Excellent interview in Barron's with David Alger...
interactive.wsj.com
Extract:
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Q: You recently sat down and composed a "Grand Unified Theory" of the market to explain your bullish views.
A: I was trying to figure out a couple of things puzzling everyone. One, why is the economy booming along with no apparent inflation? Two, why is the Fed not reacting to signs that the economy was much stronger than expected? Three, why are market multiples as high as they are? And the corollary, why are interest rates as low as they are? I was so struck by Alan Greenspan saying in his Humphrey-Hawkins testimony that all the economic books had to be thrown out and replaced by new ones that we didn't have yet.
Q: What are the answers?
A: They're fairly straightforward. Back in 1980, Ronald Reagan came along with supply-side economics. Supply-side economics gave individuals and corporations incentives to increase production, and productive capacity, and investment. As a result, you built supply faster than demand, thereby lowering the price structure and ensuring a strong and vigorous economy. George Bush considered it "voodoo economics." We've had a very dramatic series of tax cuts from as high as 90% in the 'Fifties all the way down to a low of 28%. Sure, there's a recent uptick in taxes. But for the average person, taxes are actually lower than at any time in the past. So you've had a strong ramp-up of capital spending. And capital spending on computers is growing in the high teens. If you standardize what a dollar of spending on computers buys now versus five years ago, we've probably grown our computing power by about 100% a year. Our society is drowning in MIPs and megahertz. The effect is a great surge in productivity across the entire spectrum. And that's brought down inflation at a time the economy has been growing quite rapidly. Moreover, the level of actual capacity utilization is almost at its lowest since 1980, excluding the recession years, because of huge capital spending. And that's consistently brought down inflation in the face of a very strong economy.
Table: Alger's Picks
Now let's look at the effect of the Internet. It will be dramatic. It will squash inflation entirely out of the system. You'll have a deflation in the goods part of the system within a couple of years. The only reason you'll have nominal inflation at all is because of the service sector. This leads to a drop in interest rates, and extremely high valuations in stocks.
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