Originally published in February 1999:
INDEXES ON 1/29/99
DJIA 9,358.83
S&P 500 1,279.64
NASDAQ 2,505.89
Editorial
In the past I’ve concentrated on the positives of the U.S. economy. These include the low inflation rate due to a more mature and efficient work force, exponentially cheaper and more capable technological wonders, the fall of communism, and increasing global trade. However, I see some cracks developing in the bullish case. The NASDAQ is being powered ahead by a few big cap tech stocks which are incredibly overpriced. Microsoft, Dell, Cisco and most internet stocks have become the biggest bubble in modern history. However, the market as measured by the Dow has reached a temporary peak. How temporary is up for conjecture. Deflationary trends have taken hold in the world economy. This is obvious by the need for Brazil and other weak nations to devalue their currencies. A weak currency allows these struggling nations to drum up enough business to keep their factories running since their exports become relatively cheaper. A worldwide glut of goods continues to develop at ever lower prices. The initial reaction by consumers when prices decline is to buy things they previously thought were too expensive or represent “deals” they can’t pass up. This can go on for quite some time and is the case currently. This temporary up-tick in demand continues until consumer pocketbooks are emptied. This phase of the cycle should be over soon. The reason I feel this way is because the savings rate has been declining for some time now and is currently near zero. This is especially troubling since the economy is doing fairly well now and after all of this spending consumers are not prepared for the eventual economic downturn.
The next phase of the cycle occurs when consumers buy all the merchandise they want that is on sale. Soon thereafter, the same things they splurged on are cheaper the next time they see them advertised. They start saying to themselves “to heck with this, I’m not going to buy any more of this stuff, it’ll just be cheaper the next time I shop — I’ll just wait for awhile; besides, I don’t have any more money.” This is when things can get scary. A drop in consumer demand decreases sales economy-wide; creating all kinds of detrimental ripple effects. Company profits drop. Investments in new equipment dry up. Lenders experience a huge pick-up in bad loans. Employees are laid off. Bankruptcies skyrocket. Stock prices recede — possibly collapse. Of course, the Federal Reserve would not sit by idly while all of this is happening. They drop interest rates allowing the party to go on a little longer, but it would be on borrowed time. The glut of capacity eventually overwhelms the actions of the Fed. The old phrase of the Fed “pushing on a string,” finally rings true.
One thing that would forestall this gloomy scenario is a more equitable distribution of wealth. American CEOs currently earn approximately 200 times what an average corporate employee makes. It wasn’t always this way. In the 60’s, CEOs made about 12 times what workers made. The average CEO in a Fortune 500 company is currently taking home $7.5 million per year! It doesn’t just end with the CEOs. Generally, the upper hierarchy of American business is grossly overpaid relative to the rest of the world. A more evenly stratified pay scale would create the demand necessary to keep the economy growing. This is a difficult issue because we live in a capitalist society and the market dictates salaries. It will require some soul searching and less self interest by corporate Boards of Directors and executives to prevent the severe slowdown I fear may engulf us.
I’m not writing this to scare anyone out of the market. No one can consistently predict the future. The above is just a possible result of a world awash in productive capacity and easy credit, and a great divide between rich and poor.
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Originally published in February 1999:
INDEXES ON 1/29/99
DJIA 9,358.83
S&P 500 1,279.64
NASDAQ 2,505.89
Editorial
In the past I’ve concentrated on the positives of the U.S. economy. These include the low inflation rate due to a more mature and efficient work force, exponentially cheaper and more capable technological wonders, the fall of communism, and increasing global trade. However, I see some cracks developing in the bullish case. The NASDAQ is being powered ahead by a few big cap tech stocks which are incredibly overpriced. Microsoft, Dell, Cisco and most internet stocks have become the biggest bubble in modern history. However, the market as measured by the Dow has reached a temporary peak. How temporary is up for conjecture. Deflationary trends have taken hold in the world economy. This is obvious by the need for Brazil and other weak nations to devalue their currencies. A weak currency allows these struggling nations to drum up enough business to keep their factories running since their exports become relatively cheaper. A worldwide glut of goods continues to develop at ever lower prices. The initial reaction by consumers when prices decline is to buy things they previously thought were too expensive or represent “deals” they can’t pass up. This can go on for quite some time and is the case currently. This temporary up-tick in demand continues until consumer pocketbooks are emptied. This phase of the cycle should be over soon. The reason I feel this way is because the savings rate has been declining for some time now and is currently near zero. This is especially troubling since the economy is doing fairly well now and after all of this spending consumers are not prepared for the eventual economic downturn.
The next phase of the cycle occurs when consumers buy all the merchandise they want that is on sale. Soon thereafter, the same things they splurged on are cheaper the next time they see them advertised. They start saying to themselves “to heck with this, I’m not going to buy any more of this stuff, it’ll just be cheaper the next time I shop — I’ll just wait for awhile; besides, I don’t have any more money.” This is when things can get scary. A drop in consumer demand decreases sales economy-wide; creating all kinds of detrimental ripple effects. Company profits drop. Investments in new equipment dry up. Lenders experience a huge pick-up in bad loans. Employees are laid off. Bankruptcies skyrocket. Stock prices recede — possibly collapse. Of course, the Federal Reserve would not sit by idly while all of this is happening. They drop interest rates allowing the party to go on a little longer, but it would be on borrowed time. The glut of capacity eventually overwhelms the actions of the Fed. The old phrase of the Fed “pushing on a string,” finally rings true.
One thing that would forestall this gloomy scenario is a more equitable distribution of wealth. American CEOs currently earn approximately 200 times what an average corporate employee makes. It wasn’t always this way. In the 60’s, CEOs made about 12 times what workers made. The average CEO in a Fortune 500 company is currently taking home $7.5 million per year! It doesn’t just end with the CEOs. Generally, the upper hierarchy of American business is grossly overpaid relative to the rest of the world. A more evenly stratified pay scale would create the demand necessary to keep the economy growing. This is a difficult issue because we live in a capitalist society and the market dictates salaries. It will require some soul searching and less self interest by corporate Boards of Directors and executives to prevent the severe slowdown I fear may engulf us.
I’m not writing this to scare anyone out of the market. No one can consistently predict the future. The above is just a possible result of a world awash in productive capacity and easy credit, and a great divide between rich and poor.
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