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America is in recession and the Democrats are to make it worse
Gerard Jackson
The US in recession. Unemployment is rising and the banks have been busy building their reserves. In addition, the stock market has been engulfed in a bloodbath that has still to run its course. This is should not surprise market observers, and probably doesn't. Once it was confirmed that Obama had won the presidency investors dropped out of the market in droves — and they are still on the run. (Somebody should have told Obama that markets are forward-looking institutions). When I looked last the S&P was down 49 per cent and the Dow Jones was heading for a record drop in values. The following figures will give readers some idea of the extent of the devastation:
• 115 S&P stocks were trading under $10
It's true that share prices fall in times of recession. But what we are experiencing is an implosion the likes of which we haven't seen since 1929, if then, and for a very good reason: Obama has been channelling Roosevelt from whom he has been getting his economic inspiration. Hoover and Roosevelt's basic response to the depression was to raise taxes and increase government spending. As we know, it didn't work.
But increased taxes and spending is precisely what Obama is promising. Let's say you have a reasonably sized portfolio on which you eventually hope to retire. Then a certain politician comes along who decides you are an undeserving case and it just isn't "fair" to people who have less. Therefore, when he becomes president he promises that he will tax you good and proper. What do you do? You sell.
Unfortunately the situation is far worse than the one I just painted. Obama is going to hit dividends, virtually double capital gains taxes, shove unions down the collective throat of non-unionists by stripping them of their right to a secret ballot, introduce protectionism, impose more regulatory burdens on the economy while implementing an insane energy policy. On top of that a huge tax hike is coming in 2010. In brief, Obama is going to cripple the economy just as Roosevelt did.
So why didn't his advisors see any of this coming? Because they are basically Keynesians who think that monetary injections to counter the mythical beast of 'demand deficiency' should be enough to pull the economy out of recession. And there are plenty of commentators around to support this view.
These supporters could argue that Obama is rethinking his proposal to raise corporate taxes. Be that as it may, he should have realised how stupid the proposal really is. Moreover, his so-called economic advisors should have immediately scotched it. So why didn't they? In any event, only someone thoroughly ignorant of markets — not to mention economic history — could honestly believe that a retreat from his corporate tax policy would be enough to calm the markets. Right now the markets would trust Obama just as far as they could throw him. And I for one do not blame them.
Obama's ambivalence on corporate taxes has only caused more uncertainty. Even if he does retreat it won't improve things because markets examine the whole package, not bits and pieces of it. Markets fully understand that Obama's stupid idea to punish investors (millions of whom are just ordinary working folk) by raising taxes on capital gains and dividends will lower net returns on investment.
Share prices are determined by the discounted flow of anticipated earnings. Therefore, anything that reduces the net return to shares will lower their prices. This is exactly what capital gains taxes do and this is why share prices rise when capital gains taxes are lowered. So even if corporate taxes are left untouched there still remains the other taxes, the enormous cost of his energy proposals which will hit businesses very hard, his support of destructive union policies and his enthusiasm for regulating the economy.
Already some of his advisors are suggesting a good dose of Keynesian pump-priming to kick start the economy. When Keynesians talk about priming the pump they mean the fed should expand the money supply. This is why Obama's policy of giving tax rebates to those who don't pay federal taxes is not really Keynesian. If these phony rebates are paid for by raising taxes on those who earned the money in the first place, then the only thing that changes will be the composition of demand and not its aggregate. Furthermore, if those who are paying for the tax rebates reduce their savings in order to maintain their level of consumption then this will have a negative effect on capital accumulation. (For those who are as ignorant of economics as is Obama, capital accumulation is another name for economic growth).
Despite the best efforts of the mainstream media to hide the fact that Obama's spend and tax proposals do not add up, they have not been able to fool the markets. This is where Keynesians move on to plan B which is 100 per cent Keynesian. (Incidentally, Keynes never proposed raising taxes during a recession). Obama simply gets Bernanke to finance the checks. That is to say, get the fed to create the money.
Even this policy is would be doomed to fail, no matter how big the monetary injection would be. Apart from its inflationary impact, it would actually worsen the recession. I warned four years ago that we could expect a crisis in 2008. I have also stressed innumerable times that the consumer-demand approach to recovery would have the opposite effect, just as I warned, manufacturing would be the first to be hit by the recession.
The reason for this sequence lies in the nature of the production structure and the role that time plays in shaping it. Any policy that stimulates consumption will hinder recovery by drawing factors away from the higher stages of production. This means we could very well see a situation emerge where consumer goods industries are booming while manufacturing in the higher stages stagnates. Think of it as the return of the "rust belt".
The above is based on the assumption that Bernanke would accommodate Obama, which he would. From 8 October to the 5 November Bernanke raised the monetary base from $980,914 billion to $1,233,679, a 24.7 per cent increase. This massive monetary injection puts to rest any fear on the part of Obama's advisors that Bernanke would not employ what one might euphemistically call an elastic monetary policy.
But these figures prove that economics is not as straightforward as many people seem to think. Although the monetary base expanded by 113 per cent from 1933 to 1940 unemployment remained extremely high, averaging 14.6 per cent for 1940. Throughout the period 1930-1940 private investment was a "negative $3 billion". America had been eating its seed corn. But why didn't the expansion of the monetary base generate inflation? It did. From the middle of 1933 onwards prices steadily rose. (There was a slight fall in 1938 and 1939 which was quickly reversed). Under Roosevelt's New Deal that Obama swoons over Americans got mass unemployment, capital consumption and rising prices. Not much of bargain if you ask me. If Obama wants to channel someone may I humbly suggest the late and lamented Peter Drucker. It is he to whom Obama should turn for wisdom and comfort:
Keynes is in large measure responsible for the extreme short-term focus of modern politics, of modern economics, of modern business...Short-run, clever, brilliant economics — and short-run, clever, brilliant politics — have become bankrupt (Peter Drucker, The Unseen Revolution New York: Harper and Row, 1976).
Keynesian policies destabilised the markets. Ignorant men like Obama made it worse. What Obama needs to do is renounce his economic program and promise to slash corporate taxes, abolish the capital gains tax, abandon his crazy energy policy, cut income taxes, tell the unionocracy he is putting the country first, and then have them defenestrated. The same goes for the misnathropic greens.
Gerard Jackson is Brookesnews' economics editor
BrookesNews.Com
Monday 24 November 2008
• 204 were trading with a market cap of less than $4 billion
• 41 were trading under $5