The Daily Reckoning PRESENTS: Through stocks and bonds to
housing and mortgages, the unparalleled U.S. credit machine
keeps chugging along, spinning illusions...
CORRUPTED THINKING IN A MONEY CULTURE
By Kurt Richebächer
It is the general view that the U.S. economy has outperformed
the rest of the world in the past several years. Judging by
real GDP growth rates, this is true. Yet the reason why is
obvious, easily explained, and disastrous in its
consequences: the U.S. credit machine has no parallel in the
world. It is geared to accommodate absolutely unlimited
credit for two purposes - consumption and financial
speculation.
There has developed a tremendous and growing imbalance
between the huge amount of credit that goes into these two
uses and the minimal amount that goes into productive
investment. Instead of moving to rein in these excesses and
imbalances, the Greenspan Fed has clearly opted to sustain
and foster them.
Today it is customary to measure economic strength by
simply comparing recent real GDP growth rates. It always
becomes fashionable when U.S economic growth is higher than
in Europe.
From a long-term perspective, however, economic policy and
economic growth are about physical resource allocation,
that is, available tangible capital stock and labor. How
much of the current production is devoted to consumption
and how much to capital investment? Looking for economic
health and strength, generations of economists have focused
on two economic aggregates: savings and investment, in
particular net savings and net investment.
It used to be a truism among economists of all schools of
thought that the growth of an economy's tangible capital
stock was the key determinant of increased productivity and
subsequently of good, high-paying jobs. And it also used to
be a truism for economists that from a macroeconomic
perspective, tangible capital investment into factories,
production equipment, and commercial and residential
building represents the one and only genuine wealth
creation.
But in America's new money culture, policymakers and
economists make no difference between wealth created
through saving and investment in the real economy and
wealth created in the markets through asset bubbles,
engendered by extremely loose money and credit.
In 1996, an article in Foreign Policy entitled "Securities:
The New Wealth Machine," explained how securitization - the
issuance of high-quality bonds and stocks - has become the
most powerful engine of wealth creation in today's world
economy. Whereas societies used to accumulate wealth only
slowly, they can now do so quickly and directly, and "the new
approach requires that a state find ways to increase the
market value of its productive assets." In such a strategy,
"an economic policy that aims to achieve growth by wealth
creation therefore does not attempt to increase the
production of goods and services, except as a secondary
objective."
This a perfect description of the corrupted economic
thinking that is today ruling in America not only in
corporations and the financial markets, but even among
policymakers, elevating wealth-creation, that is, bubble-
creation, to the ultimate of wisdom in the policy of
economic growth.
There can be no question that the rapid sequence of asset
bubbles - stocks, bonds, housing - that the United States
has seen in the past few years were crucial in stimulating
economic growth. Considering, though, its tremendously
lopsided effect on consumer spending and the associated
consumer-borrowing orgy, we are unable to regard this as a
reasonable and sustainable policy. It works in the short
run from the demand side, but it has come at heavy
structural costs.
With these remarks, we wanted to make one thing perfectly
clear. It is not profits, savings and investment that drive
U.S. economic growth. It is America's unparalleled credit
machine, and that alone, which makes all the difference in
economic growth and wealth creation between America and the
rest of the world.
In the consensus view, the U.S. economy is breaking out of
its anemic growth pattern. A few signs of accelerating
economic growth have led to this forecast, in particular
the 8.2% spurt of real GDP growth in the third quarter of
2003 and within it sharply higher investment technology
spending, up 22%; surging profits, and also surging early
indicators, among them in particular the November ISM
survey for manufacturing. Various indicators are at their
strongest in 20 years.
We strongly disagree with this assessment. The growth spurt
in the third quarter was exceptional, due to a one-off
splurge in tax rebates and a burst in the mortgage
refinancing wave. As to investment spending, what
essentially matters is the change in total nonresidential
investment, and that continues to show virtual stagnation.
The widely hailed surge in IT investment came
overwhelmingly from the hedonic pricing of computers, which
has been abolished. Recent profits reports have indeed been
impressive, but their success is vastly different between
sectors and not as straightforward as the official numbers
imply.
Yet our disbelief in the U.S. economy's breakout from its
protracted sluggishness has one main reason: All the
economic growth of the past two years, anemic as it was, is
traceable to a seemingly endless array of asset and
borrowing bubbles. Quoting analyst Stephen Roach, "the Fed,
in effect, has become a serial bubble blower" - first the
stock market bubble; then the bond bubble; then the housing
bubble and the associated mortgage refinancing bubble. As a
result, consumer spending has been surging well in excess of
disposable income for years.
The idea was that sustained and rising consumer spending
would in due time stimulate investment spending. It has
grossly failed to do that. Our assumption rather is that
consumer spending will slow as the asset and consumer
borrowing bubble are sure to fade. Seeing no big investment
recovery, we expect a surprisingly weak U.S. economy in
2004.
Regards,
Kurt Richebächer
For the Daily Reckoning
Editor's note: Former Fed Chairman Paul Volcker once said:
"Sometimes I think that the job of central bankers is to
prove Kurt Richebächer wrong." A regular contributor to The
Wall Street Journal, Strategic Investment and several other
respected financial publications, Dr. Richebächer's
insightful analysis stems from the Austrian School of
economics. France's Le Figaro magazine has done a feature
story on him as "the man who predicted the Asian crisis."