The Existential Economist

“Always and everywhere, markets make opinions.” James Grant

Christopher Wood reminds us that in the late ’80s people who thought the Japanese economy was a bubble were considered ‘off the wall.’

More recently, when a comparison between the Japanese economy of the late ’80s and the American economy of the late ’90s was made – that too was said to be ‘off the wall.’

‘Off the wall’ turned out to be a good place to be in the first instance. Will it in the second?

After the Japanese bubble popped, American economists began hectoring Japan’s government to do something about it. Japanese officials were urged to lower interest rates, increase government spending, and ‘restructure’ the economy, along American lines.

No dopes, the Japanese lowered interest rates to zero, and spent more money on public works than any government in history. On restructuring, however, the evidence is mixed.

Whatever they did, it didn’t work. But American economists are sure that if Japan had merely listened more carefully, the ‘lost decade’ in Japan would never had happened.

“Mr. Mori and his politically battered Liberal Democratic Party,” says a recent editorial in the International Herald Tribune, “seem to lack the will and the imagination to set a course for recovery. Americans once worried about seemingly invincible Japanese competition. Now Washington needs to help reverse Japan’s economic decline.”

“Halfway measures are unlikely to revive Japan,” the paper concludes.

But half measures is what Japan got, according to the existential economist Paul Krugman, writing in the NY TIMES. On Monday, the Bank of Japan announced a return to zero interest rates. On Tuesday, the Fed cut rates by 50 basis points. “In each case,” says Krugman, “the measures taken were halfhearted – moves in the right direction, but almost certainly too weak to do the job.”

In today’s letter, we return to the pseudo- intellectualism of the last few days – that is, to economics and philosophy, or a look at the dismal science from the perspective of an even more dismal one.

My working hypothesis is that markets not only set prices – but also set the going rate for ideas too. Just as a soldier may ‘get religion’ on the eve of battle, so does an investor return to values, rules, and fundamentals when prices fall. Confident of his ability to choose winning stocks in a bull market, he becomes a humbler, more agreeable person in a downturn. He becomes – as the old saying has it – older, wiser, and poorer. Popular philosophy adjusts to market conditions… not the other way around.

But economists and philosophers are probably hopeless. Rather than roll with the market’s punches – they stand stolid, still and dumb as posts.

The June bug is not credited with the arrival of spring. Nor is the brown leaf blamed for the approaching autumn. But markets – in the mythology of the existential economists – are the product of human choices. Presumably, investors – and Alpha Male of all humans active in the market, Alan Greenspan – may now choose to avoid a more serious bear market.

“In ripe middle age,” writes James Grant, “Alan Greenspan was an acolyte of the individualist philosopher and novelist, Ayn Rand. He could not have imagined at that stage of his life, that he would wind up on the federal payroll as the living symbol of that rarest of 20th-century creatures, the successful economic planner. Yet in the shank of the boom, he personified the myth of government control. He would set the correct interest rate. He would orchestrate the correct fiscal policy…”

Greenspan is not the only player, of course:

“True, a lot of our stock market wealth is getting vaporized in front of our eyes,” the current issue of TIME tells us, “but how bad it gets still depends on how spooked we get.”

It’s up to us!

This line of thinking leads to errors – but never on the part of the economists themselves. Instead, they interpret bear markets and recessions as the consequences of the ‘mistakes’ of others.

The Great Depression, for example, need not have happened. It was the result of policy errors made by the Hoover Administration…and a slavish fidelity to the gold standard.

All of these errors have been identified long ago – and corrected. The gold standard problem, for example, was corrected so completely that gold no longer stands in the way of any central bank on the planet. [Though it may eventually trip them up as they run to shelter from falling managed currencies…but that is another story for another day.]

And then, there was the Great Inflation of the ’70s – which was to blame for crashing share prices, stagflation and other financial calamities of the time. That, too, was the result of errors which have since been corrected. After all, there is no sign of consumer price inflation today!

Finally, there is Japan. Oh Japan! If only it had taken the advice offered by Krugman and others, what a different world we would have. Instead of having the top two of the world’s economies both falling into recession, we would have just one – the United States. And, as Krugman explains, a slump in the U.S. is easily reversed: “The Fed has a powerful conventional tool at its disposal. Since U.S. interest rates remain well above zero, there is still room for substantial cuts.”

Alas, rate cuts have not done the trick. But, fortunately for the existential economists, errors seem to come along just when you need them. “While the Fed has room for substantial cuts,” Krugman explains, “it does not have unlimited room, which is what makes Tuesday’s half-measure so disturbing. The point is that every time the Fed cuts rates but doesn’t turn things around, its credibility is eroded. Tuesday’s market plunge was in effect a vote of no confidence in Alan Greenspan and his colleagues, and that very lack of confidence will now become a drag on economic recovery.”

People expect so much – perhaps too much – of Alan Greenspan. They expect his aim to be perfect. No, he has not yet set interest rates at the precise level they need to be to revive the stock market. But he still has room to try.

Maybe he will get it next time. Or maybe he will make another ‘mistake.’ Then again, maybe there is no fed funds rate so winsome that it inspires an immediate bull market. Maybe autumn follows summer whether we like it or not.

“America is not Japan,” Krugman concludes, “and the Fed is not the Bank of Japan, but they don’t seem quite as different today as they did a few months ago. That is the bad news.”

A modest prediction: expect a bear market in the Fed chairman’s prestige…and in existentialism among investors.

Your humble pen pal,

Bill Paris, France March 22, 2001

*** Karim Rahemtulla, who heads our venture capital club, writes: “Two stockbrokers whom I have known for more than 15 years called me today. They are toast. The first one saw his account drop from 800k to 70k and today he is being forced to liquidate his account to cover his margin. Lesson – margin costs a lot more than 8% a year.

“The second one saw his account go from 400K to – 30k – how, he borrowed money to fund his margin calls – now he owes that money too.

“Yesterday and this morning I saw the first signs of the capitulation process. It is just beginning. Stocks begin to trade with wider spreads, the bid and offer on Corning, a big tech stock, expanded from 6 cents to over a dollar at one point. THE SELLERS ARE DOMINATING THE MARKET, and the BUYERS are saying ‘SELL IT TO ME CHEAPER.'”

*** The Dow went down a further 234 points yesterday. The Nasdaq retreated 27 points. Three times as many stocks fell on the NYSE as rose.

*** The giants are falling. Microsoft lost 5% of its value. GE fell 3%.

*** Two bits of financial news shaded yesterday’s action. First, the trade gap for January rose to $33.2 billion – the second biggest deficit ever. And consumer prices rose a bit more than expected – up 0.3% in Feb.

*** The Dow is off 3.4% so far this week. With more than 50% of American families invested in stocks – and an average of 60% of their assets in equities – these stock market losses must have an effect, sooner or later, on the economy.

*** A Newsweek poll found that “55% of Americans say they have already delayed or cancelled major expenditures on items like cars, home renovations or vacations. And 69% plan to limit those purchases further in coming months.”

*** Americans have used the stock market to replace savings. But now, says TIME magazine, our “savings” are getting “vaporized in front of our eyes.” Not surprisingly, people are looking for safer places to put their money. Mutual funds are experiencing net outflows of capital. In mid- March, the weekly outflow hit $8.9 billion – the second highest ever.

*** But – despite the losses – there is not yet any panic among investors. Investors Intelligence reports that advisors have become even more bullish – 51.6% are bullish, and only 30.9% are bearish.

*** “Never before in U.S. history has this much capital built up on the market sidelines with only one place to go,” says and email message from the very bullish Michael Murphy. “Where? Back into stocks and mutual funds! Institutions get ‘paid to play,’ plain and simple-not to stockpile cash on the market sidelines. And individuals aren’t going to settle for 5% annual growth in money market funds, giving up their dreams for a lavish retirement, the kids’ college education, or that special dream house.

“And that means there’s a MONSTROUS BUYING PANIC coming soon.”

[If there is a buying panic at these levels – it will surely be a hideous monster.]

“I beg you,” Murphy continues, with perhaps a bit of copywriting flourish, with which your editor is all-too familiar, “this is the most important decision you’ll make in your entire investing career – don’t let Wall Street fool you into making the wrong one!”

*** “Many people still deny that the end of the bubble is a fundamental change for the American economy,” writes Floyd Norris in the NY TIMES. “Companies and investors expect stocks to recover. The economy may be down but surely this is just an inventory correction that the Fed will be able to fix in a quarter or two.”

*** By contrast, “the stock market is not the economy. And the Fed does not control either of them,” says today’s Washington Post. Which is it? Is the Fed in control, or not? More below…

*** The brokerages are stumbling. Bear Stern’s first quarter profits fell 40%, reports Money Daily, and Morgan Stanley’s fell 30%. Lehman’s profits fell 29%.

*** “The biggest financial insanity ever in any nation in history” – Sir John Templeton. Interviewed by NewsMax.com, Templeton said he believes the recent bubble was the worst ever and will lead to “a stock market crash greater than the Great Crash of 1929.”

*** “What Michael Dell has done,” according to economist Barcley Lieb, passed on to me by our own Kevin Klombies, “is create a brilliant company – but then turned its valuation into something akin to a Ponzi scheme… cash from Dell’s PC operations came in the front door, and the majority of it went right out the back door to its employees and to Michael Dell himself.” Through a stock-buyback program Dell repurchased 350 million of its own shares in the last three years. The stock rose from $4 to a high of $59. And Lieb reports that “between August of 1997 and present Michael Dell personally sold almost 10 million shares netting himself over $810,000,000.”

*** On the 21st anniversary of the Hunt Bros. silver debacle, Lieb notes: “Michael Dell is surely more savvy than either Herbert or Nelson Bunker Hunt, but isn’t the behavior similar? The basic game is to use other people’s money to leverage up an asset you believe in. The only major difference is that Michael Dell has refined his exit strategy far better than was ever afforded to the Hunt brothers by the New York Comex Exchange.”

*** John Myers: “Dick Cheney estimates that the United States will need 1,300 new power plants over the next 20 years. A back of the envelope calculation reveals that’s 65 new plants each year. And guess what type of source he is talking about? Coal.”

*** Gold rose $1.40 yesterday. But the dollar rose too – sending the euro back below 90 cents.

*** “JP Morgan Reigns in Analysts,” says The Times of London. The head of equity research for the firm told analysts that it was “mandatory” that analysts send research reports to the companies covered, and to the relevant investment bankers. Analysts are to “incorporate the changes requested or communicate clearly why the changes cannot be made.” For whom do JP Morgan’s analysts labor? What is the value of the information they deliver? The firm…and zero, respectively.

*** It has been raining in Paris for days. Parts of the country are flooded…and here in the city, the Seine has risen so high the tour boats no longer fit beneath the bridges. River traffic has been halted.

*** Maria and I went out to dinner at a nice place on the Avenue Victor Hugo last night. At a nearby table, a couple embraced in a way that you normally only see in bad movies. “Aren’t they a little old to be doing that?” asked Maria, 15. The woman looked as though she was in her mid-forties. The man was a little older. But he looked tired. Both of them were old enough to know better than to make a spectacle of themselves in public. But it’s Paris. And yesterday was the first day of spring.

After about an hour of holding hands and, shall I say, ‘French’ kissing, the couple got up and went outside. They embraced again – madly, passionately, longingly. And then, she turned and walked down the street and he mounted his motorcycle and rode off.