US Markets and the World Stage 11-14-2008

A FREE MARKET ECONOMY FUELED BY… FEDERAL CAPITAL?

Modern economic theory, though much evolved in the last 50 years, doesn’t even have a term to describe the sort of economy we’re faced with today. Traditionally the most outwardly free-market economy in the world, the US economy has succumbed to federal intervention in recent months that has quickly moved our nation from capitalism to some modified form of free- market nationalism. If that term isn’t familiar to you, you needn’t be concerned – it isn’t familiar to anyone. It isn’t socialism, it isn’t capitalism, but even the renown economists Adam Smith, John Maynard Keynes, and Milton Friedman didn’t offer any descriptive term to identify this form of economic intervention. Someone will soon come up with a better label that more appropriately describes the sort of economy our nation is evolving towards, until then we will all wonder where this will take us.

In recent months the Federal Reserve has increased its balance sheet to over $2 trillion in assets and the Treasury has stepped in to shore up the financial system with hundreds of billions of dollars, only some of which fall under the $700 billion Treasury authority extended through the TARP (Troubled Assets Relief Program). By some estimates, federal intervention has now committed more than $1 trillion to the ailing US credit markets, and the Bush administration appears poised to ‘draw the line’ and offer no more. But there almost certainly will be more; likely much more.

Several states teeter on the brink of bankruptcy. The US automotive industry, and the 2.3 million jobs it reportedly represents, may very well not survive without tens of billions in additional capital relief. Our healthcare system is in dire need of reformation. Our education system, transportation and energy infrastructures, tax codes, and social security program will require enormous resources to meet the needs of future generations. President-elect Obama has an extraordinary undertaking in front of him as he becomes tasked with the responsibility to lead our people and government through this difficult time. He may very well end up being grouped with George Washington, Abraham Lincoln, and Franklin Roosevelt as being responsible for the transformation of the nation’s economy, the confidence of our citizenry, and re-establishing America’s prestige on the world stage. Like those before him, he will succeed, though more out of the sheer will and ingenuity of the American people, than of any great attribute of his own.

One might suppose that McCain is nearly as giddy at the prospect of avoiding this task as he is disappointed at having lost a hard-fought election. Likewise, Obama may well be questioning the value in having gotten what he asked for.

Obama has stated that we should prioritize and take our challenges one at a time, but in all likelihood he’ll be forced to into a position similar to that which Roosevelt found himself in when he championed the ‘New Deal’. His administration will likely succumb to pressures to offer an enormous relief package that addresses most of the major issues, while at the same time providing sufficient authority to deal with issues of lesser import and the need arises. The National Debt, already over $10 trillion, will almost certainly balloon to nearly $15 trillion as the various areas of economic crises are addressed, and as interest continues to accrue. Were it not for the reality that virtually every one of the world’s developed economies is in the same situation, such an increase in the federal debt would be devastating to the US currency. Regardless, it will make inflation more difficult to control, and interest rates and taxes will rise to levels that will require future generations to adjust their lifestyle expectations. There appears to be little choice in this.

The generation that experienced the economic transformation of Roosevelt’s ‘New Deal’, and the generations that followed, even to our time, have realized the benefits and the necessity of the actions taken at the time. Likewise, our generation, and those of our children and their children, will come to the same realization. In truth, Obama will either be praised for his leadership and handling of the economy, or he will be vilified – only time will tell.

Addressing New York’s Manhattan Institute on Thursday afternoon, President Bush heralded the strength, entrepreneurialism, and vibrancy of the American public. He boldly predicted the ongoing pre-eminence of the American economy, just as President-elect Obama has done. Bush received a standing ovation for his comments from a multi-national audience of business and economic leaders, gathered in advance of the G20 summit to be held this weekend. His comments reflected, and the audience’s reaction evidenced, the relative strength and leadership of the US economy, and our government and business leaders on the world stage.


US EQUITY MARKETS BENEFITED BY BUSH COMMENTS IN ADVANCE OF G20 SUMMIT

The US markets offered ‘more-of-the-same’ volatility on Thursday as the DOW opened sharply higher in the face of declining employment figures. The early move, counter-intuitive to the economic data released, appeared to have been more of a response to the market sell-off of previous sessions, as gains gave way to 300+ point losses by mid-day. Two hours before the market close, President Bush addressed New York’s Manhattan Institute, preparatory to the G20 Summit in Washington this weekend, and the market rallied to close at a gain of more than 550 points on the DOW.

Bush, an unpopular, lame-duck president, wasn’t expected to generate meaningful market enthusiasm with his comments. He took the liberty of labeling the global economic crisis as a ‘global meltdown’, but went on to make the case for America’s economic leadership in the global markets. His call for optimism, though rarely stimulating before the recent presidential election, appeared to buoy the markets and foster a late-day buying frenzy. His comments laid the tone for coordinated economic planning and regulation among the G20 nations, and he effectively drew a line in the sand as it pertains to governmental involvement in what has been the world’s most assertive free market economy.

It is likely that the surge in equity pricing accompanying Bush’s comments also reflected an over-sold market that has priced in continued economic weakness beyond any rational point. Though the surge drove market ‘bulls’ into a buying spree, it will likely be followed by a sell-off in the days ahead; a reflection of the increasingly volatile, and emotional, market conditions.


CHINESE STIMULUS PLAN – ENORMOUS, BUT INEFFECTIVE

China’s Ministry of Finance announced a $586 billion stimulus package Sunday; prior to the opening of the US financial markets. At first glance, the plan appeared to be a bold move on the part of China’s leadership, causing foreign and domestic equities markets to surge on the headlines. Upon closer inspection, the newly announced plan was more of a public relations move and principally offers a restatement of social and public works initiatives previously announced by the Beijing government; many of which are already underway.

The plan is comprised of an array of national infrastructure and social welfare projects, including constructing new railways, subways, airports and rebuilding communities devastated by an earthquake in southwest China in May, and is expected to be phased in over a 24-month period to aid China’s slowing economy. While the plan may improve the employment market in China’s urban areas, it is expected to offer little relief for China’s struggling rural economies.

Of China’s roughly 1.4 billion citizens, nearly 800 million live in impoverished conditions. While that may leave an upper and middle class comprising more than 400 million people, larger than the entire US population, it also leaves enormous hurdles for Chinese leadership. Economic growth in excess of 10% per year, coupled with a successful 2008 Summer Olympic effort, may have been enough to bring hope to China’s rural poor, but with a slowing economy presenting growth in the 4-6% range, and a weakened Chinese currency, it is likely that Beijing will need to marshal substantially greater resources to stimulate their economy in any meaningful way.

On a comparative basis (based on population), the $586 billion package would equate to a stimulus package of less than $90 billion in the US markets, or slightly more than the stimulus package the Bush administration offered US citizens earlier this year. That effort, though controversial at the time, did little to calm the US markets and provide anything more than a temporary surge in retail purchases.

Signature Update is offered by Richard Haskell, Sr., Managing Director of Signature Wealth Management