Sunday, March 15, 2009

OK, now that we have the previous two posts out of the way, Monday (03.16.09) we will discuss how the markets and the US Economy are linked but not dependent upon each other.
Essentially, our economy is based upon the number of domestic jobs, the average $/hour/resident of the US and the general mood and optimism of these residents.
The markets, however, are based upon expected earnings after taxes (both domestic and foreign) and the general mood and optimism of investors.
I hope you noticed the domestic and foreign earnings part. Remember, if you are a CEO of an international company (and virtually all listed stocks are international), you are rewarded based upon your consolidated earnings (foreign and domestic) and, consequently, your stock price. There are no rewards for making the US, or US residents, more prosperous.
Globalization is Kryptonite to national economies IF you are a "have" and not a "have not". Globalization levels the playing field. The game is to increase profits, at the expense of the "haves", without destroying them. It is not quite a zero sum game but the US and its residents will think it is.
Think about the higher value (meaning "wage") jobs that have been lost - maybe for a very long time. Unless we replace these jobs with new and equally high value jobs, this means less disposable income, less consumption, less tax revenue for federal, state and local governments. But the countries that landed these jobs improve their standard of living - though their revenue does not go up as much as our revenue goes down.
And that is the trick. Companies seek to globalize to the point where marginal cost equals marginal revenue. This is the old Economics 101 MC=MR graph. At this point, it takes $1 of cost to generate $1 of revenue or a break even. But, right before this $1 came a $1 of revenue that cost just slightly less than $1 to generate - and that is earnings - and that creates value in the share price.
The same is true for the global production/consumption. You globalize right up to this point. It helps you to reduce the costs for your company (even if you eliminate US jobs) just so that you do not kill consumption in the US.
But, as you reduce jobs in the US, the debt stays the same. And here we are...fewer jobs, less income, same debt, more defaults, falling asset prices. We crammed too much debt down the throats of consumers at the same time we cut their jobs and wages.
Finally, just for reference, all of the stimulus the US can throw at our economy won't work because you cannot take from those that have (through taxes, borrowing and inflation) and give it to those that don't and change a thing. And, if you are going to borrow the money, what ever you spend the stimulus on better make money after you build it. But if you REALLY want to muck things up, just print the money. Now you have fewer jobs, less income AND inflation - exactly the definition of stagflation.
And, for the record, stagflation is the mortal enemy of equity markets - IF you use purchasing power as your measure.
We are so screwed...