Subsidies: A Bipartisan Scourge

Liberals and progressives often refer to the American economic system (derisively of course) as Cowboy Capitalism or Laissez Faire Capitalism because in the US we are supposed to have less government intervention in the economy and more competitive pressures compared to the European system, which is often refered to by conservatives (derisively of course) as a Democratic Socialism or Social Welfare Capitalism. 

The reality is that the United States has become an example of Crony Capitalism (aka Corporatism) as I've argued on previous blog entries.  Another name we could call the US system is Subsidy Capitalism. 

Every major sector of the US economy is subsidies -- massively -- by the Federal government.   Many of these subsidies are justified as necessary to help the poor, but in reality they end up profiting big business and high income earners. 

Let's get rid of subsidies.  conservatives love subsidies because they leave private enterprises in place in the so called free market.  Just because private enterprises remain does not mean we have a competitive free market.  Subsidies distort the so called market to the point that the market often "fails."  and then guess who gets blamed when the market fails?  Of course, the market gets blamed.  politicians never admit that their well meaning subsidies caused the distortions in the first place.

the Federal Reserve is by far THE biggest source of subsidies in the US economy / financial markets -- and therefore it causes the biggest distortions for two reasons.  The subsidies come primarilyt from two sources:  first because the Fed acts as a lender of last resort for big finance.  Tax payers bail out big finance.  It is no surprise that post 2008  the US banking sector is even more concentrated now!  Secondly, the Fed facilitates 'inflation' which is a subsidy for debtors and a tax on creditors and savers.   Private equity is one industry that benefits tremendously from debt subsidies thanks to the Fed's systematic bias toward ensuring postive inflation and to interest expense write offs. 

On top of the Feds subsidies to the financial markets, we have massive Federal subsidies for health insurance (tax deduction for business), housing (interest deductions plus Fannie and Freddie, etc), education (loan interest loans),  farm (price supports), infrastructure, banking and finance, green energy, exports.  You name it and there is a direct or indirect subsidyscheme!  Development economics has proven that subsidies typically benefit high income earners at the expense of low income earners because high income earners have the most to gain from them!!!  Subsidies are a terrible way to try to help the disadvantaged.  Lets get rid of them.

Living off handouts: it's not just the poor

The Economist Magazine

Sep 19th 2012, 13:20 by Buttonwood

THE latest gaffe by Mitt Romney (not so much Romneygate, as Romney-gated community) brings up a related issue, of how modern states have tended to extend benefits to the better-off, partly because of lobbying and partly as a way of buying the support of the wealthy for the welfare state. All this is well illustrated in Suzanne Mettler's book "The Submerged State", which shows how these hidden subsidies can distort voters' view of the way that government policy works; a 2008 poll found that 57% of Americans denied ever using a government programme. But when shown a list of 21 actual programmes, including student loans and home-mortgage interest deduction, 94% of the deniers turned out to have benefited after all.

Some of these programmes are heavily skewed towards the better-off. According to Ms Mettler, 69% of the benefits of the mortgage interest deduction went to those who earned $100,000 or more; 55% of the benefits from employer-provided retirement benefits* went to those earning $100,000 or more. Only 16% of workers in the lowest income quintile had employer-sponsored (and tax deductible) health insurance compared to 85% of those in the top quintile.

In cash terms, the average subsidy for those earning $200,000 to $500,000 is three times that for those earning $10,000 to $20,000.

And these programmes are large; mortgage-interest tax relief cost $104.5 billion in 2010 while the tax subsidy for retirement benefits was $67 billion. But these programmes are politically very hard to get rid of.
A similar problem dogs the British coalition. The Conservative Party is uneasy about ending child benefits for the higher paid, and has promised not to end the winter fuel subsidy for wealthy pensioners. But if you spare the middle classes from the cuts, more of the burden must fall on the poor.

Universal benefits are very expensive. But targeting benefits requires means-testing, an instrusive process that causes hard cases at the margin. And restricting benefits to the poorest may weaken political support for the whole system, along the lines highlighted by Mr Romney; people may believe that the hard-working "us" are subsidising the feckless "them".

High Gas Prices, Liberty and the Law of Unintended Consequences

This is an interesting analysis of why US gas prices are near the highs of 2008 despite crude oil being $50 a barrel cheaper and despite near global recession conditions, including weak growth in US, EZ, China, etc.   This analyst argues that global demand conditions (for distillates) remain strong -- despite low growth -- and thus he assumes a bullish outlook for gasoline prices going forward.
Think about what happens when the world economy actually starts to recover!  We may very well go from high gas prices to super high!   In my view this bullish analysis for US gasoline prices argues that the Fed’s easy money program is sowing the seeds for global stagflation. 
The law of unintended consequences will surely play a role in undermining the Fed’s attempt to use easy money to reduce unemployment in the US. 
The path to higher growth and lower unemployment sounds logical enough when you read the Fed’s reasoning for “QE 3/infinity,” but if we step back for a moment and just think about what the Fed is really saying is that money printing will make the economy healthier.  Who really believes that money printing can set in motion a positive self reinforcing cycle of healthy growth?   Why are we so gullible?   
The law of unintended consequences ALWAYS undermines well intended public policies aimed at guaranteeing certain social or economic outcomes.  There is no way for the government to  ensure outcomes without at the same time sowing the seeds for invisible second round effects that ultimately undermine the well intended goal.  If government could guarantee social or economic or market outcomes, then we would all live in a world without poverty or financial crisis or global warming. 
As soon as the government attempts to control or inject certain desire social or economic outcomes into our world, the law of unintended consequences comes into play, thus undermining the best designed and best intended macro policies. 
To believe that government can inject favorable outcomes into society and the economy assumes the government can provide free lunches via enlightened policy making. 
The law of unintended consequences often results in outcomes that are not just less than hoped for but diametrically opposite of the intended policy.  What this means for the Feds “QE to infinity” program is that it very well may result in higher, not lower unemployment levels.  
The road to hell is paved with good intentions.  Let me clarify what I mean by this.  I am not saying that all good intentions go punished.  Good intentions are a healthy part of our day to day lives.  We should all live according to the golden rule, do unto others as we would like them to do unto us.  We should all have a gracious and grateful heart and we should all seek to do good in the world.
The problem comes when we turn to the government to do good on our behalf.  The problem comes when we think we can use government to inject positive macro outcomes into the world.  There is a fundamental difference between offering a neighbor in need a place to sleep and a warm meal and between the government guaranteeing this for everyone in society.  When the government attempts to guarantee equal outcomes and a level playing field and promises to get rid of business cycles thanks to a Central Bank, we should all be circumspect.  Why should we believe the government can deliver free lunches.  There will always be mysteries that we don’t understand that undermine well intended public policy aimed at guaranteeing such outcomes as “income inequality” or “a level playing field” or “universal healthcare” or “sustainable growth” or “world peace.”  IN each of these cases, the government must use an ends justifies the means approach which automatically undermines the intended positive outcome.  For example, there is the argument that we need to use military force to deliver peace to the world.  The same sort of might-makes-right logic is required and entailed in delivering social equality or level playing fields or universal healthcare.   The “free market” is often accused of being unfair to the small guy or to the small business, and thus is the justification used for the well intended hand of the government to make things “right.”  But in the very act of trying to make things right, the government must behave as the worst selfish monopolist who is constrained by no other force.  The nature of government’s well intended actions is “coercion.”  The nature of transactions in a “free” market is mutual agreement.  At the heart of the market is the logic of peace and agreement.  In a market setting, we can agree to disagree.  In fact, there would be no exchange if we didn’t think we would better off making the exchange.  So I think the exchange is better and you do too!!!  such exchange leads to positive social welfare.   when the government gets involved, this results in a logic of the zero sum game.  One person gains at another’s expense, but this reality is rationalized as a price to pay for the intended outcome.  The process of guaranteeing the outcome requires -- one way or the other --  that the government enforces its univocal view of what is “correct.”  There is no room for agreeing to disagree.  Means are justified by well intended ends, no matter if the means are in direct opposition to what is “intended” – and in fact, it is often the case that the means to achieve well intended ends requires coercion or some violent force or the threat of force.  This is the opposite of peace and harmony. 
We can live in a world that offers liberty and equal protection under the law – and that is inherently unfair, unpredictable and unequal.  Or we can try to engineer a more perfect world that trades personal liberty for “social justice.”  What we find out when we trade liberty for social justice is that we get neither.  This is the law of unintended consequences:  the best we can do is guarantee equal treatment under the law.  We cannot guarantee equal outcomes or social justice or equal opportunity or fairness without at the same time giving something up in exchange.  In fact, when we try to guarantee social outcomes, we must first trade liberty in order to achieve the intended outcome – which always proves unachievable thanks to the law of unintended consequences.

The Mystery Behind High North American Gas Prices: Solved

Seeking Alpha, September 25, 2012

By Keith Shaffer
(Keith Schaefer writes on oil and natural gas markets in a simple, easy to read manner. His new newsletter will outline which TSX-listed energy companies have the ability to grow, and bring shareholders prosperity even in these tough times. He has a degree in journalism and has worked for several dailies in Canada, but has spent the last 15 years assisting public resource companies raise exploration and expansion capital.)
North American drivers are now competing with global drivers -- and global industry -- for cheap American crude. I went on FOX National Business News to explain why that is.
For starters, keep in mind that driving gasoline is 50% higher today than in 2008, relative to the oil price. Put another way, gas prices right now are near the highs of 2008 (when oil was a whopping $147 a barrel.) Yet the oil price is $50 a barrel lower today - that's what I mean by 50% higher gas. Why is that, exactly?
Look at these two charts that I talked about in the Fox segment , which help explain one part of a complex story. The first chart says there is a low amount of middle distillates globally-- these are the refined oil products that are used to power and transport the world: diesel, jet fuel, home heating oil, etc.

go to original article link to see chart:  
http://seekingalpha.com/article/886691-the-mystery-behind-high-north-american-gas-prices-solved?source=email_macro_view&ifp=0

The above chart means that either demand is low, or supply is low. But then I look at the chart below, and I see supply is high and rising, so I conclude demand must be higher (which I have to think is bullish).

go to link to see chart:
http://seekingalpha.com/article/886691-the-mystery-behind-high-north-american-gas-prices-solved?source=email_macro_view&ifp=0

U.S. refineries are dramatically increasing their exports of light / middle distillates from the Gulf refinery complex out into the rest of the world. And yet global distillate levels are still low. That intimates a bullish world demand case to me, and tells me we won't see a dramatic drop in the price of oil.
Refineries export into a global market for their refined products, which are all priced on Brent Crude, while their input costs-- North American crude oil -- is priced on cheaper WTI, or West Texas Intermediate. That $15/barrel price difference between the Brent and WTI is pure profit for refineries. The WTI price is so much cheaper because of the HUGE supply of new oil created by the U.S. in the fast-growing Shale Revolution.
It allows refineries to choose whatever global product has the best price for export, and that's not always driving gasoline for North Americans. Several North American refineries are trying their best to move their processing over to other products besides driving gasoline. But even with lots of gasoline, domestic drivers are now competing with those around the world for cheap North American crude products. And that should keep retail gasoline prices high.

the Real "Taker's" are NOT who you Think!!!

This article from the on line version of the Economist Magazine hits the nail on the head by elaborating on a theme I have been pounding for a long time now:  i.e. both major parties are two sides of the same Big-government, Crony-Capitalism (aka Corporatist) coin. 

It is no coincidence that the Washington DC metro area now contains seven of America’s ten richest counties!!! 

Washington DC was one of the few (if only) regions where real estate prices kept going up in the wake of the 2008 crisis!  Why?  Because Washington DC continues to be ground zero for decision making in the economy.  The more decisions and regulations set in Washington DC, the more opportunities there are for lobbyists and congress members to enjoy new and ever more lucrative rent seeking activities.   The economic boom in Washington DC comes at the expense of the rest of the country. 

Why do we believe the hollow promises by politicians to solve our social and economic problems?

More than half of the members of Congress are millionaires, many of whom are professional politicians.  How do professional politicians accumulate so much wealth?   

The more power we give to government, the more opportunities we give to politicians to take advantage of big-government corporatist rent seeking activities. 

Obamacare is full of sweeteners to big pharma and big insurance.  Dodd-Frank does nothing to reduce the incredible consolidation of the financial sector.    In fact, Obamacare doubles down on a failed system organized around massive subsidies to health insurance companies. 

Meantime, the five largest banks hold a share of U.S. assets 30 percent larger today than in 2006! 

THE BIG KEEP GETTING BIGGER!  Trust busting in the early 20^th century is often used as an example of successful and necessary government intervention that works.  the law of unintended consequences, however, always catches up with such superficial and initial "successes."  it often take times to manifest, but it always does. 

Anti-trust is often used now by companies to gain government favors and competitive advantage rather than to reduce market power. 

Central banking has also been an example used by defenders of government intervention in the economy.  Since the Fed was established in 1913, we’ve had 2 world wars, a Great Depression, the Great inflation of the 1970s, the Iraq and afghanistan War and the Great Recession of 2009 (and counting).  The Fed facilitated spending for war and also facilitated the booms that led to bust in the 1920s and again in the 2000s.  The Fed sows the seeds for disaster then argues it is the only institution that can save us from disaster. 

ALL government interventions aimed at guaranteeing social and/or economic outcomes are subject to the law of unintended consequences.  This natural law leads to the general impoverishment of society and the enrichment of politically connected elites!!!

Romney took a lot of flack for talking about the 47% who don’t pay taxes.  This issue is a distraction from what really matters.  That is the fact that cronyism is on the rise -- and neither major party has an answer!!!

The real beneficiaries of public largesse are politicians and their crony allies in the sectors of economy that enjoy the largest public subsidies:  big banking and finance, big insurance, big pharma, big farm, big green energy, secondary education, the military industrial complex and the latest arrival to the public pork pig-out:  big homeland security.  As the Economist explains in the article copied below:  "a rapidly expanding security state is more parasitical than protective."

We can thank the Republicans and Bush 43 for establishing the homeland security industrial complex. 

The problems we face are bipartisan problems which will not be solved by finger pointing or nostalgic talk of how government used to solve problems with bipartisan cooperation. 

Our two major party system is a false choice between two different flavors of big government.  Until we recognize that, it doesn’t matter which party is in charge, Washington DC will get wealthier and wealthier, and our country will continue to be impoverished – financially, culturally, physically and socially.

Wake up fellow Americans. 

We are so trained to vilify the “other” no matter whether it is the other party, or the other socio economic group or the other in terms of foreign policy threats, that we fail to look in the mirror and to see that neither major party is really willing or able to fix what is really broken in this country. 

What is really broken is our own fault individually and collectively.

We have willingly handed over to the government more and more responsibility to keep us safely employed, to keep us protected, to keep us healthy and educated and to help provide “equal opportunity for all” (by leveling the so called playing field).  We have consistently and willingly and knowingly traded our liberty little by little for safety, and we have ended up with neither… just as Ben Franklin warned would be the case 200 years ago.

Obama promised to change Washington DC and now he admits it is impossible to change Washington from the inside.  We have seen Obama co-opted at every turn.  Co opted by big Wall Street (big banks have gotten bigger!!!), co-opted by big insurance and big pharma (Obamacare is a fiscal disaster thanks to give-aways to big insurance and pharma), co-opted by big labor (blocking school reform), coopted by big Green energy (solydra), coopted by his own party and Congress (in two failed and pork stuffed stimulus packages). 

George Bush created a massive new industrial complex:  the homeland security complex which now employs tens of thousands of analysts and requires billions of dollars in bureaucratic over sight and that will only grow and grow and grow bigger and bigger.  Note the reference at the end of this article when the author says that Obama is likely to be slightly more “corporatist” and Romney is likely to be more “militaristic” but in the end both parties are defenders of the status quo crony capitalism aka corporatism we “enjoy” today.

All those Dems who think government can protect the little guy from big business, look at Obama’s record and please take the rose colored glasses off!  Big banks and big insurance and big pharma have only gotten bigger under Obama and they will continue to do so.  all those Republicans who think the GOP is for “free” markets is kidding himself or herself given the fact that the GOP is also for an unaffordable military and homeland security industrial complex as well as for a Central Bank system that is anything but a “free” market.  The GOP has no answer for “market failure” as happened in 2008 because it doesn’t understand or admit to the massive interventions it promotes in the economy that undermine and distort the market, including massive public spending on defense and homeland security, and the central bank system that is required to fund GOP public spending priorities.

both parties promise that we can have our cake and eat it too.  both parties promise free lunches. 

we need a new language of trade offs.  whenever politicians promise "free lunches" we should understand they are fooling themselves and we are fooling ourselves for believing them.  the government can't guarantee peace through war anymore than the government can guarantee equal opportunity or so called social justice or cradle to grave safety nets.

Life isn't fair.  Success results from failure and nothing else.  there are no free lunches.  What if our politicians were forced to use a language that assumed such realities.  Instead what we get -- all because we naively want to believe it -- is the language of blame, finger pointing and entitlement.

It is often said that a democracy can’t function with a gold standard.  I believe history will prove the opposite.  That a democracy can’t survive without a gold standard – by a gold standard I mean a monetary standard that cannot be manipulated by politicians and where the market provides sound money. 

Naysayers who say the world is too complicated for a gold standard have it upside down.  The world has become overly complicated thanks to government manipulated money.  Central banking IS systemic risk.  There is no such thing as systemic risk in a market without a central bank. 

One day we will demand sound money when the government inevitably crashes their pie-in-the-sky central planning monetary system that promises the ultimate free lunch:  wealth via money printing. 

are we really that stupid?  no we are not that stupid.  we just stopped thinking for ourselves.  "we" (our political elites with our tacit approval) have developed a massive infrastructure of experts who design massively complex models and theories that "prove" to themselves and thus to all of us non-experts that money does grow on trees.  

Wake up America! 

  

Democracy in America

American politics

The capital of takers

The splendour of empire

Sep 24th 2012, 13:22 by W.W. | HOUSTON

·         SPEAKING of making versus taking, the Washington, DC metro area now contains seven of America's ten richest counties. Matt Yglesias of Slate comments:

The simple explanation is that we've gone corrupt and decadent, and as the vitality of the American empire declines its capital grows more splendid. The more sophisticated explanation, offered by David Leonhardt in August, is that the DC area is affluent for the same reason the other affluent parts of America are affluent—a very high share of the population has college degrees. But that in some ways only pushes the question back a further step. All these college graduates didn't end up in DC by coincidence. Rather, the national economy has transformed in such a way as to encourage large numbers of educated people to move here in search of work or because you accepted a job offer.

Mr Yglesias rightly notes that the capital region's magnetism to the well-schooled isn't entirely a matter of an increasingly politicised economy. He mentions, for example, the movement of many publications and journalists to the Washington area as an effect of the decline of local newspapers in the internet age. But, Mr Yglesias argues,

...it seems a little implausible to avoid the conclusion that on the whole the American economy has gotten more deeply invested in influence-peddling—broadly construed—and that this is driving the Washington area to the top of the charts.

Agreed.

What, then, are we to make of the fact that the Washington area's rising affluence has resulted from an influx of highly-educated workers? If you refuse to assume that lobbying, lawyering, and contract-seeking generally create rather than consume wealth, it would appear that many of America's best-trained workers are increasingly drawn into enterprises that, on the whole, take more than they make. Which augurs ill for America's future.

This implies, moreover, that there is a non-silly "maker/taker" distinction, but that Mitt Romney has it all wrong. It's well and good to worry about welfare dependency, but it's rather more important to highlight the economic drag of dependency inherent in America's increasingly corporatist political economy. Tim Carney of the Washington Examiner nails it:

Romney was correct that a portion of America backs President Obama because they "are dependent upon government" and "believe that they are entitled." We even know these dependents' names: Duke Energy CEO Jim Rogers, General Electric boss Jeff Immelt, Pfizer lobbying chief Sally Sussman, Solyndra investor George Kaiser and millionaire lobbyist Tony Podesta, to list a few.

In the last few years of bailouts, stimulus, Obamacare and government expansion in general, we have seen median income fall and corporate profits soar. Industries are consolidating as the big get bigger while the little guys shut down.

When government controls more money, those with the best lobbyists pocket most of it. The five largest banks hold a share of U.S. assets 30 percent larger today than in 2006. Also, as Obama has expanded export subsidies, 75 percent of the Export-Import Bank's loan-guarantee dollars in the past three years have subsidized Boeing sales.

Romney, however, wasn't talking about corporate welfare queens. He was talking about the 47 percent of the population that pays no federal income tax.

If the taker economy has less to do with citizens receiving transfer payments and rather more to do with crony capitalism (or "public-private partnership", as boosters like to put it) and a rapidly expanding security state that is more parasitical than protective, then it is not at all clear which major-party presidential candidate is most on the side of the makers. My hunch is that Mr Obama is slightly more corporatist and slightly less militarist than Mr Romney, but that's no more than a hunch. Sadly, I'm confident that the opulence of the imperial seat will only wax, no matter who deals and doles from the west wing.

(Photo credit: AFP)

Dear John (#9)... why the stock market means nothing today

Dear John,

The other day you said in defense of Obama:  “but where is the DOW? Where was it when he took over? This at least has to be considered.”

No it doesn’t.  what we really need to consider is why stocks are so high despite Obama’s self-destructive interventionist policy program.    The reason is simple. 

Low interest rates thanks to the Fed. 

Thanks to QE1, QE2 and now QE3 (also being called QE infinity) plus various other interventions, e.g. TARP and 2 massive rounds of Fed govt stimulus,the Feds (including Fed Reserve and US Federal govt) have “successfully” replaced a historic global real estate bubble, private credit bubble, stock market bubble, commodity and a global bond/US Treasury bubble it created in 2001 to 2008 with another real estate bubble (smaller), another stock bubble, another global commodity bubble and another even bigger Treasury bubble while replacing the private debt bubble with a public debt one.

Some day we will all pay the piper.

There is no such thing as financial markets anymore. The Federal government uses a combination of regulation, GSEs (Fannie and Freddie) and the Federal Reserve to manipulate (at least for the moment) the major stock, bond and asset markets in the US and to a large extent, the world.  This can’t last. 

In one of the great intellectual debates in modern history called "the socialist calculation debate" (also called  "the economic calculation problem"), Ludwig von Mises and FA Hayek turned upside down Carl Marx's dialectical argument about why capitalsim sows the seeds of its own self destruction. 

see wikipedia:  http://en.wikipedia.org/wiki/Economic_calculation_problem

  

Mises and Hayek together provided a compelling (and i would say definitive) argument why central planning / socialist systems (eg USSR) -- and NOT capitalist free market economies -- sow the seeds of their own destruction.  Hayek elaborated on his ideas in his book the Road to Serfdom and showed why even well intended "third-way" systems (like Europes Social welfare democracy or America's Special Interest / Crony Capitalism system) are also ultimately self destructive.  Enlighted Third Way systems slowly, but surely distort and eliminate market signals and replace them with central planning institutions.  This occurs because each round of enlightened intervention aimed at solving some identified "market failure" ends up creating and introducing new "artificial" distortions that lead ineluctably to new "market failures" that are then the focus of additional rounds of enlightened public policy.  And this continues until the government's reach extends further and further into the market crowding out market players and distorting market price signals.

This is exactly where America is today.  The stock market (S&P and the Dow’s) excellent performance since Obama came to office in 2009 has NOTHING to do with Obama or his policies.  One of the huge problems we have today is that the stock market isn’t allowed to discount any policy news no matter how bad its been and is likely to be going forward under Obama because the Fed is flooding the market with easy money and keeping the short term rate at zero percent. 

There is no such thing as zero percent interest rates in a real market.  This is a completely artificial and irrational and unsustainable situation that will only lead to a worse outcome down the road.

As i already said above:  We will pay the piper eventually.  There are no free lunches in life and surely none the Federal government or the Federal Reserve (thanks to money printing) can offer. 

Progressives and conservatives – Dems and GOPers -- are blinded by wishful thinking when they assume their ideas can work because their ideas only work in a fantasy world of free lunches and central bank printing presses facilitating debt accumulation to the moon and back!!!    Both sides pretend they are the fiscally responsible side.  We know the GOP is full of it because it has a history of big deficits.  but we also know the Dems are full of it, even though Clinton succeeded in reducing public debt because the Dems like to ignore the enormous contingent liabilities of the government entailed in entitlement programs that are clearly unsustainable. 

Bottom line:  America is broke any way you slice it thanks to bipartisan overreaching and over spending -- all facilitated by the Fed and bipartisan support for the Fed.   The options we have are bad and worse.  Either we default directly on our public debt or we default indirectly by debasing the dollar.   it looks like we are headed for option #2.

America is a house divided where each mainstream political party argues the other side is going to drive our country over the cliff.  Each sides' increasingly die hard supporters believes they own "the truth."  The fact of the matter is that neither side has the answer or "the truth."  Both sides are driving us off the cliff with lies and wishful thinking.  The progressive Dems pretend they have science on their side giving them a claim to the truth, and conservatives pretend they have a deep understanding of free markets on their side as their claim to the truth. 

The free market has its own logic and truth that isn't owned by either progressive or conservatives.   we think of progressives and conservaties as opposite sides of the political spectrum, but along one fundamentally important dimension they are identical:  both need and embrace an artificial central bank money printing press to implement their vision.

Whatever looks rosy today will  look like a nightmare when interest rates “normalize” some day in the future.  We are kicking the can down the road for ourselves and our children.  Consider this article i copied below arguing why stocks are over-valued: stock prices today have everything to do with low rates.

The Fed replaced a massive unprecedented credit and real estate bubble with an EPIC unprecedented Treasury bond market bubble plus another big stock market bubble and another real estate bubble.   this doesn’t end well.

John, you’ve often argued that my ideas are too abstract, ideological and impractical to be of any use in the "real" world. 

Someday, we will see that the exact opposite is true.  Ideas have consequences.  And some day we will see the destructive consequences of bipartisan political support for the Federal Reserve printing press.  Defenders of the Fed claim that a market can’t work without a central bank as proven by the harsh volatility of econmoic business cycles (called panics) in the 1800’s.   Such "conventional wisdom" is revisionist history and it is plain wrong.  What history has taught us if we would open our eyes for a minute or two is that the establishment of the Fed has facilitated a century of unprecedented war and economic destruction like we’ve never seen in the history of the world. 

We had panics in the 1800s and we had a few wars.  But, we also had the most peaceful and productive and wealth creating period in the history of the world in the 19th century.  all with small government and no Federal Reserve.   

In the 20^th century we had 2 world wars, a Great Depression, the Vietnam War, the Iraq War 1 and 2, the war in Afghanistan, the Great inflation of the 1970s and now the Great global credit crunch and Recession of 2009 – which ain’t over yet!  by any stretch of the imagination. 

The market will continue to be under attack going forward as it inevtiably “fails” again thanks to additional rounds of well intended government interventions implemented in the wake of the 2008 Lehman collapse.  This is the Road to Serfdom that FA Hayek warned about.

We are failing the market.  

Nature entails great natural disasters resulting in human suffering, like earthquakes and hurricanes and droughts.  The economy also entails similar "natural disasters" like temporary booms and busts, business cycles, bankruptcy, income inequality, industrial accidents, etc. 

But, such economic natural disasters never resulted in what we now call systemic risk until the Federal Reserve was established in 1913. 

Only humans when they are organized in powerful government central planning organizations have the capacity to destroy the world.  we pretend that only government can solve market failures when in fact the truth is the opposite:  government cannot solve market failures without also triggering a cascading of unintended consequences that end up causing more social harm than good.  On the other hand, a powerful central govenrment can inject systemic risk into the economy and/or financial markets that couldn't otherwise develop in a "free economy."    Free market doesn't mean anything goes or selfishness rules.  it means that we understand a central govenrmetn cannot guarantee certain social outcomes without undermining the natural ability of markets to improve social welfare.    Free markets channel self interested behavior into socially productive ends.  Selfishness is NOT a natural feature of markets.  Self interest is NOT selfishness.  Selfishness and greed and other anti-social behaviors manifest most when the government intervenes to try to make markets better, such as when the central bank prints money.  money printing is what drives self interest into the abnormal behavior range of selfishness and greed.  When the central bank prints money, (like it is doing now as reflected in ultra low interest rates) this turns savers into suckers!!

Central government intervention tends to crowd out natural local cooperation in times of need and crisis.  By trying to fix so called market failures, the government prevents us from learning how to adjust to and adapt to what are really just natural features of markets.   

the government creates the necessary conditions for systemic failure in society and then it claims it is the only entity that can save society from the very horrors it created in the first place.  this is the history of the Federal Reserve Bank.

Democracy is a false god.  we need rule by law and equal treatment under the law.  we do not need rule by special interests and money politics and/or tyranny of the 51% over the 49%.

we need a system that accomodates people's right and freedom to agree to disagree.  we don't need a system where there is an assumption that society can come to agreement over what is the truth or what is fair or what is equal or what is decided to be social justice.  Implementing progressive ideals like equality, justice, fairness, level playing fields, equal opportunity necessarily requires and results in an inherently self destructive process of ends-justifies-the-means logic.  Progressives say they want to eliminate might makes right from society and they want to eliminate cynical ends justify the means behavior.  they pretend that these sins are a result of the so called "free market."  in fact, the opposite is true.

the free market requires mutual acceptance which is the opposite of might makes right.  the market requires if a company gets big and enjoys market dominance, it won't stay that way for long if it doesn't keep offering a good deal to its customers.  progressives worry about evil monopolies taking advantage of consumers in the market.  in reality, large firms can only get large or stay large if they meet the needs of customers who are able to pick and choose between other suppliers.  

ironically, the only truly sustainable monopoly is a government monopoly enforced by brute force of the state and financed by the bottomless pockets of tax payers.  private sector monopolies can't survive without the assistance of the state as enforcer because there is always an entrepreneur ready, willing and able to offer a better deal for consumers than offered by the entity attempting to enjoy so called monopoly power in the market. 

too big to fail banks were not a natural creation of the so called "market."  too big to fail banks were created, like Frankenstein, by Federal Reserve bailouts and its lender of last resort function which resulted in the opposite of natural selection of the most adaptive and successful banks surviving and the weakest banks being weeded out.  instead, the Fed and Federal govt have promoted policies that have resulted in "adverse selection" where the most aggressive and least risk averse banks got bigger and bigger. 
.
ironically, it is through anti-trust laws that many private companies win an advantage over a business rival that they wouldn't otherwise be able to achieve without state intervention.  anti trust doesn't promote competition and level playing fields, it promotes special interest politics aimed at creating market advantage for politically connected companies.  

why are progressives afraid of monopolies in the market -- where they cannot survive except with a powerful state protector-- yet they promote and support monopolies when they are controlled by the state for example in monetary policy, primary education, regular mail, infrastructure building and soon in health care.  if we look at the record of government monopolies, the record is one of failure, low quality/productivity and eventually of bankruptcy and/or chronic deficits.  

Wake up America!     

Not Under-Valued

September 20, 2012  | 7 commentsby: John Early  |  about: SPY

Have you noticed that, over the last four years, Treasury yields have tended to go up when the stock market goes up? For most of the last 50 years interest rates and stock prices moved in opposite directions. Those who claim that the stock market is cheap because Treasury yields are so low may not have caught on to this change and thus don't realize the market (SPY) may be 73% over-valued and headed for a fall.
From 1965 to mid 2008 the 10-year Treasury yielded more than 5.5% and had an inverse correlation with stock market valuation, i.e. higher yields meant lower valuation. However, looking at a broader history the correlation flips to positive when the yield has been below 5.5%. The highest stock market valuation tends to come with a yield of about 5.5%. History suggests the near record low yields should come with near record low valuation. In other words, the risk premium for stocks declines as the 10-year Treasury yield falls toward 5.5%, but then rises as the yield falls below 5.5%. With the 10-year yield down around 1.8% the risk premium should be near an all time high.




chart1
to see chart go to original article:  http://seekingalpha.com/article/877791-low-interest-rates-mean-stocks-are-over-valued-not-under-valued?source=email_macro_view&ifp=0

In the scatterplot above, each dot represents a month and shows the month's PEses on the horizontal scale and what the 10-year Treasury yield was on the vertical scale. The current PEses is 37.4. The best fit line (red) suggests a 10-year Treasury yield of 1.78 should have a PEses of 10 - thus suggesting the stock market is 73% over-valued.
For more info on PEse, see here.
If you use Shiller's PE10 the best fit line suggests the PE10 should be at 10 rather than 21.9, representing a 54% over-valuation.


chart2
to see chart go to original article:  http://seekingalpha.com/article/877791-low-interest-rates-mean-stocks-are-over-valued-not-under-valued?source=email_macro_view&ifp=0

If you use a standard PE with the last 12 months of available "as reported" earnings, the PE is 16.4 while the best fit line suggests it should be 11 - thus indicating the market is over-valued by a third.


chart3
to see chart go to original article:  http://seekingalpha.com/article/877791-low-interest-rates-mean-stocks-are-over-valued-not-under-valued?source=email_macro_view&ifp=0

There is not enough "operating" earnings history to estimate a best fit line.
In the three charts above the more accurate the historical correlation, the greater the suggested over-valuation. The best fit line between the PEses and the 10 year yield has an R-squared of 0.57. The best fit line for the PE10 has a respectable R-squared of 0.46. The R-squared for the PE is a poor 0.08, so the degree of overvaluation is likely closer to the 73%.
Just because the stock market is over-valued does not mean it could not go up and become more over-valued in the next few days or weeks, but it does suggest that the risk is great and the downside dwarfs the upside.

All the pundits I have heard who claim the stock market is dramatically under-valued base the claim on low interest rates. The charts above suggest these claims are a bit like Wylie Coyote running off the cliff, and not falling until he reaches down and finds there is no support. The stock market has run off the cliff and thinks interest rates are right under its feet. Sometime soon it will look down to see they are actually way down in the valley.

China's Lesson for The United States

Patrick Chovanec is one of my favorite China analysts (along with Michael Pettis).  He has worked as chief of staff for John Boehner in Washington DC and has also worked in the financial industry (private equity in the US and China).  He is currently a professor of finance at Tsinghua Univ. in Beijing.  I’ve met him many times on my trips to Beijing and I think very highly of him.  Following is the original version of his op/ed in today’s Wall Street Journal.  The paragraph I've put in bold was cut out of the version that finally printed in the paper due to space constraints. 

The article highlights the flawed logic in the China bulls who argued the Beijing model would supplant the Washington consensus model that prevailed until the global credit crisis of 2008.

it should be noted that Obamanomics embraces some fundamental concepts underlying the Beijing model, that puts government in a co-leadership role with private enterprise.  The “you didn’t build that” quote highlights Obama’s view (reinforced in his recent convention speech) that the federal government must play a decisive role in shaping our economic future.  As Chovanec's editorial points out in his editorial, the Chinese model is one that superficially seemed to be robust, but that we are increasingly seeing as fundamentally bankrupt, like the government subsidized green energy sector in China.

Government may lead a superficially successful economic boom as we’ve seen many times in history before including with Japan in the 1980’s.   Japan’s stock market capitalization briefly exceeded the US market cap and (according to mainstream press and culture) Japan was supposed to dominate the 21^st Century global economy. 

"We" needed an industrial policy like Japan to compete!!!  right?!! 

A funny thing happened on the way to Japan's world dominance.  Reagan offered a alternate model, whereby the private sector not government was the "answer."  and then Japan’s stock and property bubble burst in 1989;  the economy has been on a downward spiral ever since.  The European Social Welfare model was also supposed to supersede American Cowboy capitalism, but we are seeing the fundamental flaws in that model.  And finally we have China, finally bumping up against the limitations of Socialism with Chinese Characteristics which after the 2008 crisis and the relative success of the country in avoiding the global downturn looked like the new economic model for the rest of the world to adopt.

In fact, China’s economy is not a model to emulate.  Nor for that matter is the current US model.  The US model is often described in as cowboy capitalism or free market capitalism or l’aissez faire capitalism.  This is a misleading characterization. 

The US model is no where near a de-regulated, free market free for all.  in fact, it has turned into the epitome of what is called Corporatism or Crony Capitalism as described by Charles G. Koch in the editorial he wrote on 9-10-12 WSJ titled Corporate Cronyism harms America.  A fabulous book review on the book Twilight Of the Left by Fred Siegel published 9-11-12 in the WSJ echoes many of the same themes:  don’t be seduced by government promises.   Don't close your heart to the needy and to social problems.  Act locally.  volunteer your time and help a neighbor.  But, don't expect the government to solve social or economic problems by raising taxes or issuing new regulations or implementing a new scheme aimed at controlling the economy via central planning institutions like the Federal Reserve.

The government can support industry and it must enforce a rule by law based system that punishes illegal behavior and activities.  But the government should avoid excessive and narrow regulation regimes and any sort of subsidy scheme (however narrow or wide) because all of these are easily co-opted by big business for their own selfish uses.  We American’s should avoid the seductive answer for society’s problems in more government. 

Central government planning and execution and marshalling of national resources is NOT the answer to our personal or social moral problems nor is it the answer to our economic or environmental sustainability challenges.  The solutions to the unknown and emerging problems in the future that we can only guess at now will come from private individuals and private enterprise looking to solve problems for a profit.  profit is not evil per se.  profit can be evil if it is pursued at all costs.  but getting rid of profit does not solve any problem and it introduces many new ones.  life is full of institutions that are both good and evil.  We should not get rid of institutions that are part evil because we also get rid of the good. 

The road to hell is paved with well intended government policies and programs that promise to actively shape the world into a “new” and more enlightened model of human society/economy. 

Third way economic and social models have all “failed” as we saw with Japan since the 1990s and as we are seeing play out now with the Eurozone, and that will increasingly be evident as China struggles in the months and years to come – all the result of what appeared to be enlightened industrial and social planning that went (predictably) off the rails as it drained valuable resources from the private economy and were instead redirected by a well intended government aiming to improve upon what is assumed to be a free market that cannot be left alone. 

The US model is another third way model that has been more successful than other third way experiments, but it is also headed toward failure.

Every experiment in third way economics and social engineering ends with what FA Hayek called the road to serfdom dialectic, that is a process whereby well intended government policy sows the seeds for negative unintended consequences that beg and require additional well intended government policies such that the government is stuck in a never ending cycle of fixing the negative unintended consequences of well intended policy that ends up creating more problems than it solves.  

 The paradigmatic example of well intended government central planning gone awry is the Federal Reserve Bank, established in 1913.  We had a number of panics in the late 1800s and early 1900s that the government promised could be solved if we established a lender of last resort central bank.  What followed in the 1920s was a period of booming growth and asset markets unprecedented in world history called the Roaring 20’s thanks to the Federal Reserves concentrated effort to reduce short term interest rates.  for a while it not only looked like the Fed could eliminate panics, it looked like it could facilitate a sustainable boom.

Why did the Fed keep interest rates so low in the 1920s?  England was suffering from post WWI recession and so the Bank of England begged the Fed to keep rates low so that gold would not flow out of England and into the US, thus causing England even greater economic hardship.   The Fed complied by injecting liquidty into US markets which lowered rates in the US -- and in turn facilitated the roaring 20s, followed by the Great Depression.

What was the mainstream conclusion from this disastrous experiment in central planning monetary policy?  the conclusion was only that the Fed didn’t intervene properly AFTER the 1929 crash.  only Austrians bemoaned the Fed’s role in blowing up the credit and asset and growth bubble in the 1920s as a result of overly accommodative policy (which they could get away with because the US economy was in the middle of a historic productivity boom thanks to the introduction of electricity to the industrial economy).  all things equal the US economy should have experienced natural and beneficial DEFLATION in the 20s as productivity boomed and the general price level declined .

Today modern technology markets operate within an environment of secular deflation – prices going down, down, down yet with profits going up up up such that Apple has the highest market cap of any US company.  Technology companies deliver more for less.  Conventional wisdom suggests that consumers will always wait for prices to go down further before buying, but we all know that is utter rubbish. 

A pernicious deflationary spiral ONLY happens and "bad" deflation is set in motion AFTER the central bank knowingly or unknowingly blows up a credit bubble via easy money as happened in the 1920s and as happened again in America in 2000s thanks to a productivity bubble in China that echoed the one in the US in the 1920s.   Naturally good deflationary forces in China allowed policy makers in the US and China to keep monetary policy lower for much longer than other wise would have been possible in "normal" times.

Bad deflation is self reinforcing when deleveraging creates a self reinforcing deleveraging cycle that leads to depression.  There is no path to Depression nor to systemic failure in financial markets or in the larger economy without a central bank creating false signals to the “market.”  Central banks also create private institutions that end up being "too big to fail"  because the biggest banks tend to be bailed out during periods of stress and they thus get bigger and bigger and bigger – much bigger than they could without the central bank back stop.

Concentration in financial industry has INCREASED since 2008!!!   what is the answer?  more regulations.

The result we have now is that we have systemically large companies that have gotten that way thanks to well intended public policy aimed at fixing so called market failure.  Fixing market failure with third-way policies (by third way I mean in between what everyone recognizes is impractical … either communism or unfettered “free markets.”  My argument is that such third way “experiments” only appear to work "temporarily" – the problem is that these "temporary" periods can go on for decades such that it appears as if the third way policy is sustainable. When the third-way system "fails" it is the market that gets erroneously blamed.  no one wants to blame the third way system.  It is always that we need to do a better job designing the system.  it is never that the third way is self destructive BY ITS VERY NATURE.    ALL third way systems are doomed to failure because third way systems always sow the seeds of their own destruction. 

Marx had it upsdie down:  it isn't the market that sows the seeds of its own destruction:  it is socialism which does.  history has shown this over and over and over again.  yet politicians want us to believe their next system will be "the one."

The beauty of markets is that they are imperfect.  They follow a process of micro creative destruction where firms and businesses go bust, but the system itself remains robust precisely because of the micro level uncertainty and learning by failure that is allowed to unfold in a rule-based, market based system.

Micro instability leads to macro sustainability and stability.  If we use public policy to enject outcomes into the economy what we do is we undermine the abilty of markets to channel negative micro into positive macro results.  

We don't get to fix the micro features we don't like, e.g. inequality, business cycles, asset bubbles, industrial accidents, and also enjoy the macro benefits of markets.   What if success is only possible via failure?  if we try to eliminate micro level failure (via subsidies for education and green energy and infrastructure and financial sector, etc), we also eliminate any chance for macro "success."

In our system, we don’t want to let anything fail.  we don’t like business cycles or pollution or uneven opportunities or big companies appearing to dominate the market.  and we like government subsidies for things we think the market doesn’t give us enough of, like education, housing, health insurance, financial stability, deposit insurance, infrastructure, regulations, clean air, higher gas mileage, space exploration, military might, etc, etc, etc.  Subsidies are a recipe for disaster.  And the US has become a toxic combination of Crony Capitalism and Subsidy Capitalism based on the proliferation of subsidies doled out by government agents to preferred special interests. 

Obama’s plan for the US is to expand and improve our subsidy system such that we are promised a better economy and better society.  Why do we believe in free lunch promises like this?  Romney talks the talk of smaller government and letting the private sector lead the way, but does he have the political capital and the leadership vision and abiltiy to take on vested interests in the GOP itself??  

The American Subsidy Economy is a bi partisan scourge.  Neither side wants to give up the goodies.  the GOP demonized OBama for talking about government led initiatives like Obamacare, but the GOP itself is part of the problem supporting tax breaks for business offering health insurance and for interest expense.  The GOP MUST face down subsidy interests or all the rhetoric demonizing Obama for being a socialist is pure hypocrisy.  

China's Solyndra Economy

Government subsidies to green energy and high-speed rail have led to mounting losses and costly bailouts. This is not a road the U.S. should travel.

By PATRICK CHOVANEC

On Aug. 3, the owner of Chengxing Solar Company leapt from the sixth floor of his office building in Jinhua, China. Li Fei killed himself after his company was unable to repay a $3 million bank loan it had guaranteed for another Chinese solar company that defaulted. One local financial newspaper called Li's suicide "a sign of the imminent collapse facing the Chinese photovoltaic industry" due to overcapacity and mounting debts.

President Barack Obama has held up China's investments in green energy and high-speed rail as examples of the kind of state-led industrial policy that America should be emulating. The real lesson is precisely the opposite. State subsidies have spawned dozens of Chinese Solyndras that are now on the verge of collapse.

Unveiled in 2010, Beijing's 12th Five-Year Plan identified solar and wind power and electric automobiles as "strategic emerging industries" that would receive substantial state support. Investors piled into the favored sectors, confident the government's backing would guarantee success. Barely two years later, all three industries are in dire straits.

This summer, the NYSE-listed LDK Solar, the world's second largest polysilicon solar wafer producer, defaulted on $95 million owed to over 20 suppliers. The company lost $589 million in the fourth quarter of 2011 and another $185 million in the first quarter of 2012, and has shed nearly 10,000 jobs. The government in LDK's home province of Jiangxi scrambled to pledge $315 million in public bailout funds, terrified that any further defaults could pull down hundreds of local companies.

Meanwhile another NYSE-listed Chinese solar company, Suntech, revealed on July 30 that the German government bonds an affiliate pledged as security for a $689 million bank loan it guaranteed never existed. Suntech, the world’s largest producer of solar panels, claims it was the victim of fraud. Considering Suntech already owed $3.6 billion (for a debt-asset ratio of 82%), and lost $149 million in the fourth quarter of 2011 and $133 million in the first quarter of 2012, many analysts believe the company could go bankrupt without a sizable government bailout.

Chinese solar companies blame many of their woes on the antidumping tariffs recently imposed by the U.S. and Europe. The real problem, however, is rampant overinvestment driven largely by subsidies. Since 2010, the price of polysilicon wafers used to make solar cells has dropped 73%, according to Maxim Group, while the price of solar cells has fallen 68% and the price of solar modules 57%. At these prices, even low-cost Chinese producers are finding it impossible to break even.

Wind power is seeing similar overcapacity. China's top wind turbine manufacturers, Goldwind and Sinovel, saw their earnings plummet by 83% and 96% respectively in the first half of 2012, year-on-year. Domestic wind farm operators Huaneng and Datang saw profits plunge 63% and 76%, respectively, due to low capacity utilization. China's national electricity regulator, SERC, reported that 53% of the wind power generated in Inner Mongolia province in the first half of this year was wasted. One analyst told China Securities Journal that "40-50% of wind power projects are left idle," with many not even connected to the grid.

A few years ago, Shenzhen-based BYD (short for "Build Your Dreams") was a media darling that brought in Warren Buffett as an investor. It was going to make China the dominant player in electric automobiles. Despite gorging on green energy subsidies, BYD sold barely 8,000 hybrids and 400 fully electric cars last year, while hemorrhaging cash on an ill-fated solar venture. Company profits for the first half of 2012 plunged 94% year-on-year.

China's high-speed rail ambitions put the Ministry of Railways so deeply in debt that by the end of last year it was forced to halt all construction and ask Beijing for a $126 billion bailout. Central authorities agreed to give it $31.5 billion to pay its state-owned suppliers and avoid an outright default, and had to issue a blanket guarantee on its bonds to help it raise more. While a handful of high-traffic lines, such as the Shanghai-Beijing route, have some prospect of breaking even, Prof. Zhao Jian of Beijing Jiaotong University compared the rest of the network to "a 160-story luxury hotel where only 11 stories are used and the occupancy rate of those floors is below 50%."

China's Railway Ministry racked up $1.4 billion in losses for the first six months of this year, and an internal audit has uncovered dangerous defects due to lax construction on 12 new lines, which will have to be repaired at the cost of billions more. Minister Liu Zhijun, the architect of China's high-speed rail system, was fired in February 2011 and will soon be prosecuted on corruption charges that reportedly include embezzling some $120 million. One of his lieutenants, the deputy chief engineer, is alleged to have funneled $2.8 billion into an offshore bank account.

Many in Washington have developed a serious case of China-envy, seeing it as an exemplar of how to run an economy. In fact, Beijing's mandarins are no better at picking winners, and just as prone to blow money on boondoggles, as their Beltway counterparts.

In his State of the Union address earlier this year, President Obama declared, "I will not cede the wind or solar or battery industry to China . . . because we refuse to make the same commitment here." Given what's really happening in China, he may want to think again.