The economic and foreign policies of governments — for good or ill — exert a dramatic influence on investors’ portfolios.
If that isn’t obvious by now, given the policies of the past two years, it will never be so. In economic policy we’ve seen Fed rate hikes (1999-2000), 1 punitive trust-busting, 2 tax cuts stretched out over a six-year period 3 and so-called ‘stimulus’ measures that are, in fact, deadening.4 In foreign policy we’ve seen the appeasement of terrorism 5 — before and after September 11th . From the time equity prices peaked in March 2000 such policies have destroyed about $4.3 trillion in wealth — in the U.S. alone.6
The main source of such policies (again, for good or ill) is academia. That’s where our leaders — whether in government, at think tanks, in media, running businesses or on Wall Street — are taught and trained (or indoctrinated, as the case may be). And a good indication of the ideas currently considered to be the best and the brightest can be founded in observing the winners of the Nobel Prizes that are awarded each fall.
In the 1990s seven out of ten winners of the Nobel Prize in Economics hailed from the University of Chicago, which for decades had built a reputation for advocating free and efficient markets.7 It’s no coincidence that this was also the decade that saw the institutionalization of more pro-market economic policies in Washington, a shift that began in the early 1980s with the supply-side revolution. And it’s no accident that in the 1980s and 1990s, as a result of better policies, investors saw spectacular equity returns.
This year’s winners were announced last week: Joseph Stiglitz, George Akerlof and Michael Spence.8 Each has taught that markets are laced with inefficiencies, imperfections, and failures — problems which (they say) warrant heavy doses of government intervention and regulation. According to Princeton’s Alan Kreuger, “the three of them really pioneered the view that markets, when confronted with imperfections, may not be the best way to allocate resources.” That’s putting it mildly. Anyone familiar with the teachings, writings and policy prescriptions of this trio knows that they are near-socialists. So much for the view –so prevalent in recent years –that the world now recognizes the utter failure of socialism. Many market makers and investors now recognize it. But most academics –and today’s Nobel granters –don’t.
According to the prize-granting Nobel committee, this year’s trio proved deserving because of their analyses of markets with asymmetric information.” That means they made the otherwise uncontroversial and trite observation that participants in markets have different information. For example, a used car salesman knows more about the car he’s selling than a buyer does. And the person who sells the car to the dealer knows more about it than the dealer. A CEO knows more about the company he runs than do the sell-side equity analysts who re- search the firm’s stock. And analysts know more about the stock than do its buyers. A software firm knows more about its proprietary codes than do the users of its end products.
This is asymmetric information. And the examples could be multiplied in every market.
The main problem with this year’s Nobel winners is that they believe such examples reflect a problem –and a problem that government intervention solves. Anti-lemon laws, consumer protection laws, anti- trust law, the SEC and full disclosure rules are just some of the interventions the laureates feel are necessary to ensure insymmetric information. Just as egalitarian economists believe tangible wealth should be forcibly redistributed to reflect their political preferences, so they also believe information should be forcibly redistributed. At the end of the day, most of them even claim that such coercion improves lives.
The impact of the market failure school isn’t confined to microeconomics or, more narrowly, to the market for information. And it isn’t confined to regulatory policy. It’s also been felt in macroeconomics and macro-policy –to the detriment of in- vestment portfolios.
Consider the widespread view that the stock market fails drastically at properly pricing securities.10 Then the Fed might well strike down stock prices if it deems them to be excessive. Or consider the deeper view that in the absence of central banks and government deposit insurance private banks would inflate and collapse. That’s how we get destructive central banks to begin with. Or the claim that faster economic growth causes inflation, or its acceleration. Growth will be sacrificed by the policymakers, to fight their phantom menace. Or the notion that the manipulation of interest rates by central banks prevents business activity from gyrating wildly and collapsing into depression. The rate manipulations themselves cause the cycles. Or the belief that a graduated income tax is wealth- enhancing because (allegedly) consumption drives production and the tax maximizes spending by those with higher “marginal propensities to consume.” And thereby the able are sacrificed to the less able, the entrepreneurs to the parasites.
Each of these myths generates a policy response which, when aggregated, create a policy regime that’s detrimental to prosperity — and portfolio returns.
Nobel Prize for Economics Rewards Voodoo and Not Science
by Richard Salsman, Part 2 (March 10, 2002)
1 We anticipated this policy, identified its driving motive and predicted most of its destructive effect on portfolios. See Richard M. Salsman, WARNING: The Fed Can Be Hazardous to Your Wealth,” The Political Economy in Perspective, H.C. Wainwright & Co. Economics, Inc., September 2, 1999; “How Long Can This Keep Going On?” Investor Alert, InterMarket Forecasting, Inc., February 4, 2000; “Why Greenspan Trashes the Mar- kets,” The Capitalist Advisor, InterMarket Forecasting, Inc., February 22, 2000 and “The Anti-Wealth Effect,” The Capitalist Advisor, InterMarket Forecasting, Inc., April 17, 2000.
2 See “Antitrust: Landmarks and Landmines,” Investor Alert, InterMarket Forecasting, Inc., April 4, 2000 and Richard M. Salsman, “Microsoft’s Anti- Trust Lynching Undermines the Market,” Financial Post (Canada), April 5, 2000 and “GE and the EC’s Trustbuster-Extortionists,” Investor Alert, InterMarket Forecasting, Inc., June 18, 2001.
3 See “The Bush Tax Cuts: Bigger – and Sooner – Would Be Better,” The Capitalist Advisor, InterMarket Forecasting, Inc., February 14, 2001 and “Better Policy Deferred is Not What Markets Prefer,” Investor Alert, InterMarket Forecasting, Inc., March 16, 2001.
4 See “Those Alleged