V. ANANTHA NAGESWARAN

PER­MA­NENTLY TOPPED UP SWAMP

Mint Asia ST - - Myview -

Irv­ing

Fisher, the Yale econ­o­mist, is sup­posed to have said, “Stock prices have reached what looks like a per­ma­nently high plateau”, shortly be­fore the crash of 1929 be­gan.

In a sim­i­lar vein, in his se­condquar­ter news­let­ter this year, Jeremy Gran­tham, vet­eran fund man­ager, wrote, “If we ex­pect a mar­ket crash, we should also ex­pect to have a crash in mar­gins (as we did in 2008-09) or a truly dra­matic rise in sus­tained in­fla­tion (as we did in 1979-81) or some pow­er­ful com­bi­na­tion. All of which is pos­si­ble of course, but I think im­prob­a­ble, at least in the near term.”

Does it mean that a fate sim­i­lar to that of Fisher awaits Jeremy Gran­tham? Per­haps. But his ar­gu­ments are com­pelling. The US stock mar­ket has proved re­mark­ably re­silient in the face of ev­ery­thing that has been thrown at it in the last two years or more. Gran­tham con­cludes that in­vestors nei­ther dis­count the fu­ture cor­rectly nor do they seem to learn much from his­tory. In­vestors over­weight the present. In the present, three things dom­i­nate.

All three con­trib­ute to the ex­pan­sion of profit mar­gin or sus­tain­ing high mar­gin and ex­pan­sion of priceto-earn­ings (PE) mul­ti­ples. The three factors are the mon­e­tary pol­icy of the Fed­eral Re­serve, an age­ing pop­u­la­tion pro­file, and the ris­ing po­lit­i­cal and mo­nop­oly power of cor­po­ra­tions. In other words, Gran­tham is pre­dict­ing that the “neo-lib­eral” po­lit­i­cal and eco­nomic agenda of the last two-three decades looks set to con­tinue with­out too many changes.

They have done their job in boost­ing rev­enue and profit share of gross do­mes­tic prod­uct by 30% and ex­panded PE mul­ti­ples by 70% in the last 20 years in the US, and these factors look set to con­tinue. Hence the quote above.

It is some­what de­press­ing to con­tem­plate the pos­si­bil­ity that these are un­likely to change quickly, for these factors have cre­ated big so­ciopo­lit­i­cal fault lines.

They have boosted worker in­se­cu­rity, wors­ened in­come and wealth in­equal­ity and widened the so­cial and eco­nomic di­vide be­tween the top 1% and the rest 99% in Amer­ica. The opi­oid cri­sis—the rapid in­crease in the use of pre­scrip­tion and non­pre­scrip­tion opi­oid drugs—and the de­cline in the male labour force par­tic­i­pa­tion rate in Amer­ica are man­i­fes­ta­tions of these fault lines that the neo-lib­eral eco­nomic agenda has gen­er­ated.

In a paper ti­tled The Deep Causes Of Sec­u­lar Stag­na­tion And The Rise Of Pop­ulism, pub­lished in March, James Mon­tier and Philip Pilk­ing­ton had in­cluded mo­nop­oly power and in­creas­ing re­turns to share­hold­ers as two el­e­ments of the “neo-lib­er­al­ism” that has de­fined cap­i­tal­ism in Amer­ica and in many other Western na­tions in re­cent times. Low real in­vest­ment and low labour share of in­come are the other no­table ones.

How did things reach this pass? Clearly, one can write ex­pan­sively about the grand eco­nomic and po­lit­i­cal churn that hap­pened in the late 1970s due to a com­bi­na­tion of eco­nomic stag­na­tion, high in­fla­tion and high un­em­ploy­ment as the suc­cess­ful post-world War II eco­nomic model col­lapsed.

That her­alded the ar­rival of a new strain of cap­i­tal­ism which Mon­tier and Pilk­ing­ton la­bel “neo-lib­er­al­ism”. The prox­i­mate ques­tion, how­ever, is how com­pa­nies man­aged to gen­er­ate high rev­enue and sus­tain high profit mar­gins in the face of low (of­fi­cial) in­fla­tion rates and with­out un­der­tak­ing much real in­vest­ment.

Òs­car Jordá, Moritz Schu­lar­ick and Alan M. Tay­lor show us the way. In their paper The Great Mort­gag­ing, pub­lished in 2014, they note that in the 1980s, the Bank for In­ter­na­tional Set­tle­ments (BIS) de­creed that mort­gage loans se­cured by res­i­den­tial prop­er­ties would only at­tract half the risk weight of loans to com­pa­nies.

As a re­sult, banks made more mort­gage loans than com­mer­cial loans. The ra­tio of real es­tate lending to to­tal lending by banks spiked to over 50% in the new mil­len­nium, from around 40% in the 1980s. Com­pa­nies re­sponded by cut­ting back on real in­vest­ments.

But the growth of pub­lic mar­kets should have helped mit­i­gate the prob­lem of re­duced avail­abil­ity of bank loans. It did not.

Agency the­ory that sought to align the in­ter­ests of man­agers with that of share­hold­ers solved the prob­lem by mak­ing them own­ers too. Or so they thought. But share prices you don’t lis­ten you can’t com­mu­ni­cate, cre­at­ing a per­fect en­vi­ron­ment for a bi­nary di­a­logue and prej­u­dices.

“In spite of this world­wide sys­tem of link­ages, there is, at this very mo­ment, a gen­eral feel­ing that com­mu­ni­ca­tion is break­ing down ev­ery­where, on an un­par­al­leled scale,” Bohm ob­served in his book Di­a­logue ( bit.ly/2hubk8o), be­fore adding, “What ap­pears is gen­er­ally at best a col­lec­tion of triv­ial and al­most un­re­lated frag­ments, while at worst, it can of­ten be a re­ally harm­ful source of con­fu­sion and mis­in­for­ma­tion.”

Bohm flagged the irony of the fact that as com­mu­ni­ca­tion im­proved with the growth of a medium like tele­vi­sion (and the in­ter­net in our era), it only wors­ened the prob­lem as it cre­ated noise and con­fu­sion in­stead of di­a­logue. “The con­se­quent sense of frus­tra­tion in­clines peo­ple ever fur­ther to­ward ag­gres­sion and vi­o­lence, rather than to­ward mu­tual un­der­stand­ing and trust,” he said.

It is then time for us as a na­tion to start lis­ten­ing to each other. It is the nec­es­sary, cer­tainly not suf­fi­cient, con­di­tion for India to re­gain its demo­cratic space. Mint be­came an end in them­selves, not just for man­agers but also for the Fed­eral Re­serve that as­signed an im­por­tant role for as­set prices in sus­tain­ing eco­nomic ac­tiv­ity. As Gran­tham says, the Fed­eral Re­serve lent a help­ing hand in bad times in fi­nan­cial mar­kets and let good times run, cre­at­ing a moral haz­ard. So pub­lic com­pa­nies un­der­in­vested. Share buy­back was more prof­itable. Re­turns to real in­vest­ing were un­cer­tain and suf­fered from time in­con­sis­tency. John Asker and co-au­thors have doc­u­mented ( Cor­po­rate In­vest­ment And Stock Mar­ket List­ing: A Puz­zle?, Oc­to­ber 2014) that pri­vate com­pa­nies in­vest more in the busi­ness than listed com­pa­nies. Their in­vest­ment de­ci­sions are around four times more re­spon­sive to changes in in­vest­ment op­por­tu­ni­ties than those of pub­lic firms.

As anti-trust and mo­nop­oly reg­u­la­tions were whit­tled down, cor­po­ra­tions ac­quired po­lit­i­cal and eco­nomic power. Glob­al­iza­tion en­sured that work trav­elled, if not work­ers. As a re­sult, wage growth be­gan to crawl. De­spite a par­tial re­treat of glob­al­iza­tion, tech­no­log­i­cal de­vel­op­ments over­com­pen­sate to keep worker in­se­cu­rity el­e­vated. Re­strained wage growth is more likely than not. Of­fi­cially, in­fla­tion rates will stay low. Janet Yellen may be reap­pointed. The swamp is in no dan­ger of be­ing drained. So­ci­ety can take care of it­self or be damned. Stocks will keep fly­ing. Dow 36,000 beck­ons.

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