Friday, February 11, 2005


The Senate passed a bill today that will move most class action suits out of state courts and into federal courts. This is important because plaintiff lawyers have shopped the state courts. They have found a few that consistently slap businesses with huge monetary defeats. A lawyer friend of mine says this has resulted in the greatest redistribution of wealth in the history of our country. Lawyers have made trillions of dollars while other Americans, rich and poor, have paid out the nose. The price of every product includes a considerable cost to pay the legal fees. It is time for change and the house is expected to pass the bill. Chalk up a win for Bush.

The really big surprise today was the Social Security poll results. Sixty-one percent of young respondents favor private savings accounts. Fifty-eight percent of all citizens under the age of 50 are in favor. Only those over 65 are opposed and even they are slightly for the accounts if the law leaves benefits for 65 and older untouched.

Another interesting number is that 57% of all respondents believe the current program is in a crisis. Ted Kennedy and others are losing the argument that there is not a problem. At one moment, the liberal press or politicians say the wheels are falling off the economy and the next minute they say that the Social Security deficit is not a problem. One economist reports numbers that show that the combination of the budget deficit and the 10 Trillion Dollars of unfunded Social Security promises (I have read 11 Trillion Dollars several other places) adds to more than the value of all the stocks listed on US stock exchanges. Social Security may not be in a crisis but it is in a 10 or 11 Trillion Dollar hole. The youth of America understand that these trillions of dollars must ultimately come out of their pockets. The positive poll numbers give Bush a better than 50/50 chance to get Social Security reform passed.

Bush has proposed a budget that includes cuts in several pet pig projects. There are going to be major fights because democrats nor republicans want to lose pet pigs projects. These are areas that should be cut but the members of congress play a game of I will vote for your pig if you will vote for mine.

Farm subsidies are a good example. The federal government pays the average farmer $33,000 per year in subsidies. Often times, farmers are paid not to grow crops. The result is that the average American pays extra taxes to a farmer not to grow food and then pays other farmers an extra profit for food in shorter supply. Wow! what a government program--higher taxes and higher food prices for the people.

The bad news is the farmer down the street does not get anywhere near $33,000. The huge mega farms get paid millions and the small farmer gets peanuts (or gets paid a thousand bucks or two not to grow peanuts). For years, presidents have tried to cut these subsidies. It will be a tough vote but I would not bet against Bush.

Another likely cut will be in the Amtrak subsidy. For long trips, when an American or an illegal immigrant buys a ticket, tax payers owe another $75.00. If it is important to Tiny Town, USA to have Amtrak service, the town needs to subsidize the tickets not the federal government.
Many other cuts are proposed. Bush will not win 100% of the fights but he is on a roll.

The international situation is very interesting. There are signs that opposition leaders in Iraq want to join in writing the new constitution. Bombs are still exploding but progress is being made. Hints have been dropped on Syria, Iran, North Korea and other nations that harbor terrorist or that are building nuclear bombs; the the Bush doctrine is alive. The movement to rid the world of terrorist is picking up speed. No leader wants his country to be the next Afghanistan or the next Iraq.

Korea has the bomb but is under severe pressure to come to the negotiating table. Korea played the Kerry card and lost. Now it needs to make a deal with the US, China, Russia, South Korea and Japan.

The international situation is important for many reasons. On the economic front, the velocity of money is the big factor. Maybe I should say the velocity of money is the big wild card.

Milton Friedman correctly defined inflation as too much money chasing goods and services. The mathematical formula that captures this concept is Money Supply times the Velocity of money equals Economic Activities times the Price or M*V= Q*P. Solving for P leads to the concept that inflation is a function of the money supply and the speed the money supply changes hands.

The world economy is not suffering from too small a money supply; not in terms of any currency but in particular for US currency. Today's trade deficit numbers show that we bought $57 Billion more goods than we sold during January. The annual figures were the largest ever. America is buying goods and foreigners are buying US treasury securities.

Money supply data from around the world, show that central banks have grown money supplies faster than economic activity (GDP) for the last three or four years. The tremendous liquidity has permitted the value of all assets to be bid up in price. This has been true for stocks, bonds, commodities and real estate. Under normal circumstances, one would expect high inflation after four years of excess money supply. The formula above proves an important point. If M has increased more than Q then V has to be less than P. We know that inflation has been very tame. In fact the PCE deflator was so low last year that the Fed was worried about disinflation. In the past 12 months, the PCED is up by only 1.5%. The velocity of money has to be very low.

This explains a lot. Americans have recently held record amounts in money market and savings accounts. Americans enjoy the highest level of discretionary income to net worth ever. Also the highest net worth ever. This high net worth has come largely from stock, bond and real estate investments. The point is that Americans are not letting lose of money as quickly as they did in the past.

Worldwide there are many more dollars tucked away in mattresses and cookie jars. In an era of uncertainty, it is natural to hang onto a little more cash. Thirty years ago, I advised folks to keep 6 months worth of income liquid. Few ever took my advice and the national statistics have always shown that the average American has nowhere close to 6 months supply. That is until after 9/11. Granted, there are many who have not saved a dime but others have hoarded so much that the average is now 6 months worth of income in savings.

The Federal Reserve Board (FRB) (it is now called the Federal Open Market Committee or FOMC) can easily manipulate the money supply. The velocity of money is determined by the attitudes of all the people in the world who receive US dollars from time to time.

BUSH IS ON A ROLL! As it becomes clear that attacks are not likely, that the world is a safe place, dollars will become more like hot potatoes rather than mattress stuffing. Chances are that Velocity, Prices and Economic activity will all three jump. When prices jump, money becomes hotter still. Who wants to hold onto a hundred dollars if next month it will only buy $99 of goods. I exaggerate to make the point.

After 25 years of declining interest rates, the secular bull market in bonds may be close to the end. A bear market in bonds will not be an easy market for stock investors. However, BUSH IS ON A ROLL!

Free international trade has unleashed billions of resources that compete for dollars. The technology of the Internet and cell phone have lead to very high productivity growth. Wow! we have almost turned Mr. Friedman's definition upside down. We have too many goods chasing too few dollars!

Greenspan does not need to drastically cut the money supply to hold down inflation as free trade and productivity can do the job. Money is plentiful. Conditions are ripe to make the citizens happy. Major problems such as Social Security under-funding and terrorist activity may be solved. Who knows, Bush may even get an energy bill through the republican controlled house and senate and Iraq may even start to pump more oil. Should citizens get happy, they will speed up the turning of dollars. Wow! Are we near the start of an economic boom? We may be because BUSH IS ON A ROLL!


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