Leithner Letter No. 46
26 July 2003

Forget the palaver about jobs being a “lagging indicator.” As a matter of fact, they’re a very good indicator of the real vibrancy of a recovery. And the widening hole in jobs during the current improvement is a disturbing anomaly, not least because it says something is fundamentally different with this recovery and the present economy. What’s different, we fear, is that we’re in a post-bubble recovery in a post-bubble economy, where the old nostrums are much less effective and the old prognoses much less reliable.

Alan Abelson
Up & Down Wall Street
Barron’s (8 September 2003)

Even if it were desirable, America is not strong enough to police the world by military force. If that attempt is made, the blessings of liberty will be replaced by tyranny and coercion at home. Our Christian ideals cannot be exported to other lands by dollars and guns. Persuasion and example are the methods taught by the Carpenter of Nazareth, and if we believe in Christianity we should try to advance our ideals by his methods. We cannot practice might and force abroad and retain freedom at home. We cannot talk world cooperation and practice power politics.

Congressman Howard H. Buffett
(Republican, Nebraska)
The Congressional Record, 1947, p. 2216

They Call This Recovery?

Harold Wilson (1916-1995), British prime minister from 1964 to 1970 and from 1974 to 1976, observed at the height of the sterling crisis of 1964 that “a week is a long time in politics.” If so, then a single day is presently a long time in economics and finance. On 31 July 2003, for example, Associated Press reported that “the U.S. economy, lifted by consumer and business spending, broke out of the doldrums and grew at an annual rate of 2.4% in the second quarter of 2003, the strongest showing in nearly a year.” A batch of economic statistics released on 30 July] reinforced “the hope that the nation’s economy, shedding war and other uncertainties that had bogged it down earlier, would gain more traction in the second half of this year. ‘The economy truly does look to be on the mend,’ said Joel Naroff, president of Naroff Economic Advisors. ‘With investment coming back, the signs seem to be there for a significant rebound in growth going forward.’”

Yet the next day, 1 August, Reuters stated that “stocks fell [yesterday] after reports showed U.S. companies were still slashing jobs and the manufacturing sector had not picked up as much as some investors had anticipated, casting doubt on the economic recovery.” Yet another consignment of economic figures “reported that the U.S. unemployment rate fell for the first time in a year in July, but companies slashed workers from their payrolls for a sixth straight month.” The Institute for Supply Management’s survey of the U.S. manufacturing sector also soured that day’s mood on Wall Street. “The July reading, while in line with analysts’ estimates, disappointed investors, who had hoped the survey would show a stronger pickup in the factory sector, market experts said. ‘I do think the economy is recovering but ... I think a lot of traders are thinking it may not be recovering as fast as we were all hoping,’ said Peter Dunay, chief market strategist and options specialist at brokerage Wall Street Access.”

Moreover, according to CNN (31 July) “most of the second-quarter increase in GDP was due to a 3.3% pace in the growth of consumer spending. ... Also supporting GDP growth was a 25.1% gain in the pace of federal government spending, the biggest gain since 30.3% in the first quarter of 1967. That spending growth was mostly due to a 44.1% jump in defence spending, the biggest gain since 1951. The defence spending was concentrated on prosecuting the U.S.-led war with Iraq.”

Indeed, according to the Center for Effective Government (formerly OMB Watch), if one removes the effect of the tsunami of military expenditure, then the size of America’s economic pie increased at an annualised rate of only 0.7%. Most of the recent so-called growth in the U.S. is growth of government, not growth of real wealth. Taking into consideration the huge and growing amount of government expenditure, which simply adds to the burden of debt, America’s economic pie is increasing more slowly than its population. On a per capita basis, in other words, Americans are presently becoming poorer not richer – which is probably news to nobody except economists and politicians.

And so it also goes in Australia. On the one hand, since the late 1990s government ministers and a cheer squad of economic commentators have increasingly regarded God’s Own Country as the world’s miracle economy. Australians, it is said, have enjoyed a decade of “low-inflation growth” based upon strong advances in the productivity of labour. They also weathered the Asian currency crisis of 1997, the bust of the Internet boom, the introduction of a Goods and Services Tax by the high-taxing, high-spending and interventionist Howard government – and, for good measure, the worst drought since 1901-1902. Hence the good cheer: figures released on 11 September indicated that the rate of joblessness decreased dramatically in August to 5.8% – the first time in thirteen years that unemployment has dropped below 6%. Further, the latest Westpac-Melbourne Institute found that rising house prices and “signs of an economic recovery overseas” have pushed consumer confidence to nine-year highs; and across the land the demand for consumer credit and the market prices of residential real estate, defying the warnings of the Reserve Bank (who, like a pyromaniac fireman, is the principal progenitor of this country’s monetary profligacy), have skyrocketed.

So too, it seems, have the spirits of participants in the stock market. According to Brisbane’s The Courier-Mail (9 August), “the Australian Investors Association has forecast the value [sic] of Australian shares to rise significantly in coming months. This is based on a survey of financial planners and their clients showing record levels of bullish sentiment.” The survey finds that 72% of advisers and 54% of their clients are upbeat and believe that things will get even better. Only 4.1% of clients and 1.8% of advisers are bearish. (Plus ça change, plus c’est le même chose. When virtually everybody lines up on one side of an argument, it is instructive to think contrarian thoughts and explore contrarian options.

On the other hand, the Australian economic pie, as the mainstream measures it, grew by only one-tenth of 1% during the June quarter and by barely 2% during the 2002-2003 financial year – the second-weakest pace of growth since the recession of the early 1990s. Further, the country’s ability to finance its imports with its exports stands at a near-record low, and its reliance upon foreign capital to finance current consumption is approaching a record high. Hence, in the words of The Australian (2 September), “only a debt-fuelled spending spree [has] countered the ravages of drought and a weak international environment.” For the third quarter in succession Australian households’ expenditures have exceeded their revenues. The rate of household savings is presently minus 1.3%. Whilst measured roughly, the proclivity to save has been falling briskly for five years (in tandem with the increase in debt-financed expenditure) and is now probably lower than at any time since the Great Depression. As a result, the balance sheets of many Australian households are weak and weakening.

As Winston Churchill might have said, some economy and some miracle. Alan Wood, The Australian’s economics editor, ruminated on 2 September that “we might not know when it will happen, but sooner or later a recession is inevitable, and the impact on highly leveraged household balance sheets is likely to make it a lot worse than it otherwise would be” (see also his column in the 6-7 September edition of The Weekend Australian).

Perhaps We’re Not in Kansas Anymore, Dorothy

The Chart of the Day (31 July 2003) puts America’s much-desired recovery – if that is what it is – into a revealing fifty-year context. During the latter half of the twentieth century, the end of a recession (as defined and demarcated by the National Bureau of Economic Research) has typically coincided with a burst of industrial production. Between 1954 and 2000, during the final six months of a recession industrial production fell by an average of 3.8%; and during the subsequent two years of recovery it increased, on average, by 14%. Accordingly, during the entire 30-month period production increased by an average of 9.6%.

The final six months of the 1991-1993 recession were very similar to the 1954-2000 norm, but its recovery was relatively anaemic: during the ensuing two years, industrial production increased by only 7.3%. The final six months of the 2001-2002 recession also conformed to the historical script, but the aftermath certainly does not: the current “recovery” has generated virtually none of the industrial expansion normally associated with a post-recession economy. More generally, in terms of the growth of the economic pie, Americans are enduring the weakest aftermath of recession since the late 1930s.

Chart 1

The Chart of the Day (6 August 2003) depicts America’s jobless recovery. During the second half of the twentieth century, when a recession ended non-farm payrolls typically increased such that 24 months later there were 5.5% more jobs. This is illustrated by the dashed line representing the average growth of jobs for all economic recoveries between 1954 and 2000. The 1991-1993 recession conforms to a similar but much more feeble pattern. Alas, today’s “recovery” (the solid line) has not generated the growth of employment that is normally associated with a rebounding economy. Indeed, not only has it generated no net employment: figures released on 5 September indicate that job shedding in America continues at an unabated and perhaps even accelerating pace. From the point of view of employees who fear for their jobs and aspiring employees who fear that they will not soon find another, in other words, this is not a recovery. Quite the contrary: it is clearly a lengthy recession. (A similar point can be made for fixed investment by business. For details, see the International Monetary Fund’s Country Report No. 03/244.)

Chart 2

The Wall Street Journal (5 September 2003) reported that “[today’s] unemployment numbers from the Labour Department. ... came as a surprise: non-farm payrolls declined by 93,000 in August, the steepest cuts in five months and the stuff of double-takes for economists surveyed by Dow Jones Newswires and CNBC. After all, they’d been banking on a gain of 12,000 jobs. ... The job cuts were broad-based: the manufacturing sector shed 44,000 jobs in August and has lost about 2.7 million jobs over the last three years; the service sector cut 67,000 jobs; and the professional and business-services sector cut 28,000 jobs – the first decline in five months. Total job cuts since the start of the year? 431,000. And yet the economy, by most measures, is rebounding nicely: It grew at a 3.1% annual rate in the second quarter and is expected to grow at a clip of at least 5% in the current quarter. ... [Hence] the strange spectacle of a ‘jobless recovery’ – one in which analysts and investors alike can’t ever be quite sure what the next report will bring.”

Keynesian Gizzard-Squeezers

What conclusions to draw from this daily deluge of economic statistics? First, perhaps because few market participants, politicians and economists understand why business boomed in the late 1990s and why economic conditions ceased to boom – and the prices of so many equities slumped – in 2000, and also because they adhere to a very crude form of Keynesianism in which the pull of a policy lever by a politician or bureaucrat produces a corresponding and desired change in the real world, they assume (conveniently forgetting the slump of the early 1970s) that today’s recovery will unfold much like its predecessors. Accordingly, they do not understand what a genuine recovery presupposes. (The report of Morgan Stanley’s Joachim Fels, dated 27 August and entitled Global Bubble Trouble, is an exception.)

Alan Wood presciently stated in The Australian (22 January 2002) that “the economists forecasting this recovery are the same ones who failed to see the recession coming and failed to understand the nature and extent of the bubble that preceded it. Stock markets are still overvalued and the impact of the bursting bubble is still working its way through corporate America.”

Alan Abelson (Barron’s, 19 February 2001) was even more perceptive – and emphatic. “It’s not at all clear ... that priming the pump like mad and slashing interest rates will quite do the trick against a downturn that’s rooted in huge overcapacity brought on by a reckless capital-spending boom and a vastly overleveraged economy. None of us has been witness to the strange and more than a little unnerving sight of the Fed pushing on a string, but stick around and keep your eyes open. ... As for the technical signs that lead these seers to the bullish path, we won’t quarrel; they certainly know more about such things than we do. But we don’t think all the indicators in the world are as important as the simple fact that we’ve had a market that has battened on at least five years of unbelievable, almost unimaginable excess, an excess it’s going to take more than nine months and a partial wipeout of Nasdaq to get rid of. What’s happened so far, we’d call a start. And, besides, what kind of a bear market would it be if it didn’t devour some of its own?”

A second conclusion to draw from the constant effusion of economic statistics is that the ability of economists, whether they are employed by governments, universities or the private sector, and whatever their diligence and intelligence, to forecast the pace and composition of economic activity is at best questionable. Sensible investors therefore pay no attention to macroeconomic predictions. During his tenure at Fidelity’s Magellan Fund, for example, Peter Lynch ignored economic and market forecasters. In his words, they “can’t predict markets with any useful consistency, any more than gizzard squeezers could tell the Roman Emperors when the Huns would attack.”

At the beginning of each year he devoted just a few minutes to economic analysis and another handful to market analysis. In an interview with the American PBS he said, “if you spend 13 minutes a year on economics, you have wasted 10 minutes. What is important to know about the stock market is, it goes up and it goes down.” But surely somebody as successful as Lynch must know better than most what lies ahead? He stated repeatedly that he does not – and neither do any of the legions of “experts.” Hence one of his rules of investing is that it is pointless to either make or consider predictions about the economy, interest rates and markets.

What, then, according to Lynch, should concern investors? “Well, they should think about what’s actually happening. If you own auto stocks you ought to be very interested in used car prices. If you own aluminium companies you ought to be interested in what’s happened to inventories of aluminium. If your stocks are hotels, you ought to be interested in how many people are building hotels. These are facts. People talk about what’s going to happen in the future, that the average recession lasts 2 years or who knows?. ... [But] I deal in facts, not forecasting the future. [Prophesy] is crystal ball stuff. It doesn’t work. Futile.”

Given this disconcerting inability, intelligent investors thus keep firmly in mind two seemingly-flippant but nonetheless very important laws of economics. The first is that, for every economist, there is an equal and opposite economist. The second law is that both economists are likely to be wrong. In the words of Philip Fisher: “I believe that the economics which deals with forecasting business trends may be considered to be about as far along as was the science of chemistry during the Middle Ages. The amount of mental effort the financial community puts into this constant attempt to guess the economic future makes one wonder what might have been accomplished if only a fraction of such mental effort had been applied to something with a better chance of proving useful.”

Meet Warren Buffett’s Daddy

The principles and ideals that once made America a noble country – and whose absence now bedevils and bastardises its economics and politics – would be an excellent place to start. According to his official Congressional biography, Howard Homan Buffett was a Congressman from Nebraska. He was born at Omaha on 13 August 1903, attended local public schools and graduated from the University of Nebraska at Lincoln in 1925. For the next fifteen years, Buffett “engaged in the investment business” and from 1939 to 1942 was a member of the Omaha Board of Education. He was elected as a Republican to the Seventy-eighth, Seventy-ninth and Eightieth Congresses (3 January 1943-3 January 1949); was an unsuccessful candidate for re-election to the Eighty-first Congress; and was elected to the Eighty-second Congress (3 January 1951-3 January 1953).

Buffett was not a candidate for renomination in 1952, resumed former business pursuits and lived in Omaha until he died on 30 April 1964. Howard Buffett’s Congressional biography omits several salient details. It does not mention, for example, that he was the father of two daughters and a son named Warren Edward Buffett. Nor does it mention that he was one of the most principled (in the sense that his devotion and adherence to the U.S. Constitution was non-negotiable) Congressmen of his era. Least of all does his biography hint that Buffett’s principles and his devotion to them put succeeding generations of politicians to utter shame.

Given the bounds set by the Constitution, Buffett the Elder subjected each piece of legislation to a simple test: “will this add to, or subtract from, human liberty?” Few proposals that crossed his desk did so. Bill Kauffman’s article in the July-August 2003 issue of The American Enterprise, entitled Meet Warren Buffett’s Daddy, helps to tell us why. In so doing it helps to fill one of these important omissions (see also Joseph Stromberg’s Howard Homan Buffett: Old Rightist Extraordinaire).

According to Warren Buffett’s most authoritative biographer (Roger Lowenstein, Buffett: The Making of an American Capitalist Doubleday, 1996, ISBN: 0385484917), Representative Buffett was, like his son, “gentle and sweet-natured.” But unlike the agnostic Warren, devout Howard’s politics were “to the right of God.” When he was first elected to Congress, notes Kauffman, Buffett pledged to prevent President Roosevelt from “fasten[ing] the chains of political servitude around America’s neck.”

During his time in Washington, he “compiled an almost purely libertarian record [by opposing] whatever New Deal alphabet-soup agencies and Fair Deal bureaucracies emerged from the black lagoon of the Potomac. ... Buffett was also a strict isolationist, denouncing NATO, conscription, the Marshall Plan (‘Operation Rathole’), and the incipient Cold War, which he believed would enchain Americans in ‘the shackles of regimentation and coercion ... in the name of stopping communism.’” As an unabashed classical liberal in the American mould, Buffett was a spirited critic of the New Deal and Fair Deal’s centralisation, socialisation and supposition that élite bureaucrats in Washington know better than millions of producers and consumers in the real world.

Fused to Buffett’s reverence of republican institutions and free-market capitalism was his innate anti-militarism and profound hatred of war. He therefore championed the non-interventionist tradition of George Washington, Thomas Jefferson and John Quincy Adams (see also Sheldon Richman’s New Deal Nemesis, Joseph Stromberg’s Mere “Isolationism”: The Foreign Policy of the “Old Right” and Charley Reese’s Let’s Revive An Old Trait). Buffett understood perfectly well what most people today apparently do not. As Charley Reese puts it in an article entitled Great New Book, “government is not a benign institution. It is institutionalised force. ... George Washington likened government to fire – a useful servant but a fearful master.

If you want to remain free, you must always be wary of government, because governments, not private terrorists, are and always have been the greatest threats to liberty and the greatest mass murderers in history. The U.S. government has already killed three times as many innocent people in the war on terror than al-Qaida killed on Sept. 11.” Hence Buffett reportedly said that “I would rather put a fully loaded machine gun in the hands of a delinquent than more opportunities for international destruction in the hands of our State Department.”

Buffett recognised that empire abroad and liberty at home are incompatible, and therefore opposed American meddling and interventionism anytime and anywhere. On 24 March 1944, for example, he denounced the plan of the U.S. Secretary of the Interior to build a $165m oil pipeline in Arabia (which, in 1944 as today, some Americans seemed to regard as a part of the interior of the U.S.). Buffett stated that the scheme “would terminate the inspiring period of America’s history as a great nation not resorting to intercontinental imperialism. This venture would end the influence exercised by the United States as a government not participating in the exploitation of small lands and countries. ... It may be that the American people would rather forego the use of a questionable amount of gasoline at some time in the remote future than follow a foreign policy practically guaranteed to send many of their sons ... to die in faraway places in defence of the trade of Standard Oil or the international dreams of our one-world planners” (see also Lew Rockwell’s What Were They Thinking?).

Buffett also championed the cause of sound money – that is to say, of monetary arrangements based solely upon voluntary contracts. In a speech published in The Commercial and Financial Chronicle (5 June 1948), he said “in a free country the monetary unit rests upon a fixed foundation of gold or silver independent of the ruling politicians” and is “redeemable for a certain weight of gold, at the free option and choice of the holder of paper money.” Further, “the gold standard acted as a silent watchdog to prevent unlimited public spending. Our finances will never be brought in order until Congress is compelled to do so. Making our money redeemable in gold will create this compulsion.” Thomas Jefferson agreed: “the eyes of our citizens are not sufficiently open to the true cause of our distress. They ascribe them to everything but their true cause, the banking system; a system which if it could do good in any form is yet so certain of leading to abuse as to be utterly incompatible with the public safety and prosperity. I sincerely believe that banking establishments are more dangerous than standing armies ... and that the principle of spending money to be paid by posterity, under the name of funding, is but swindling futurity on a large scale.”

Alan Greenspan also once agreed. In the 1960s, well before his rise to prominence, he wrote that “the abandonment of the gold standard made it possible for the welfare statists to use the banking system as a means to an unlimited expansion of credit. ... In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. There is no safe store of value [and] deficit spending is simply a scheme for the ‘hidden’ confiscation of wealth. ... [Gold] stands as a protector of property rights.”Perhaps more than any politician of his generation, and certainly much more than virtually any of his successors, Buffett well understood and deeply appreciated the direct linkage between sound money, liberty and prosperity at home and peace overseas.

Howard Buffett and the “Old Right” of which he was a leading member were vanquished during the early 1950s. Not until the 1970s, when some Americans became disillusioned by the results of Wilsonian (“it is the duty of America to export its values and save the world”) foreign policy, particularly in Vietnam, did the principles that Buffett espoused begin to receive some limited re-evaluation and belated appreciation (see Ronald Radosh, Prophets on the Right: Profiles of Conservative Critics of American Globalism, Simon and Schuster, 1975, ISBN 0671219014; and Justin Raimondo, Reclaiming the American Right: The Lost Legacy of the Conservative Movement, Center for Libertarian Studies, 1993, ISBN 1883959004). But these principles, which once commanded nearly universal allegiance and made America great (in the sense that it was admired by most non-Americans), today remain banished to an obscure corner of the American political spectrum. Harry Truman once quipped that “there is nothing new in the world but the history you do not know.” It is a great pity that, in sharp contrast to the celebrated success of his son, the economics and political ideals of Howard Buffett are a forgotten part of American history.

Chris Leithner


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