Wednesday, April 02, 2008


For the third time in less than a month the market experienced a better than 9 to 1 up volume to down volume day. The shorts are jumpy and there is a heavy rotation out of gold and bonds and into stocks. The fear that was driving people into gold and bond bugs is turning into fear of missing the next big move. If there is just the hint of new leadership, anxious investors jump on the stock or the sector.

At the same time, the majority of the public believes the US has entered into a recession. I don't. There are still too many areas of strength to push the average economic sector into negative territory. The belief in a recession that does not exist is another example of a public that wants to play the part of the oppressed victim, many folk seem to have a psychological need to believe that the end of the world is near.

My Sunday School Class has studied two of the books written by Brian Mclaren. Brian is one of the intelligentsia who can make your brain hurt. A simpleton such as myself has to wade through his work with a dictionary in hand. No doubt he is a smart fellow but as the excellent web site, The Kruse Kronicle, points out, Brian is a neo-Malthusian. The Reverend Thomas Malthus was the gloom doom economist of a couple of hundred years ago who believed that the world was doomed to fits of prosperity and then starvation. He could not see how resources could keep up with an expanding population. Since his time, there have been plenty of others to pick up on the theme that the earth is in a state of pending doom. These others include William Jevons, more than 100 years ago, Paul Ehrlich about 35 years ago and more recently, Jimmy Carter, Al Gore and Brian Mclaren. It is always fun to point out that in the early 1970's that Paul Ehrlich's belief in Global Cooling was widely accepted by those believing "The End is Near". In the 70's the fear was of another great ice age.

The mistake that Brian Mclaren repeats in his book, "Everything Must Change", is the same mistake repeated again and again by gloom and doomers, including Malthus and Jevons. During the industrial revolution in England, Jevons believed that England's economy was due to collapse when the country ran out of coal. Malthus saw starvation when the world ran out of food. Neither of these men understood the power of the law of substitution. I can confidently say the same thing about coal as I have said about oil, which is that we will never run out of either. The analogy I like to use is that the stone age did not end because man ran out of good rocks.

The law of substitution is the mother of invention and technology, if something is in great demand, an invention will come along to improve it and something else to replace it. Somewhere on the web there is a posting of an old chart done by John Caslin which shows the commodity price index in real terms. Commodities that cost $120 in 1862 only cost $20 in 1999. This chart is nothing more than the accumulation of substitutions made over the years. For example, this chart includes the move from copper water pipes to plastic pipes, from fabric over wood airplane wings, to thin sheet steel airplane wings, to aluminum airplane wings, to carbon composite airplane wings. The wings of today are many times as strong while being many times as light. There are other charts that show how a couple of tons of coal had to be burned two hundred years ago to perform the same amount of work that can be done today by burning only 5% as much. Other charts show that during the time that population last doubled, the amount of farm land increased by only 14% and the number of people eating grain intensive meat double and doubled again.

Alarmist gloom and doomers have either never seen Kuznets Curve or they have chosen to ignore it. When we make pollution the x axis of Kuznets Curve, (I think I saw this on the Kruse Kronicle web site), we see that pollution initially increases when peasants move off the farm and to the factory but that one of the "benefits purchased by prosperity" is clean water and clean air, the air in America today is cleaner than it has been in many decades and the streets are no longer littered with horse manure.

Another use of Kuznets Curve is to plot the famous inequality gap that the alarmist are always complaining about. What we find here is that when a nation gets an economic boost such that new wealth is created, the rich do initially get richer. There are two points missed by the alarmist; 1) the rich getting richer does not hurt the poor, indeed, the poor actually gain more in percentage terms than do the rich, and 2) in the longer term the balance is restored but at a higher level for everyone. The average poor man does not catch up to the average rich man but the gap is returned to normal with both being more wealthy.

Kuznets Curve is nothing more than common sense. When applied to inequality the story is simple. A man migrates from the farm to industry or even all the way in one jump to the service economy, perhaps this man from a poor family gets his medical degree. This man has grown up poor and as a result is likely to be a saver. He lives a good life but he is never a "big spender" and thus he accumulates great wealth. He invest his savings and thus provides the capital for all sorts of other poor men to "get a leg up". His children grow up wealthy. They grow up with expectations of living the good life. Their advanced education is funded by their parents wealth and they move from a wealthy child hood to a wealthy adult life. This "children of wealth" are likely to be spenders. They buy big houses and big cars. They often feel that their wealthy parents were too strict, refusing to let go of a few dollars to make their childhood happy. The children of these children want for nothing. The next thing you know, these folk have hired a gardener and a house keeper. The poor immigrants they hire go from near starvation to the good life over night. The gloom and doomers chuckle at those who say a gardener and a house keeper are living the good life but, the perspective of gloom and doomers is prejudiced because they have most likely grown up as the children of the wealthy. They do not know what it is like to not have money for food, clothing and shelter. They have seen Mazlow's Hierarchy of Needs in a class somewhere but they really have not internalized that none of the higher needs matter at all to a man that is fighting to survive.

Last month was the 75th anniversary of the New Deal. We are currently flirting with a mild recession while low and behold the response of many is to push for the same policies that caused or prolonged the Great Depression. The problem is that the New Deal was well sold by politicians to the public. The policies of the New Deal were given credit for bringing us out of depression. At the Action Institute Blog, an interesting question has been asked, "if the New Deal Policies were so successful, why was the US unemployment rate at 19% six years after the start of the New Deal initiatives?". The "normal recession" last 6 to 12 months and at its peak the unemployment rate is up to 6 or 7%. Today, unemployment is around 5% and the democrats want to repeat the mistakes made by the congress, Hoover and Roosevelt.

The stock market crash of 1929 was largely a response to the Smoot-Hawley Tariff Act. This law passed the house in May of 1929. The law was an attempt to protect the US from foreign imports -- what a joke? Why does the American consumer need to be protected from low cost imports?

One thousand twenty eight economist signed a letter to Hoover asking him to veto this destructive bill. Long before the bill was finally passed into law, in June of 1930, the stock market had crashed and scores of other nations retaliated by passing their own protectionist bills. One important point to understand here is that even after the US had stepped in the manure bucket of protectionist trade policies, the rest of the world could have prevented the great depression by simply ignoring the damage done to the US by continuing to trade where possible.

I have to run to an appointment so I will sum this up as quickly as I can. Mistakes were piled on top of the initial mistake of increasing taxes. 1) Other tax increases were made, including the social security tax that was added onto payrolls. 2) The Fed took an inactive roll and failed to boost the money supply. 3) Regulations were passed that hurt businesses ability to profit, including price floors on inputs, the minimum wage performed a great dis-service. A "normal" correction was turned into a 10 year recession.

Today, the Fed has been active. Today, the democrats have so far tried but failed to raise taxes. Today, the regulations proposed by Paulson are only for political cover and there is little chance of passage anytime soon.

The market has seen that Bush can hold off the congress and there is a good chance that the next congress will not gain free reign to pass destructive policies. Thus, we had another 9 to 1 day. Nine to one up days, relatively rare beast, are coming one after another. Three in recent weeks. There are more good days ahead!