The Recession That Wasn't
A Daily Reckoning Whitepaper
By Bill Bonner
Phony boom, phony recession…what next? A phony recovery! What a strange recession. It was like a zebra – but without the stripes. And only one leg…on which he seems to hop…underwater…
Recessions typically correct attitudes and asset prices – and repair balance sheets. Debts are written off or paid down while savings rates mount.
But none of that happened. Stocks are higher than ever. Businesses are more heavily in debt than last year. Savings rates are pathetic. And the consumer?
“Emboldened by low interest rates, board discounting and ready cash from their mortgage refinancing, consumers spent through the recession as if they were flush,” says a TIME article on the subject. “Now they are in debt and won’t be able to pick up the spending pace much in 2002.”
How can you have a recovery without a boost in spending? And what would happen if consumers actually slowed spending instead?
Phony Recovery: A Miracle If It Pans out
“Equity market strategists are relying on U.S. consumers to maintain their strong demand for goods so that manufacturers can increase production and earnings,” writes Hugh Whelan. “Better corporate earnings, especially if associated with high productivity growth, allow robust wage increases, which then feed back into more consumption. It will be something of a miracle, though, if this rosy scenario pans out…the consumer has been the beneficiary of several one-time occurrences: energy price declines, low interest rates, tax refunds and last year’s tax rebate.”
Miracles do happen. But our advice, gentle reader, is to play the odds.
The one thing that the ‘recession’ did do – and do impressively – was lower corporate profits. But thanks to new productivity, we are told, corporate profits are going to come back – justifying share prices and boosting the economy. Consumers may be in no position to increase spending, say the bulls, but businesses can increase capital investment and profits and lead the economy into another boom.
And so, today’s important question: What happens next? Do profits shoot up – making the investors and economists feel like geniuses again? Or, does a real recession sneak into the patsies’ assets, like a Democrat into the public treasury?
The entire economics profession and almost every investor in the world seem to have crowded into one side of this trade. We will take the other.
Phony Recovery: A False Dichotomy
Will the recovery be sharp and robust? Or will it be soft and easy-going? No other possibility seems to have occurred to the pundits on CNBC…
But what if there were no real recovery at all? You are reminded, dear reader, that we have no crystal ball…nor has God whispered the answer in our ear. But, as a matter of principle, markets often give investors what they least expect and most deserve.
Readers will also recollect that getting rich is neither as simple nor as easy as some might think. If lower interest rates could really make people wealthy, why not lower them to zero tout de suite? And why would Japan – with its zero-rate policy for nearly five years – not be the richest nation in the world?
Nor is the money supply itself the magic ingredient. If introducing more currency into an economy could make it rich, Argentina would have been fabulously wealthy in the late ’80s, instead of at the edge or ruin.
No, it is not that easy. Like everything else worth getting in life, getting rich requires giving something up. Even love requires an investment…and one gets a kiss by giving one. And for the faithful…Jesus could not have risen from the dead had he not been crucified. Every bit of human progress requires some sacrifice. Could it be any different for an economy?
Phony Recovery: Gain Without Pain
To achieve wealth, one needs to set aside assets and invest them for a return in the future. Seems simple enough. But in the New Economy of the late ’90s, investors came to believe that they could have the gain without the pain. And consumers – the patsies of the new economy – believed they could spend more and more money they didn’t have. The central bankers lured them to their ruin, telling them that spending was the ‘patriotic’ thing to do!
But instead of investing in productive new plants, equipment and technology, businesses switched their attention to raising share prices. Mergers, acquisitions, share buybacks and employee stock options were all the rage.
Most people think that huge amounts of money were invested in new Information Technology, which produced a glut of capacity. This is not true. Small amounts were invested – which were then magnified by the number crunchers using their ‘hedonic’ amplifiers. Information technology does not require a lot of capital investment. Then again, it produces little in extra profit.
After pretending to invest big money in the new technology, the number crunchers in the private sector then pretended that the investments were profitable. More reckless than most, Enron’s accounts show to what extent the pretenders would go.
But you can’t produce real profits without making real investments. That is why profits have fallen so sharply – so little was invested to produce them. And that is why profits are not likely to rise quickly or easily. First, businesses need real savings – ones that they can invest in real projects that might make people richer. Then, consumers have to reduce their debts so they can afford to buy them. All this takes time – maybe a decade or more.
A society that invests heavily and carefully in new plants, equipment, technology, training and research is a society that gets richer. It can produce more of the things in which wealth is measured. A society that consumes its capital instead…gets poorer. And sooner or later realizes it.
Editor’s Note: Bill Bonner is the founder and editor of The Daily Reckoning. He is also the author, with Addison Wiggin, of the NY Times and international best-seller: “Financial Reckoning Day: Surviving The Soft Depression of The 21st Century” (John Wiley & Sons).
Useful links on Recession:
Flatliners– John Mauldin
Whenever we see a Negative Yield Curve, it’s a sign of a recession, and explains why, while the current yield curve may have been artificially kept from going negative, that a recession is still not imminent.
Benefits of Recession– By Bill Bonner
“Where once Americans thought they could get richer without the discipline and forbearance of saving money and investing it carefully in serious businesses.”
All Recessions Are Local -By Rick Ackerman
“…Like politics, all recessions are local… They take root in auto showrooms and appliance stores, then slowly steal into the malls, choking off jewelry stores, stereo dealers, restaurants, clothiers and ski shops…”
An Incomplete Recession – By Raymond Devoe
“In my opinion, the “postwar period” ended on March 10, 2000 (“The Crazy Day”) when the Nasdaq Composite hit its all-time high of 5048…”
Looking for more on Recession:
Digg– Fed Can’t Stop Recession but it has also raised talk about a recession — and whether the Fed is able. …. And there wasn’t MUCH the Fed could do in that situation, since the Great …
Media Matters – It wasn’t. HANNITY: Two quarters … CORZINE: It was slowing down. HANNITY: No, it was by every definition a recession. So this president comes in. …
CNN Money.com – OIL PRICES WON’T BRING A RECESSION Yes, the economy is fragile …The 1973 and 1979 oil shocks that ushered in recession and inflation were much … a slower and more manageable pace but wasn’t planning any liquidation. …
Business and Media-Oil prices set another record today,” began Gibson in a report where he all-but begged one economist to say we’re in a recession. Sadly, ABC wasn’t the only …