Tuesday, August 26, 2008


On occasion, the push back I receive is in regard to my skepticism. When I say that international events are timed for political purpose, some readers agree but most are skeptical. The timing of the announced departure of the battle ship strike force headed to the Middle East makes my point well.

The announcement was timed just before the start of the democratic convention and after the market closed on Friday. The first available response was Monday, the first day of the convention. Most people have not heard about the departure but big investors pride themselves in knowing what others do not know. It only takes a few "in the know" to move markets and this market was moved by the events. The price of oil was plunging before the announcement. The price of oil has held, even in the face of economic slowdown, since the announcement.

Bush Sr. did the right thing by isolating Saddam Hussein. When Hussein invaded Kuwait, Bush Sr. did the right thing in running him out. Bush did the right thing and the right political thing. His popularity soared. However, his timing was off. Between the end of the first Gulf War and the next election, Bill Clinton and the main street media hammered away at Bush by talking about the economy. The economy had already turned up but Clinton and the media focus looked backward to tell how terrible "things are". By the election the US economy was running flat out on all four cylinders. The US GDP was growing at the real (inflation adjusted) rate of 4%, but Bush lost.

Bush Jr. learned several lessons. In the political game, what is real is not as important as what is perceived; doing right is not enough; timing is key; a strong economy makes democratic policies of tax and spend look attractive; a weak economy makes republican policies of low tax rates look attractive.

Obama has moved more than a country mile from the far left to slightly left of center in just a few months. His voting record is the most liberal in the Senate and his running mates record is the third most liberal, but he is running a centrist campaign. Suddenly, he is a hawk on Iran and his tax increases are only on those who make $250,000 per year. Watching his payroll tax evolve has been a sight to behold. During the battle with Hillary, he was for raising the payroll tax, period. Late in the campaign, he mentioned a "dough nut hole", meaning the tax would not kick-in at the $97,000 figure that had been mentioned in the past. Now it is only for those making $250,000.

The whole scam is like the ATM tax scam that was perpetrated long ago. The ATM was passed to tax the rich. Now it taxes the middle class. Because the move by Obama will change Social Security to a welfare program, it will ultimately eliminate the system. In its current form, the system has an excellent chance to survive. The hype about SSN running out of money in a few years has been pushed by democrat and republican alarmist in their attempts move the system in "their direction". Social security is not going to miss any payments!

One of the many things not appreciated is that the longer people live, the more taxes they pay on their 401-K and IRA accounts. Another is that many people are enjoying work into their 70's, 80's and 90's. This trend will continue.

Sunday, I discovered that a retired friend of mine works 36 hours per week as a Salem historical reenactor. He enjoys getting out of the house and being a friend to visitors from all over. Last night, George McGovern, who is 86, reported on national TV that he will stop working when he gets old. Only a few years ago, the social security program did not expect to receive payments from people like my friend at Salem or George McGovern.

Another thing not appreciated is that in the same way the government was able to "find" the money to pay for the war in Iraq, it will find the money to pay for social security. For multiple reasons, it is financially sound for the government to borrow a few percent of GDP from its citizens. To encourage savings, there must be borrowers. Without borrowers, there is no interest to be earned and little reason to save. The trick is that borrowing should be done for productive purposes. If necessary the government will borrow to fulfill its obligations to its senior citizens. Of course, if the system starts borrowing to make payments, the pressure to make adjustments on both the income side and the payment side will be increased.

The big hoax about 401-K and IRA accounts is that they convert capital gains earnings into ordinary taxable income. As lives are extended, the compounding effect converts compounded amounts of capital gains into compounded amounts of taxes for the government. IRA accounts and 401-K accounts have average growth over time that is much higher than the cost of borrowing by the government. The government compounds its "earnings" at the same rate of return as the owner of the 401-K.

The "golden pot at the end of the retirement rainbow" is partially owned by the government. Social Security will be around for a long time, unless it is converted to the Obama welfare system. Once it is nothing but a welfare scheme, a future president will be able to pass laws to eliminate it. The redistribution of money from the rich to the poor sounds so fair until it grows to onerous levels. As our forefathers demonstrated in Boston, onerous taxes will get your tea thrown over board.

Mark Perry, Professor of Economics and author of the Carpe Diem Blog, makes some neat comparisons. He shows the distribution of wealth next to the distribution of baseball hits, the distribution of basketball points or the distribution of Olympic Gold Medals. The numbers follow the Pareto distribution rather than the "normal" or bell curve distribution. The Pareto distribution is commonly known as the 80:20 rule. Sure enough, 20% of baseball players get about 80% of the hits. Twenty percent of Olympians win about 80% of all medals. Twenty percent of basketball players score about 80% of all points.

Under the Obama doctrine, some of Kobe Bryant's points should be redistributed. It is unfair for Kobe to score so many points. He was born as a gifted athlete. He does not deserve the accolades he receives, especially while other players must sit on the bench, get no playing time and no points. Under the Obama doctrine, Michael Phelps should be forced to give up 7 of his 8 Gold Medals to others who won none. Michael Phelps does not deserve extra metals, no matter if he did train hard for the past 12 years. Or, perhaps, in baseball, the best pitchers should be forced to throw slow balls to the worst hitters in order to be fair to both the weakest pitchers and the weakest batters.

Obama and other democrats fail to appreciate that it is wasteful spending that needs to be eliminated. The rich man, who risks his wealth to build factories, provides jobs to his fellow man and does the government (the people) a favor. Because this wealthy man knows how to build profitable businesses (think Warren Buffet here), he produces growing numbers of jobs, growing amounts of income for workers and himself and growing amounts of tax revenues for the people (government). Government revenues grow at the same compounded rate that he grows his investments.

Confiscating the wealthy mans money in order to subsidize the birth of thousands of more kids is bad policy. The world already has enough people. We certainly do not want to be forced into following the Chinese practice of making more than one child illegal. In a free society, the government should be neutral in regard to how many children a family will have. Those who want to have 5 are welcome but the standard policy should be that they must be able to support 5 to have 5. Welfare recipients have three times the children as non welfare mothers.

When governments confiscate money from the rich man to give it like manna from heaven to the poor, bad lessons are taught. Thrift is one of the unintended victims. Both the rich man and the poor man are taught that saving and investing are pointless.


The game of politics is a hard ball game. Democrats consider it fair to attack the strategy of our Commander in Chief and our Generals and to support the strategy of our enemies during a time of war. Republicans consider it fair for the departure of the battleship strike force against Iran to be the same day as the start of the democratic convention. Democrats are willing to buy votes with the promise of robbing the rich in order to give $1,000 "tax rebates" to the poor. (The words "tax rebates" are in quotes because the poor do not pay income tax. Obama's tax plan is a welfare plan disguised in the cloth of a "fairness to the middle class plan".) Republicans are willing to suggest that the total recoverable reserves of oil in the USA are greater than 2 trillion barrels. (These figures include shale oil that is not recoverable at current prices with current technology. Still, if the impediments to discovery were removed, the energy "crisis" would be solved by market forces. Billions of people will automatically work together to solve the energy "crisis" if allowed.)

The spirit of Machiavelli is alive in politicians throughout the world. Geopolitical risks and restrictive drilling policies are artificially holding the prices of energy and gold high, but geopolitical risks have not stopped the economic train from moving through its cycles. World wide demand for commodities has peaked, this cycle. The growth of the middle class in developing nations will continue to pressure commodity prices but supply has gotten the upper hand. Substitutions are having the expected effects. (Carbon graphite is replacing steel and the price of steel is coming down.)

Companies that use commodities as inputs will be among the big winners. Intel is my favorite example here. The price of materials used is coming down on products that are in greater demand as prices come down. The real reason the cost of the chip is coming down is because of improvements in technology. The total cost for all the materials used in a computer chip is a tiny portion of the total cost of the chip. Still, the decline in the cost of materials does increase the margins on each chip sold. Billions of chips are being sold.

Geopolitical risks will fall dramatically when a deal with Iran is completed. Iran is going to be a big winner, but the rest of the world will win too. Iran now has plans to build 6 more nuclear power plants and a Turkey natural gas pipeline deal is all but signed. This is a form of the T. Boone Pickens' plan. Iran will build nuclear power plants to provide local electricity, freeing up trillions of metric cubes of natural gas for export. The abundance of natural gas, through out the world, is going to allow auto manufacturers to move in the direction of eliminating the waste perpetrated by the internal combustion engine. Nature gas can be used in internal combustion engines but also it can be used in fuel cells, at least until abundant nuclear power is available to produce hydrogen.

The invisible hand of Adam Smith is more powerful than the spirit of Machiavelli. Billions of people are working together to rationalize markets without realizing the degree of cooperation involved. It takes the work of millions of people to bring all the components of a Dell computer together at just the right time. It is the conscious effort of the few who invoke the spirit of Machiavelli.

Bush is trying to do the right thing in regard to Iran. For seven years, he has tried to end state sponsorship of terror while trying to avoid a major war. Despite his efforts, Islamic extremists are engaged in battle in dozens of countries. For example, Shabab, a group connected to al-Qaeda, is now in control of Southern Somalia. It sounds alarmist, but, if we want to avoid WW III, we must confront these extremist. Adam Smith is in the fight automatically. There are times when it is appropriate to use Machiavelli tactics in order to prevent horrible consequences. George Bush has focused a lot of forces on the problem. France is more actively engaged than anyone would have ever imagined. Saudi Arabia has funded the Pakistani attempts to eliminate the threat from the Taliban. Russia and China have voted time and again to sanction Iran. Bush invaded Iraq only after having the 100% backing of the UN security council.

If an agreement is reached with Iran, the war against terror will not be over, but a major battle will have been won. History will record that Bush made huge progress toward winning this war. Events to be played out in September are critical.