rail link is estimated to cost $3.5 billion and upon completion will likely operate with ongoing subsidies. You can bet the Orlando-Miami link will cost a multiple of that amount and that both links will end up costing a lot more and take a lot longer to build than anyone is projecting today. It always does.
The real question is why are those rail links needed? Are they needed to take national and international visitors coming through Tampa and Miami back and forth to see Mickey? The State of Florida should be addressing the growing mass transit needs of South Florida, a major economic focal point of the State, and should be addressing the already critical needs of a growing, aging senior population.
Mass transit requires high density living and employment patterns to work effectively and economically. The good news is that South Florida, defined as the conurbation of Miami-Dade, Broward and Palm Beach Counties, is about as dense as you will find in Florida. Thirty-percent of Florida’s population, or more than 5.5 million persons, live in those three counties, which amount to about ten percent of Florida’s land area, and equates to a density of more than 1,000 persons per square mile.
South Florida’s senior population (65+ years old) is nearly one million today, and if national forecasts hold true here, it may grow 40% within the next five years. Additionally, today’s 65-year-old has a life expectancy of 84 years. During winter months, more than a million seasonal visitors and tourists add to the region’s senior population. An urgent need clearly exists to provide residents and visitors with a real alternative to driving to meet their daily local travel requirements.
The bad news is that it is unclear whether South Florida’s senior population density of less than 200 persons per square mile can support a viable mass transit system, especially in relatively low dense Palm Beach County where seniors are particularly concentrated and most likely to favor for retirement in the future.
The State of Florida should fast track a plan to solve this serious transportation problem and should consider all options in developing solutions. In addition, emerging transportation and land development plans must be consistent so that future development densities support whatever mass transit solution is ultimately adopted. Solving this important problem will be essential to maintaining the favored status of South Florida as a retirement venue and as one of Florida’s most vibrant economies.
The real question is why are those rail links needed? Are they needed to take national and international visitors coming through Tampa and Miami back and forth to see Mickey? The State of Florida should be addressing the growing mass transit needs of South Florida, a major economic focal point of the State, and should be addressing the already critical needs of a growing, aging senior population.
Mass transit requires high density living and employment patterns to work effectively and economically. The good news is that South Florida, defined as the conurbation of Miami-Dade, Broward and Palm Beach Counties, is about as dense as you will find in Florida. Thirty-percent of Florida’s population, or more than 5.5 million persons, live in those three counties, which amount to about ten percent of Florida’s land area, and equates to a density of more than 1,000 persons per square mile.
South Florida’s senior population (65+ years old) is nearly one million today, and if national forecasts hold true here, it may grow 40% within the next five years. Additionally, today’s 65-year-old has a life expectancy of 84 years. During winter months, more than a million seasonal visitors and tourists add to the region’s senior population. An urgent need clearly exists to provide residents and visitors with a real alternative to driving to meet their daily local travel requirements.
The bad news is that it is unclear whether South Florida’s senior population density of less than 200 persons per square mile can support a viable mass transit system, especially in relatively low dense Palm Beach County where seniors are particularly concentrated and most likely to favor for retirement in the future.
The State of Florida should fast track a plan to solve this serious transportation problem and should consider all options in developing solutions. In addition, emerging transportation and land development plans must be consistent so that future development densities support whatever mass transit solution is ultimately adopted. Solving this important problem will be essential to maintaining the favored status of South Florida as a retirement venue and as one of Florida’s most vibrant economies.
Tuesday, February 16, 2010
US Government Spending Must Fade to Black
Four key numbers—government spending, federal tax revenue, the budget deficit, and national debt- provide important and sobering insight into our current fiscal health. 2010’s raw numbers are dramatic and mind boggling to the point of distraction, but relating them to our $14.3 trillion Gross Domestic Product (GDP) make them relevant, easier to comprehend, and relatable to one another. Those ratios are as follows: government spending/GDP is 28%; federal tax revenue/GDP is 16%; the budget deficit/GDP is 12%; and the national debt/GDP is 85%. Those ratios are horrendous, especially considering, for example, that the European Union requires members to have national debt and budget deficit ratios less than 40% and 3%, respectively, when they join the union, considerably lower than ours at the moment.
The current budget deficit is 12% of GDP (28%-16%); and will add to our national debt. That deficit means that our economy is currently borrowing 45 cents of every dollar it spends, and at that level it should push our national debt to 109% of GDP within a couple of years (85% + [12% x 2]). That would put us in the esteemed company of Greece and well on our way to the disastrous path of Japan.
Arithmetically, there are two major solutions: decrease spending, increase taxes, or do some of each. Politically, the solution is not so easy. The liberals (usually democrats) want to increase taxes, believing that corporations and the wealthy should pay more to meet our needs. The conservatives (usually republicans) want to decrease spending, pointing to government waste and inefficiency and a spending level similar to some of the European socialist governments. They also say that the top 10% of taxpayers already pay more than 70% of all federal taxes, so it is unlikely that further tax increases targeting only the wealthy will yield enough tax revenue to mitigate our fiscal problem.
Obviously, fiscal policymakers would like to tinker with all four numerators of those ratios, but they should also consider policies that might increase the denominator, GDP, which would also help solve the problem. History and the facts seem to favor the conservative strategy of cutting government spending and cutting taxes as effective catalysts for economic growth. Apparently, across-the-board tax cuts worked well for both democrat and republican administrations, under Calvin Coolidge in the 1920s, John Kennedy in the 1960s, Ronald Reagan in the 1980s, and Bill Clinton in the 1990s.
Reducing our future budget deficits will limit our compounding national debt, and should be our immediate objective. However, reducing our national debt should be a very close second objective. When our debt’s interest rates, currently artificially low at 3%, double, triple or worse, the attendant increase in debt payments could cripple our financial system and economy. Rising interest rates will be an inevitable part of the global recovery and it may happen sooner than later. An expanding global demand for capital, global inflation, and a potential reduction in the US credit rating, are among the major factors that could easily cause a dramatic increase in those interest rates and our interest payments. And, as those debt interest payments become a greater proportion of the spending budget they will either crowd out important investment and consumption spending or increase the budget, thereby further expanding our national debt and our fiscal problems. It will come at the expense of our economic growth, productivity and standard of living.
Some expect the government to continue printing money as it and many other governments have done during similar crises in history. This time may be different, however, as the major holders of our debt, especially China, may have something to say about the US deliberately devaluing its debts and their investments. Although inflating out of the problem effectively grows the denominator, GDP, it does so artificially in inflated (not real) terms, and ravages US financial and fixed income assets, such as bank deposits, savings bonds, social security and pension funds. It may also ruin the US dollar. Is that better than a smaller government and reducing government spending?
The current budget deficit is 12% of GDP (28%-16%); and will add to our national debt. That deficit means that our economy is currently borrowing 45 cents of every dollar it spends, and at that level it should push our national debt to 109% of GDP within a couple of years (85% + [12% x 2]). That would put us in the esteemed company of Greece and well on our way to the disastrous path of Japan.
Arithmetically, there are two major solutions: decrease spending, increase taxes, or do some of each. Politically, the solution is not so easy. The liberals (usually democrats) want to increase taxes, believing that corporations and the wealthy should pay more to meet our needs. The conservatives (usually republicans) want to decrease spending, pointing to government waste and inefficiency and a spending level similar to some of the European socialist governments. They also say that the top 10% of taxpayers already pay more than 70% of all federal taxes, so it is unlikely that further tax increases targeting only the wealthy will yield enough tax revenue to mitigate our fiscal problem.
Obviously, fiscal policymakers would like to tinker with all four numerators of those ratios, but they should also consider policies that might increase the denominator, GDP, which would also help solve the problem. History and the facts seem to favor the conservative strategy of cutting government spending and cutting taxes as effective catalysts for economic growth. Apparently, across-the-board tax cuts worked well for both democrat and republican administrations, under Calvin Coolidge in the 1920s, John Kennedy in the 1960s, Ronald Reagan in the 1980s, and Bill Clinton in the 1990s.
Reducing our future budget deficits will limit our compounding national debt, and should be our immediate objective. However, reducing our national debt should be a very close second objective. When our debt’s interest rates, currently artificially low at 3%, double, triple or worse, the attendant increase in debt payments could cripple our financial system and economy. Rising interest rates will be an inevitable part of the global recovery and it may happen sooner than later. An expanding global demand for capital, global inflation, and a potential reduction in the US credit rating, are among the major factors that could easily cause a dramatic increase in those interest rates and our interest payments. And, as those debt interest payments become a greater proportion of the spending budget they will either crowd out important investment and consumption spending or increase the budget, thereby further expanding our national debt and our fiscal problems. It will come at the expense of our economic growth, productivity and standard of living.
Some expect the government to continue printing money as it and many other governments have done during similar crises in history. This time may be different, however, as the major holders of our debt, especially China, may have something to say about the US deliberately devaluing its debts and their investments. Although inflating out of the problem effectively grows the denominator, GDP, it does so artificially in inflated (not real) terms, and ravages US financial and fixed income assets, such as bank deposits, savings bonds, social security and pension funds. It may also ruin the US dollar. Is that better than a smaller government and reducing government spending?
Tuesday, February 2, 2010
South Florida Economy and Real Estate Market Are in the Eye of a Perfect Storm
Despite uncertainties surrounding the national economy, three major components of the South Florida economy-- tourism, healthcare and financial services—add additional complexity to future economic and real estate forecasts. Any declaration by local pundits of a bottoming in the economy or real estate prices in the near term should be met with skepticism and considered somewhat wishful thinking. South Florida's economic and real estate vitality relies heavily on its ability to import dollars from outside Florida, by attracting out-of-state and international visitors, and by encouraging visitation by longer stay retirees and snow birds for several usually winter months every year. Assumptions about those spending patterns appear as uncertain as any currently facing the national business scene at the moment.
First, Florida tourism has been held hostage by a barrage of tropical storms and hurricanes that have left nowhere to hide for several months every year beginning in 2004. Panic reached a crescendo after an unprecedented 27 named storms appeared during the 2005 Atlantic hurricane season. Some believe storm activity has also interrupted Florida's multi-generational permanent population growth by contributing to out-migration in recent years. And, although storm activity has been quiet recently, many leading climatologists expect robust activity for many years to come.
Second, with one of the most significant senior citizen populations in the nation, it is understandable that healthcare services should provide significant ballast for the local economy. Medical insurance and government-supported programs such as Medicare drive a meaningful share of healthcare spending, so it seems reasonable to expect that South Florida's future economic fate may hinge in part on the outcome of healthcare and medical insurance reform, which may take months, if not years, to be fully realized.
Finally, the financial sector, including banking and wealth management, especially for seniors, is another area with critical unresolved issues. With the assistance of government and other public agencies, the banking sector seems to have stopped short of ruin. However, its future viability still faces significant global economic headwinds and national politics may impose further fate-changing reform and regulation on that sector. Those facts, the reality that personal wealth has dramatically fallen since 2007 and low interest rates conspire to naturally depress senior incomes and wealth management fees, all of which means that the future of Florida's financial industry is tentative at best.
First, Florida tourism has been held hostage by a barrage of tropical storms and hurricanes that have left nowhere to hide for several months every year beginning in 2004. Panic reached a crescendo after an unprecedented 27 named storms appeared during the 2005 Atlantic hurricane season. Some believe storm activity has also interrupted Florida's multi-generational permanent population growth by contributing to out-migration in recent years. And, although storm activity has been quiet recently, many leading climatologists expect robust activity for many years to come.
Second, with one of the most significant senior citizen populations in the nation, it is understandable that healthcare services should provide significant ballast for the local economy. Medical insurance and government-supported programs such as Medicare drive a meaningful share of healthcare spending, so it seems reasonable to expect that South Florida's future economic fate may hinge in part on the outcome of healthcare and medical insurance reform, which may take months, if not years, to be fully realized.
Finally, the financial sector, including banking and wealth management, especially for seniors, is another area with critical unresolved issues. With the assistance of government and other public agencies, the banking sector seems to have stopped short of ruin. However, its future viability still faces significant global economic headwinds and national politics may impose further fate-changing reform and regulation on that sector. Those facts, the reality that personal wealth has dramatically fallen since 2007 and low interest rates conspire to naturally depress senior incomes and wealth management fees, all of which means that the future of Florida's financial industry is tentative at best.
Wednesday, January 13, 2010
Wall Street Banks argue for Bonus Compensation Billions after losing Trillions
Wall Street bank executives are under fire for their ridiculous compensation packages in advance of annual bonuses that will be announced and awarded next month. So far, pundits have offered three arguments for not limiting Wall Street bonus compensation. First, they say that “government should not interfere with private enterprise,” which is a premise I normally wholeheartedly endorse. However, since the Great Depression, the global banking industry has had a strong if not incestuous regulatory relationship with government. The failure of Bear Stearns and Lehman Brothers and the subsequent actions of government to prevent the failure of probably all the rest of the world’s major banks and financial institutions are the very reason they still exist to allow their leaders to haggle today about how high their paychecks should be. Moreover, the reason the banks are recovering so quickly is primarily because the government is lending them money virtually interest free that they can reinvest at much higher returns. Not only don’t citizens enjoy such investment favor, but between TARP and low bank rates, we as taxpayers and bank depositors are paying to fix the banking system.
The second reason offered is that “it is difficult if not impossible to structure compensation so as to mitigate bank failure risk” and glib advocates of that perspective will point out that the obvious alignment of interest between the crew and passengers of the Titanic wasn’t enough to keep that ship from sinking. However, common sense and various studies indicate that long term non-cash compensation structures such as the awarding of restricted stock, especially with claw-back provisions, offer clear incentives for superior management performance.
Lastly, pundits arguing the bank executives’ cause say that “limiting bonuses will cause an exodus of talent from the top banks,” which would be laughable if it wasn’t so desperate and pathetic a statement. Isn’t the so-called “top talent” at banks at least partially if not primarily responsible for the financial debacle of the past few years? If they truly want to be paid for the value they create, they should receive a bill for the damage they have done to our economy and financial system, instead of receiving a bonus. So far the cost of the global financial crisis has been estimated north of $12 trillion, the equivalent of one-fifth of global economic output, and nearly $3,000 for every person on the planet! By that measure one could easily argue that top bank talent is being overpaid, whatever their rate of compensation.
Besides, with the failure of so many major financial institutions, clearly the supply of “top talent” exceeds the current demand for their services, as the number of top-tier banks has shrunk considerably in recent years. The competition from all those unemployed Wall Streeters should drive down the price of “top bank talent” for many years to come.
The second reason offered is that “it is difficult if not impossible to structure compensation so as to mitigate bank failure risk” and glib advocates of that perspective will point out that the obvious alignment of interest between the crew and passengers of the Titanic wasn’t enough to keep that ship from sinking. However, common sense and various studies indicate that long term non-cash compensation structures such as the awarding of restricted stock, especially with claw-back provisions, offer clear incentives for superior management performance.
Lastly, pundits arguing the bank executives’ cause say that “limiting bonuses will cause an exodus of talent from the top banks,” which would be laughable if it wasn’t so desperate and pathetic a statement. Isn’t the so-called “top talent” at banks at least partially if not primarily responsible for the financial debacle of the past few years? If they truly want to be paid for the value they create, they should receive a bill for the damage they have done to our economy and financial system, instead of receiving a bonus. So far the cost of the global financial crisis has been estimated north of $12 trillion, the equivalent of one-fifth of global economic output, and nearly $3,000 for every person on the planet! By that measure one could easily argue that top bank talent is being overpaid, whatever their rate of compensation.
Besides, with the failure of so many major financial institutions, clearly the supply of “top talent” exceeds the current demand for their services, as the number of top-tier banks has shrunk considerably in recent years. The competition from all those unemployed Wall Streeters should drive down the price of “top bank talent” for many years to come.
Monday, October 19, 2009
US Economy: Between Barack and a Hard Place
Most TV talking heads have us believing that our short term economic recovery requires us to spend ourselves into financial oblivion. They say that curtailing runaway government spending right now would be repeating the mistake made by the Japanese government in the 1990s, which ultimately caused its economy to flat line into a “lost decade.” The point resonates with many Americans who believe that "you don’t get something for nothing," that there is indeed no "free lunch," and financial sacrifice is the only path to economic salvation. They believe that high (even hyper-) inflation, high taxes, the continued and deep devaluation of the dollar and slow economic growth are merely the penance for our financial sins.
The fact is that the spending spree of the past year has done very little to stimulate our economy. The timely, temporary and targeted stimulus package outlined by economic advisor Larry Summers never actually materialized. Instead, the Obama-blessed Pelosi-Reid $787 billion abomination of gratuitous spending and political pork turned out to be untimely (most of the money still hasn't been spent) and targeted just about everything EXCEPT projects designed to pay immediate economic dividends and put Americans back to work. Besides all the pork, a significant portion of the stimulus money was earmarked to prop up state governments and social welfare programs designed to provide a safety net to Americans in greatest need. Helping Americans in need is a noble cause, but using the money for consumption instead of for investment in America’s business prosperity does not stimulate the economy.
The good news is that if we scrap all that nonsensical spending right now and fund a plan that actually targets stimulating the economy, we may be able to have our cake and eat it too-- a robust recovery in the near term and a chance for long term prosperity. If our political leaders come to their senses and call off the stimulus waste-fest, nix multi-trillion dollar Obamacare and anti-business Cap and Trade, and redirect a fraction of those savings toward creating jobs, we may just start growing again. Robust growth will mean lower deficits, lower deficits will reduce the need for higher taxes and the impetus for high inflation, and just might save the US dollar from near extinction on the world stage. That lunch wouldn't be free, but it would be cheaper and provide leftovers that could be used to fund responsible healthcare reform and other social goodies!
The fact is that the spending spree of the past year has done very little to stimulate our economy. The timely, temporary and targeted stimulus package outlined by economic advisor Larry Summers never actually materialized. Instead, the Obama-blessed Pelosi-Reid $787 billion abomination of gratuitous spending and political pork turned out to be untimely (most of the money still hasn't been spent) and targeted just about everything EXCEPT projects designed to pay immediate economic dividends and put Americans back to work. Besides all the pork, a significant portion of the stimulus money was earmarked to prop up state governments and social welfare programs designed to provide a safety net to Americans in greatest need. Helping Americans in need is a noble cause, but using the money for consumption instead of for investment in America’s business prosperity does not stimulate the economy.
The good news is that if we scrap all that nonsensical spending right now and fund a plan that actually targets stimulating the economy, we may be able to have our cake and eat it too-- a robust recovery in the near term and a chance for long term prosperity. If our political leaders come to their senses and call off the stimulus waste-fest, nix multi-trillion dollar Obamacare and anti-business Cap and Trade, and redirect a fraction of those savings toward creating jobs, we may just start growing again. Robust growth will mean lower deficits, lower deficits will reduce the need for higher taxes and the impetus for high inflation, and just might save the US dollar from near extinction on the world stage. That lunch wouldn't be free, but it would be cheaper and provide leftovers that could be used to fund responsible healthcare reform and other social goodies!
Monday, September 21, 2009
Investing in a Deflationary, Reflationary and Inflationary Economy
If you’re not confused by this stock market, you’re probably not paying attention. The Dow-Jones Index halved from an all time high of more than 14,000 in October 2007 to less than 6,600 in March 2009. From March until September 2009, the index increased 50% to 9,800. Many pundits now believe that a new bull market is emerging and just as many believe a correction is coming; some believe the pullback may retrace the March lows.
The optimists believe that the speculative bubble is now deflated, reflation is well under way and that a modest correction may be coming merely because the market rallied too far too fast. They see investor sentiment as too bullish and point to retail investors pouring money back in the market as an indicator of a temporarily overheated market. (In March, cash amounting to 46% of the total value of our equity markets was parked in money market accounts, but by September that ratio fell to 30%.)
Pessimists, however, believe that the current market recovery is temporary and point to significant economic problems yet to be addressed. They believe that the looming risk of deflation will cause the coming correction to be protracted and severe; they also believe continued problems in the financial sector could catalyze another major deflationary spiral.
The consensus among optimists and pessimists is that unprecedented global government spending and deficits will eventually lead to robust (if not hyper) inflation. The pessimists, however, also believe that all those “reflation efforts” will prove insufficient to keep the world economy from returning to the brink of collapse. They argue that all the spending and expansive monetary measures should continue until deflation is realistically off the table. The Great Depression was the last major deflation, so even today’s experts are unfamiliar with the phenomenon and, as a result, are much more frightened by it than the more common inflation. Ample anecdotal evidence suggests that the risk of deflation should be seriously considered:
The goal of delevering the global economy to a debt-to-global-GDP ratio half its peak of 400% will require, for example, a 30% global debt reduction and a 30% increase in global GDP. That process will be difficult and will take liquidity out of the global economy. Current global government spending in the trillions may still not be enough stabilize the deflationary vacuum caused by eliminating all that debt;
Consumer prices continue to fall as debt-overextended consumers curtail their discretionary purchases in an effort to firm up their personal balance sheets. Private consumption representing 70% of the US economy is unlikely to bail us out of our economic doldrums as it has in the past;
The US recession may be finished, but no one expects a robust recovery. Continued rising unemployment and slow growth will exacerbate tepid consumer demand and the delevering process;
Banks are still failing at an alarming rate and many believe a looming crisis in commercial real estate, consumer credit and all types of derivative products are the proverbial shoes waiting to drop that could stress an already fragile global financial system. Additionally, financial reform designed to prevent the problems that caused this crisis is still lacking and, in fact, irresponsible mortgage lending practices continue, ostensibly to bolster otherwise lackluster residential real estate sales;
Residential real estate prices continue to fall in many major metropolitan markets;
Bank lending continues to be minimal relative to the huge amount of liquidity created by an expansive monetary policy, and money velocity remains very slow; and
Many knowledgeable investors are leery of investing in the stock market, even with this summer’s robust rally. Corporate insiders are selling shares more than usual and cash on the sidelines, at 30% of total equity value, is still well above the typical 20% average cash ratio. What do they know that we don’t?
Governments around the world seem to be cooperating to fight deflation, but what if all that reflation is not enough to plug the multi-trillion dollar hole left by disappearing debt? Additional stimulus is always a possibility, but lowering interest rates already near zero won’t add much stimulus. Japan learned those lessons the hard way in the early 1990s and is still in the economic doldrums today!
Moreover, and assuming we successfully dodge a deflationary spiral, a long period of significant world-wide inflation is likely to result from all that monetary and fiscal stimulation being employed right now. That will be bad news for economic growth, but global governments will actually benefit as high inflation over a long period of time will reduce the real cost of all that government debt and make it cheaper to repay. Governments know this and often inflate out of their debt. That fact alone almost guarantees that inflation is in our future. Some believe gold’s recent steady price rise is already signaling the inevitability of future high inflation.
Obviously, no one really knows if any of this will play out in reality. But if you subscribe to the deflation theory, you should probably sell into the current stock market rally, patiently collect cash and wait for the opportunity to reinvest when the market tanks. Also, if deflation is indeed coming, now probably isn’t the best time to borrow money or buy a house. Deflation will make borrowing more expensive in real terms and will obviously impair the real value of your home. If deflation does occur it is likely to be triggered by some economic or geo-political panic event and likely to persist for several months if not years.
If you don’t subscribe to the deflation theory, but believe high inflation is coming, you should consider repositioning your portfolio and invest selectively, especially in proven inflation hedges such as gold, oil, commodities, real estate, and other tangible assets. Furthermore, if you believe the US dollar will weaken relative to other currencies because of inflation and other factors, investing abroad or in US companies that export or otherwise earn significant income abroad probably makes sense too.
Many knowledgeable investors expect some type of correction (minor or major) within the next several months, early-to-mid 2010. In addition, some expect the Fed to start tightening as early as late 2010, which suggests that deflation risk should be significantly reduced by then and replaced by inflation as the dominant price stability concern for policy makers. A significant increase in bank lending will be another sign that inflationary pressure is building.
Are you optimistic or pessimistic? Are you more comfortable missing a market rally by selling your investments in anticipation of deflation, or ignoring the signs of deflation, riding the current rally and risking your gains on a potential big correction? A realistic assessment should probably weight each possible outcome as equally likely. Consequently, now is probably not the right time to go all in or stay completely out of the market.
The optimists believe that the speculative bubble is now deflated, reflation is well under way and that a modest correction may be coming merely because the market rallied too far too fast. They see investor sentiment as too bullish and point to retail investors pouring money back in the market as an indicator of a temporarily overheated market. (In March, cash amounting to 46% of the total value of our equity markets was parked in money market accounts, but by September that ratio fell to 30%.)
Pessimists, however, believe that the current market recovery is temporary and point to significant economic problems yet to be addressed. They believe that the looming risk of deflation will cause the coming correction to be protracted and severe; they also believe continued problems in the financial sector could catalyze another major deflationary spiral.
The consensus among optimists and pessimists is that unprecedented global government spending and deficits will eventually lead to robust (if not hyper) inflation. The pessimists, however, also believe that all those “reflation efforts” will prove insufficient to keep the world economy from returning to the brink of collapse. They argue that all the spending and expansive monetary measures should continue until deflation is realistically off the table. The Great Depression was the last major deflation, so even today’s experts are unfamiliar with the phenomenon and, as a result, are much more frightened by it than the more common inflation. Ample anecdotal evidence suggests that the risk of deflation should be seriously considered:
The goal of delevering the global economy to a debt-to-global-GDP ratio half its peak of 400% will require, for example, a 30% global debt reduction and a 30% increase in global GDP. That process will be difficult and will take liquidity out of the global economy. Current global government spending in the trillions may still not be enough stabilize the deflationary vacuum caused by eliminating all that debt;
Consumer prices continue to fall as debt-overextended consumers curtail their discretionary purchases in an effort to firm up their personal balance sheets. Private consumption representing 70% of the US economy is unlikely to bail us out of our economic doldrums as it has in the past;
The US recession may be finished, but no one expects a robust recovery. Continued rising unemployment and slow growth will exacerbate tepid consumer demand and the delevering process;
Banks are still failing at an alarming rate and many believe a looming crisis in commercial real estate, consumer credit and all types of derivative products are the proverbial shoes waiting to drop that could stress an already fragile global financial system. Additionally, financial reform designed to prevent the problems that caused this crisis is still lacking and, in fact, irresponsible mortgage lending practices continue, ostensibly to bolster otherwise lackluster residential real estate sales;
Residential real estate prices continue to fall in many major metropolitan markets;
Bank lending continues to be minimal relative to the huge amount of liquidity created by an expansive monetary policy, and money velocity remains very slow; and
Many knowledgeable investors are leery of investing in the stock market, even with this summer’s robust rally. Corporate insiders are selling shares more than usual and cash on the sidelines, at 30% of total equity value, is still well above the typical 20% average cash ratio. What do they know that we don’t?
Governments around the world seem to be cooperating to fight deflation, but what if all that reflation is not enough to plug the multi-trillion dollar hole left by disappearing debt? Additional stimulus is always a possibility, but lowering interest rates already near zero won’t add much stimulus. Japan learned those lessons the hard way in the early 1990s and is still in the economic doldrums today!
Moreover, and assuming we successfully dodge a deflationary spiral, a long period of significant world-wide inflation is likely to result from all that monetary and fiscal stimulation being employed right now. That will be bad news for economic growth, but global governments will actually benefit as high inflation over a long period of time will reduce the real cost of all that government debt and make it cheaper to repay. Governments know this and often inflate out of their debt. That fact alone almost guarantees that inflation is in our future. Some believe gold’s recent steady price rise is already signaling the inevitability of future high inflation.
Obviously, no one really knows if any of this will play out in reality. But if you subscribe to the deflation theory, you should probably sell into the current stock market rally, patiently collect cash and wait for the opportunity to reinvest when the market tanks. Also, if deflation is indeed coming, now probably isn’t the best time to borrow money or buy a house. Deflation will make borrowing more expensive in real terms and will obviously impair the real value of your home. If deflation does occur it is likely to be triggered by some economic or geo-political panic event and likely to persist for several months if not years.
If you don’t subscribe to the deflation theory, but believe high inflation is coming, you should consider repositioning your portfolio and invest selectively, especially in proven inflation hedges such as gold, oil, commodities, real estate, and other tangible assets. Furthermore, if you believe the US dollar will weaken relative to other currencies because of inflation and other factors, investing abroad or in US companies that export or otherwise earn significant income abroad probably makes sense too.
Many knowledgeable investors expect some type of correction (minor or major) within the next several months, early-to-mid 2010. In addition, some expect the Fed to start tightening as early as late 2010, which suggests that deflation risk should be significantly reduced by then and replaced by inflation as the dominant price stability concern for policy makers. A significant increase in bank lending will be another sign that inflationary pressure is building.
Are you optimistic or pessimistic? Are you more comfortable missing a market rally by selling your investments in anticipation of deflation, or ignoring the signs of deflation, riding the current rally and risking your gains on a potential big correction? A realistic assessment should probably weight each possible outcome as equally likely. Consequently, now is probably not the right time to go all in or stay completely out of the market.
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