I've always found Steve Forbes to be a thoughtful, intelligent, reasonable commentator. Which is why
this is a bit depressing...
I forgot it required registration. Here it is...
A couple comments: I am surprised he likes Keynes. Most of the rest of what Keynes says is sorta wack... And there are some amazing stats in the second half. If you are skimming, take a look down there...
Disaster Redux
"There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency. The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million is able to diagnose."--John Maynard Keynes, The Economic Consequences of the Peace (1919)
Inflation is back again, an incredible development considering the hard experiences we and the rest of the world had with this debilitating disease from the late 1960s through the early 1980s. Inflationary symptoms are already rampant in the commodities market. Gold, oil, copper and other items are approaching or exceeding rates of price increase not seen for a quarter of a century. In the months ahead inflation will spread through the rest of the economy here and overseas.
Keynes was right. Even though our previous experience with inflation is still a living memory for tens of millions of people, hardly anyone in a position of authority can fathom what is now hitting him. The rhetoric about evil oil company executives is almost an exact replica of what we heard in the 1970s. Back then petroleum pooh-bahs supposedly kept tankers parked at sea in order to drive up the cost of gasoline and heating fuel. Now both Republicans and Democrats are screaming about price manipulation at the gas pump. As in the 1970s, we are being told today that commodities are scarce. Unlike then, though, no one believes we are running out of the stuff, just that the global economy's expanding demand has pulled us into an era of high commodity costs. It's all nonsense. When this inflation dragon is slain, as it will be eventually, commodity prices will resume their long-term descent.
For 4,000 years gold has been the best barometer of inflation, the Polaris of stable money. In the late 1960s it jumped after decades of stability, and inflation soon followed. The same phenomenon repeated itself in the early 1970s, when gold soared, and again when it roared ahead in the late 1970s. Each rise was followed by a disastrous round of generally rising prices and ever higher interest rates--and each ended in a recession. Today the price of what Keynes called the barbarous relic is the highest it's been since 1980, up 150% from its 2001 lows.
During bubbles and preinflationary run-ups in gold prices, policymakers always assure us that things are "different" this time. Federal Reserve officials today tell us that there is far less of a link between commodities and inflation. Gold is going up because the emerging middle classes in India and China love to buy jewelry. Oil is high because of uncertainty over Iran, disrupted supplies from Nigeria and Venezuela, crazy U.S. regulations prohibiting exploration and production in most of the Outer Continental Shelf and parts of Alaska, and expanding energy appetites in fast-growing India and China. All of this is true. But make no mistake: At least $20 of the price of a barrel of oil today is pure inflation and inflation-induced speculation. And given the outstanding supply of gold today--you can't destroy it, every ounce ever mined still exists--India's and China's alleged impact is minimal.
The Federal Reserve is debasing the dollar, and, in lockstep, the European Central Bank (other-otc: CHPA.PK - news - people ) and the Bank of Japan are doing the same to the euro and the yen, respectively.
The Fed could break this fever easily by soaking up excess liquidity until the gold price falls below $400 an ounce. (The ten-year average is around $350.) Sadly, the Fed's new boss, Ben Bernanke, fully disdains gold as a useful monetary tool, sharing John Maynard Keynes' prejudice against the yellow metal. Like most of his economist peers Bernanke thinks that the traditional gold standard, which governed monetary policy in Great Britain and eventually elsewhere from the early 1700s to the 1930s, caused or at least deepened the Great Depression.
If gold stays at its current levels, expect to see cost-of-living indexes hit increases of 5% or more. Expect long-term interest rates to go above 6%, perhaps reaching 7%. Short-term rates won't be far behind. What will hurt the housing market is not the alleged excess in prices we've been hearing so much about but the plain old higher cost of money.
You must prepare for political repercussions, too. Bad guys like Venezuela's Hugo Chávez will use their windfalls to stir up trouble and finance terrorists. China's economy might become over-heated, which could generate considerable political turmoil there.
Here at home we will be told that rising interest rates have been caused by George Bush's tax cuts, making their survival even more problematic. Repealing the death tax will be tougher.
Thankfully, most of the federal income tax code has been indexed for inflation, thus preventing unlegislated tax increases. By the end of the 1970s, for example, a family that earned $18,000 was less well-off than a family that had earned $7,000 ten years before.
Keynes once made a sage observation about ideas: "Practical men, who believe themselves to be quite exempt from any intellectual influences, are usually the slaves of some defunct economist." Sadly, Keynes' disdain for gold is accepted as holy writ among most economic policymakers today. We are all about to pay the price for that arrogant, misbegotten idea--yet again.
ax Cuts Work! So Ditch 'Em!
You'd never know it from reading the mainstream media or listening to most economists, pundits, Democrats and even some GOP politicos, but the Bush tax cuts passed in May 2003 have been a fantastic success. Yet because of Washington's idiotic way of estimating the impact of prospective tax changes¹, these prosperity-producing reductions are threatened with extinction. The two principal ones--capital gains and personal dividends--are set to expire in 2008. So far efforts to extend them or make them permanent have faltered. If these do go by the boards, anticipate a slowdown/recession in 2008--09.
That Democrats would badmouth what George Bush wrought in 2003 is predictable. But that so many supposedly objective observers and business journalists badmouth that legislative act is astonishing, a manifestation of both how poisoned our politics have become and, even more alarming, of how economically illiterate or lazy so many seemingly smart people are.
The evidence of the positive impact of these cuts--the capital gains levy was cut 25%; the personal dividend tax was cut 60%; personal tax rates were reduced; and juicy incentives for businesses, especially small ones, to boost capital expenditures were put in place--is overwhelming.
Real GDP has blossomed, expanding more than $1 trillion, or 11% between the first quarter of 2003 and the end of last year. No other advanced economy has done nearly as well.
Some 5 million new jobs have been created since the tax cuts, more than in Europe and Japan put together.
Real personal incomes have mushroomed as well, expanding 5.7% at a real compounded annual growth rate.
For all the gnashing of teeth over U.S. manufacturing jobs, our industrial production has increased by more than $300 billion, or more than 11%, in the past three years.
Between the second quarter of 2003 and the end of 2005 a stunning 3.9 million new businesses have been created.
Equity values have moved up smartly (although they should be up even more given what's happening to corporate balance sheets and bottom lines). The comprehensive Wilshire Index has increased 65% since early 2003; the S&P 500, 55%; and the Dow Jones industrial average, 42%. What's intriguing here is that the biggest stock market rises have been with small-cap stocks. Is it a coincidence that these companies have been invested in far more heavily than their much bigger corporate counterparts?
Aftertax corporate profits have exploded from $727 billion in the first quarter of 2003 to almost $1.1 trillion at the end of 2005, an increase of 46%.
Dividends have proliferated, rising from an annual rate of $149 billion in early 2003 to more than $200 billion today. In the S&P 500 companies there have been more than 900 increases, and over 40 companies have initiated dividends.
Business' capital spending zoomed from an annual rate of $730 billion in the first quarter of 2003 to almost $1 trillion by year-end 2005, an increase of more than 30%. Cash flows have grown even faster than corporate capital expenditures. There have been periods in the past when this has happened but not at the magnitude we're seeing today. In short, corporate America has plenty of juice to keep this expansion going.
So does the American consumer. The balance sheets of households in America have never been stronger. Household assets are up more than $15 trillion since the tax cuts versus an increase of only $3 trillion in household liabilities.
Foreigners have taken note of the powerful American economy. Foreign direct investment in the U.S. last year was $128.6 billion, up 90% since 2003. Private portfolio investment inflows are the largest ever, $686 billion last year, up 107% from 2003.
The overall assets of the nation have grown 30% in just three years to $160 trillion.
Yet the mainstream media obsesses about Washington's deficits, giving short shrift to the soaring growth in government receipts both inside the Beltway and out. Last year's tax take by Washington was up almost 15%. The problem on all levels of government is not inadequate revenue but obscene spending.
Housing bubble? Maybe in some local markets around the country, but the median housing price increase since 2003 is eminently reasonable--new home prices are up 21% in the last three years; existing homes, 23%.
Trade deficit? As an indicator of financial health that number is useless; it is not, and never has been, the national equivalent of a company's making or losing money. North America has had trade deficits for 350 out of the last 400 years. Most trade involves transactions between commercial entities. Each party thinks it is getting something good from the deal. FORBES magazine has had a "trade deficit" with its paper suppliers since our inception. Yet we continue to buy paper because we believe we give readers information on it that they need and give advertisers markets they desire to reach. It is all about value-added. To obsess about one number such as the trade deficit and ignore capital inflows, personal incomes, corporate profits, the national balance sheet, etc. is almost pathological.
Our performance since 2003 has been impressive. Now just imagine how much better it would be if we ever overhauled our atrocious tax code and replaced it with a simple flat tax.
¹Washington calculators always assume that tax changes have little or no impact on our behavior, despite overwhelming evidence to the contrary. The Congressional Joint Committee on Taxation, for instance, said that the capital gains tax reduction from 20% to 15% would cost the government money. Instead, revenues have increased 45%. Why the Republicans didn’t change this anti-tax-cut bias in Congress and the Treasury Department years ago is one of the great mysteries of modern politics.
