ok Alex, time for you to step up to the plate and take a swing.
You say <<Good read>> this article,
so I reduced it smaller for a "quick" read.
All you got to do is give your prediction
on how an 1929 happening today will be
the same and different based on the article's
itemizations of sameness and difference.
... a wind up, the ball is let loose
... its a knuckle or fast or curve ball ???
After reading my cut down , aka modified version,
see if you can identify the gobby-gook I created
in the identification of two differences between
the 1929 and 1999 years.
doug
prudentbear.com
ÿ
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Prudent Bear Fund
David W. Tice & Associates, Inc.
Guest Analysis
1929-30 vs. 1999-00
by Dr. Kurt Richebacher
April 28, 2000
THE WORST IN HISTORY
... why bother about foolishness in history?
... the currently prevailing bullishness about the U.S. economy.
THE ROLE OF THE CRASH
... the stock market crash was the most important,
immediate cause of the ensuing depression.
DISPUTED CAUSE
With these questions and aspects in mind, we have drawn a comparison
between events and excesses in the late 1920s and in the late 1990s.
How do the monetary and credit excesses in the two periods
compare in kind and scale?
Before we come to the tremendous differences,
first an important common feature:
In both periods, credit creation took place
overwhelmingly outside the banking system - that is,
through the securities markets and the money markets.
Also common to both periods is the complete absence
of Federal government borrowing. All the borrowing
and lending that took place was on account of the
private sector, businesses and consumers.
The habit of America economists
to focus exclusively on the money supply
and to ignore credit has a long tradition.
... there was rampant credit creation.
This recognition is very important because,
in striking contrast,
the money supply grew only modestly.
Between 1925-1929, broad money grew by no more than 10%,
... in the fact that credit creation occurred overwhelmingly
through the securities and money markets,
essentially involving no money creation...
THE BANKS FLOOD THE MARKETS
This brings us to one of the most important
and most striking differences between the boom
of the 1920s and that of the 1990s.
It concerns the financial strategy of corporations.
At the time, corporations took full advantage of the
abundant availability of cheap capital and issued bonds
and stocks vastly in excess of their investment needs.
In 1929, almost 70% of total corporate issues in securities were in stocks.
To quote Schumpeter on this point:...
... for years to come with the funds they had raised
during the speculative mania of 1928-29.
What did the corporations do with their surplus cash?
Well, they did put it straight back into the stock market,
but through a different channel. Instead of buying stocks
for their own account, they lent these funds in large part
as call loans at 10% and more to brokers, who financed
soaring margin loans for the stock speculation of their clients.
In the last 12 months before the crash, brokers' loans increased by 50%.
... the lending to corporations came to a complete stop,
the banks had to look for alternative sources of revenue.
After all, they embarked aggressively on two new outlets:
investments in corporate bonds - and stocks through affiliates
and security loans, that is, loans to buyers of stocks and bonds
against bonds and stock collateral. In the last analysis,
it was the banking system that fueled the boom in the bond
and the stock market, partly though purchases for their own account,
partly through loans to other buyers of stocks and bonds.
EXCESSES COMPARED
... with the postulate of the Austrian theory in mind
that every economic and financial bust is in large part
a function of the scale of excesses in the preceding boom.
The gauges to look at are self-evident:
- stock valuations;
- money and credit expansion;
- economic fundamentals.
... present stock valuations vastly exceed those in the late 1920s.
If money growth has been record-breaking,
it is wildly outdone by credit growth,
which, like in the 1920s, is overwhelmingly
taking place outside of the banking system.
Mr. Greenspan has presided over a credit explosion...
... he readily sanctioned a free-for-all in credit creation
... credit creation has been truly running amuck.
THE GREAT DIFFERENCE: CORPORATE FINANCE
Yet there is still another critical and dramatic
difference between the two periods to be noted.
It concerns corporate finance.
In the late 1920s, as already expounded,
American corporations frantically bolstered their liquidity
by issuing equity vastly in excess of their financial needs
for investment spending. In the past years, American corporations
have pursued the diametrically opposite policy. They frantically
depleted their liquidity and embarked on an unprecedented borrowing
binge to finance acquisitions and repurchases of their own stocks...
For sure, a fascinating difference.
But why?
Of the two patterns, the one of the 1920s
hardly needs explanation. Bolstering liquidity
in times when booming markets offer cheap capital
for the long haul, is just traditional corporate
financial strategy. Yet the massive issuance of
new stock may well have played an important role
in breaking the boom in 1929.
The puzzling part is what has been happening in the late 1990s.
Even though high tech companies are heavily tapping the stock market
with IPOs, the corporate sector, as a whole is the big net buyer
in the stock market on account of soaring acquisitions and stock buybacks.
... clearly at odds not only with corporate tradition
but also with a reasonable profit calculation.
In short, it's a folly. But the widespread adherence
to this folly suggests a general compelling reason
which is, indeed, easy to identify: unprecedented obsession
with short range maximization of shareholder value.
Yes, corporate strategy and policy in the new market
climate have in many ways radically changed. In their
frenzied endeavor to increase shareholder value,
corporate managers resorted mainly to two devices.
Reckless financial leveraging and a cost-cutting mania.
Financial leveraging implies to run down cash balances
and to substitute debt for equity.
The emphasis on cost-cutting as a means to raise profits
and share prices has implicitly fostered mergers and
acquisitions in preference to new capital investment.
Under this new American capitalism, buying existing capacity
has precedence over creating new capacity, while paper wealth
creation through booming stock prices has precedence over
wealth creation through real capital investment. And the
use and allocation of real resources has led to a major shift
in the composition of GDP towards private consumption,
rising to its largest ever share in current GDP growth.
NEW PARADIGM OR BUBBLE?
...comparing present economic and financial conditions
with those in the late 1920s is a shocking exercise.
... is the incredible stock market boom
a reflection of real value created in the economy,
or is it a purely credit-driven paper bubble?
... what are the chances that the Fed will be able to prevent
a devastating crash of the stock market and engineer a soft
landing of the economy?
... most American economists hold the view
that it lies in the hands of a central bank
to prevent any such bust from happening by
simply "printing money."
... by focusing narrowly on the banking system
and the money supply, they overlook two snags.
One is ... scale of credit creation
... other one is the channel of this credit creation.
... as in the 1920s, it is overwhelmingly taking place
outside of the banking system, through the financial markets
... any disruption in these financial flows has the very same
adverse effect on economic activity as a disruption in bank lending,
irrespective of what is happening to the money supply.
... the biggest danger to the U.S. economy
looms in the financial markets, including
the currency market and the derivatives markets.
... this may happen in the second quarter
or in the second half of this year.
Dr. Kurt Richebacher is editor of The Richebacher Letter,
published by The Fleet Street Group.
Subscription inquries call (888) 737-9358. |
