Economic Castles

by Sala Kannan

Berkshire Hathaway’s shareholder meeting was not what I expected at all. We lined up outside the Qwest center in Omaha at 6.30 am. About 200 people were already there. When the doors opened at 7am, the crowd rushed in to get the best seats.

Inside the Qwest center, was something I never expected – the biggest sales campaign I’ve ever witnessed. There was an electronic screen running all around the stadium. And it constantly scrolled names of companies Buffett owns. Fruit of the Loom, Shaw, Dairy Queen, Helzberg diamonds. And on the other side of the stadium was a huge BUD banner – Buffett’s latest addition.

The event started with a very entertaining company video with a Wizard of Oz theme. Buffett was Dorothy and Arnold Schwarzenegger was the cowardly lion. “Please don’t raise interest rates,” he pleaded to Alan Greenspan, the Wizard, “I am trying to balance a budget in Cali-fonya”.

After the video, Buffett and Munger walked. “They both look alike,” I thought. Same hair and similar glasses. Almost like he had read my mind, the first thing Buffett said was “I’m Warren, he’s Charlie.” The crowd broke into laughter.

Almost immediately, Buffett announced an upcoming acquisition. He said it will be in the insurance industry and the transaction is worth about a million dollars. However, he did regret that they were not putting more money to use. He said they were sitting on $44 billion in cash and wished they could buy something bigger. “The check will clear, I assure you,” Buffett joked, “Right now we have more money than brains.”

When asked about the fiscal deficit, Buffett said, “We’re like an incredibly rich family that owns so much land they can’t travel to the ends of their domain. And they sit on the front porch and consume a little bit of everything that comes in, all the riches of the land, and they consume roughly 6 percent more than they produce. And they pay for it by selling off land at the edge of the landholdings that can’t see. They trade away a little piece every day or take out a mortgage on a piece.

“That scenario couldn’t end well. And we, also, keep consuming more than we produce. It can go on a long time. The world has demonstrated a diminishing enthusiasm for dollars in the last few years as they get flooded with them – every day there’s $2 billion more going out than in. I have a hard time thinking of any outcome from this that involves an appreciating dollar”.

He also said, “rich as we are, strong as this country is, something will happen.” He said our trade policy would have important consequences. Buffett felt that we are in a world where the assets of the world are managed by an “electronic herd,” which can make split second million-dollar decision by the press of a key. He said some exogenous event could cause a stampede by that herd.

Buffett turned to Munger to ask what he thought the end would be.

“Bad,” came the answer.

When asked about real estate, Buffett said real estate prices are rising far faster than construction costs and that can have “pretty serious consequences.” He said a home purchase signifies somebody’s savings. And generally when an asset price goes up it is more difficult to get financing. Today the opposite is true.

Buffett cited the greater fool theory. He said when people invest in real estate for asset appreciation – even if the price is silly [high], a bigger fool will pay that amount.

“People go crazy in economics periodically, in all kinds of ways. Residential housing has different behavioral characteristics, simply because people live there. But when you get prices increasing faster than the underlying costs, sometimes there can be pretty serious consequences.”

Buffett also hinted that if the real estate bubble bursts, it would be a good thing for Berkshire because he can buy real estate stocks for a bargain.

Munger shared Buffett’s concerns about real estate, “There are some extreme housing price bubbles going on.”

On gold, both Buffett and Munger made their dislike for the yellow metal very clear.

“We are not enthused about gold,” Buffett said. He prefers an asset that is “useful.” He said gold has very little economic utility and prefers commodities that have an economic effect – like oil.

“Gold is a dumb investment,” Munger cut in.

Someone asked if the United States is a castle with a huge moat. Buffett said in the last 215 years the United States has had a remarkable share of the world’s wealth. But it is not an economic castle anymore. “I think it will decline,” he said.

Buffett feels the rest of the world is catching on, and while our castle might grow in size, there will also be other castles around us. “Which is good for us and the rest of the world,” he said.

Munger added to this by saying there is no point in being a rich nation if we have lost out relative position in the world. He expects Asia to do “amazingly well.”

At the end of the meeting, everyone flocked downstairs to the shopping area. This section of the auditorium was filled with booths and stalls of Buffett’s companies. Everything from See’s Candies to Fruit of the Loom underwear was represented.

The masterful salesman he is, Buffett asked the crowd to go downstairs and shop. “It is good for your digestion.” Then he added, “Even if it’s not, it will be good for my digestion.”

The Daily Reckoning