Where My Mind has Wandered

Little Wisdom in Tax Cuts Alone

The congressional Republicans risk looking very out of touch with voters in their insistence on a tax cut-only stimulus package. Not only does it seem an overly simplistic answer to a complicated problem, Republicans once again look like they are hewing to a narrow position based more upon ideology than common sense. That approach has gotten them, and the country, in a heap of trouble over the last eight years.

Their complaint that the Democrats won't listen to their ideas, particularly in the House, is undermined when their sole idea is simply more tax cuts. The Republicans did not do much listening when they were in power, but I do have sympathy for their complaints. Yet, how much listening does one really need to do when the Republican plan is a one-trick pony?

Will tax cuts alone improve the economy? I think a little, but too little and much too late to pull us out the nose dive we are in. Home Depot didn't shutter Expo and lay off more than 15,000 employees because taxes are too high. They did it because home building and renovation is at a dead-halt, and giving the average family a few thousand dollars in tax relief isn't going to change that.

Will tax cuts stimulate the economy? First, let's place the horrific pile of debt we are creating by lowering taxes at a time when tax revenue is caving in off to the side and consider tax cuts in a comfy, unrealistic vacuum. Tax cuts will help a little in the short-term, and probably more in the long-run.

Publicly traded companies may have little incentive to turn that tax cut into new jobs. Companies are "right-sizing" to a new economic outlook that suggests a long, slow recovery (after when we hit the bottom). They are not going to add more salary and benefit commitment to their expense line. With money frozen they cannot take on additional debt to finance new investments, and are unlikely to do so even if they could. They are more likely to focus on margin performance and shareholder value.

Mid-sized companies might spend a little of that tax break. They are more likely to be privately-owned, giving them some relief from shareholder expectations. They are also less able to absorb deep staff cuts without undermining their business. Small companies can only scale with staff, but the economy dictates their scale. They are more likely to use the cuts to keep the people they have, not hire new ones. Business tax cuts are more likely to help save existing jobs and create some freelance, contract, and part-time work than create a big lift in full-time employment.

The personal income tax won't do much of anything. We won't see a tax cut that exceeds average household credit card debt, so any spending it generates is still debt-spending. And now with Americans have tightened their belts and expectations they are too scared to spend money. Even the money that leaks out in consumer spending isn't a long-term solution. We saw that with the 2008 tax credit, which did nothing to help heal the underlying economy. And a tax cut can't help you if you have already lost a job. What you need is a salaried income, and that's why we need investment in projects that save jobs and create new jobs.

Public infrastructure projects can generate a lot of regional work. The construction is just the start, there is a ripple effect that spreads from arts to public affairs to communications. And it can happen quickly; the money starts flowing well before people start digging and pouring cement. It is not my favorite solution, but it is a piece of the puzzle. A lot of business can get hurt from construction projects, particularly road construction. Many business did not survive the Washington Avenue, Vandeventer Overpass, and Highway 40 construction projects over the last few years in St. Louis (I really miss King Louie's). But the stimulus outweighs the disruption and many of the projects sorely need to be done.

The investment in alternative energy also makes sense. It will impact science, technology, and ultimately manufacturing -- all sectors of our economy that need to be more competitive. This is a success by a thousand cuts scenario. We can't just expect the blunt tool of tax cuts to get the job done.

A fire needs both oxygen and wood to burn. Tax cuts may give us more oxygen, but we need to add some fuel to the fire.

Hoping Downsizing Ends this Quarter

At the end of 2008 I was hoping that companies would try and shed employees before the end of the year, book as much of the cost as they could, and the job market would stabilize. It does not look like that happened. Thousands of employees continue to be shed in January as companies that did not cut back earlier begin to downsize, and some companies that did cut back trim a bit more. Now I am hoping this will last another 90 days, which seems to align with what I have been hearing from people who know more than I do.

Companies need to be profitable for a host of reasons, including their ability to pay good salaries and invest in improvements, both of which keep them competitive. But high unemployment becomes a drag on the entire economy, reducing collective spending power and increasing the cost of social services. Which brings me back to my hope that companies can turn the corner before job loss gains any more momentum and becomes to hard to be reverse.

Short Selling

I've been mulling the concept of short-selling over for a few months. I think there may be a place for betting that a company's stock price will fall, but I am starting to think don't think it is not the stock market. If you like a stock you buy it, if you own a stock you think is overvalued or about to fall you sell it. If you want to place a proactive bet against a company do it in a betting parlor, I'm sure someone will take your money. The difference is that your bet is less likely to directly influence the stock price, as too often happens with real stocks when short-selling becomes a self-fulfilling act, driving down a stock price precipitously.
My mind could change, but I have more and more sympathy for this position.

The Consequences of $4 Gas in the U.S.

There has been an onslaught of coverage on the impact of $4 a gallon gasoline. Some of the impact seems obvious -- less road miles driven over the summer. Some of the impact seems obvious after it is explained -- death caused by car accidents is down in most states because people are driving less miles. Some consequences are hidden more deeply, for example auto insurers  can probably expect fewer claims, which may be good for their bottom line but bad for repair shops. You don't know where things are going to lead until you start to follow the unwinding ball of yarn.

Dan Callahan and I have started a blog entitled "Petroshock" in which we will examine many of the unexpected consequences of high gas prices. Our plan is to invite experts from within our firm to share their views, based upon their own client and industry experience. We hope to bring readers the insights of experts in energy, food and agribusiness, consumer marketing, branding, public affairs, corporate social responsibility, technology and many other sectors and disciplines. It is likely that we will solicit input from clients and other stakeholders as we gain momentum.

We have just started this effort and have just a handful of posts, but the blog is live at petroshock.com.

Weak dollar will continue to encourage foreign buying

The impact of a weak dollar on M&A activity in the United States isn't a surprise in financial and business circles. Foreign companies now have the opportunity to buy U.S. companies, real estate, and other assets at what amounts to a discount. This may not be news, but judging from conversations I have been having lately it may be news to much of the general public.

When George H. W. Bush entered the White House in 2000 the exchange rate between the dollar and the euro was approximately 1.171. At this rate the dollar was worth 30 percent more against the euro than it was the day the euro was introduced at the end of 1998, which was 0.857. The average rate this month has been 0.643. This means that the current administration has been at the wheel for a 45 percent decline in the value of the dollar against the euro. When Bush entered office the dollar was at an all time high against the euro, and when he leaves it will likely be at an all time low.

In an an article for The International Economy, Lawrence Lindsey, who was the chief economic advisor during Bush's first year in office, said the administration was committed to a strong dollar. He wrote "the benefits of a strong currency for our country far outweigh the costs ... a commitment to a stable, non-inflationary currency, a good business environment and open trade will remain the cornerstones of American economic policy." Apparently things didn't work out as planned. Of course, Bush dumped Lindsey, along with Treasury Secretary Paul O'Neill, so he can't be blamed for the administration's failure to protect the dollar.

Lindsey had some other notable statements during that first year. In a September 2002 interview with the Wall Street Journal he estimated that the Iraq invasion would cost the U.S. $100 to $200 billion. He was practically attacked by the White House, which estimated a total cost of $50 to $60 billion. Donald Rumsfeld, with characteristic grace and sound judgment, called Lindsey's estimate "baloney." The Iraq war has cost $500 billion to date and continues to cost $435 million a day. The Iraq war is one of the Bush-driven factors that has sunk the value of the dollar.

When Americans travelled to Europe during Bush's first term they inevitably commented, upon returning home, about the extraordinary price of a cup of coffee. It typically followed this script: "Can you believe a cup of coffee costs three-dollars? Coffee is more expensive than gas!" Gas cost north of $5US at the time in Europe, but if they didn't rent a car they didn't know that. I can imagine what they are saying now, assuming anyone can still afford to go to Europe. But that point of view is all wrong. A cup of coffee isn't expensive in Europe, it is just really cheap in the U.S., and so are U.S.-owned companies.

To learn more about the present and future of the dollar one source to consider is The International Economy, which has dedicatd to the Spring 2008 issue to the subject. 

Unintended Consequences in the Relationship between Food and Energy

I am blogging live this morning during an event in New York City organized by my company, Fleishman-Hillard. A panel of speakers will examine the future of food and nutrition, and the current trends that will impact that future vision. I am also maintaining a twitter feed during the event.

One topic raised by the first speaker is the rise in food prices. Factors such as a rise in global demand, due to increases in population and improvements in the standard of living in many countries, investments in fuel crops, and the impact of oil and gas prices on transportation costs are among the factors that are impacting price.

The clean energy movement has had a frustrating few decades. Investment in and adoption of alternative energy has been slow in the United States. Finally oil and gas prices -- coupled with investment incentives -- led to real growth in alternative fuel production. In the United States some of that investment has gone into corn and soy-based ethanol. The connection between investment in fuel crops and rising food prices has not been quantified, but the thought that food riots in poor countries could be tied to investment in alternative energy in the United States has to be agonizing for clean energy advocates.

This is an issue I have considered in prior posts, but this event is bringing it into much sharper focus. I am also interested in a new series of articles running in the New York Times entitled The Food Chain, Betting on Agriculture. An article from the series this morning looks at the large bets private investors and investment funds are putting into the food chain, going well beyond a more typical portfolio of commodities into food land, storage, and transportation.

Flip This House Spams my Blog

Apparently Flip This House, or someone working on their behalf, has an online strategy. It looks like they are trolling blogs that mention the show and placing an advertisement in the blog's comments.

My post on U.S. monetary policy mentioned the show in what I would think is a neutral to less-than-flattering manner. The producers are looking to recruit "flippers-in-trouble" to appear on a special episode of the show. They would be smart to make every episode of the show follow this format. It is difficult to stomach that the people behind this show would profit from helping to froth the market in the first place and then again by chronicling the implosion on the downside of the market curve. The advertisement masquerading as a comment says the show will offer "expert financial advice" and I'm sure the amateur tycoons getting killed in the real estate downturn need such advice.

This is not my first comment spam. Posts on digital topics, particularly related to search and search marketing, tend to attract online marketers with aggressive goals and little regard for civil behavior. The line between online editorial outreach and spam is very gray and easy to cross-over. Organizations with all the best intentions to get savvy and market digitally can end up becoming spammers if they don't understand what they are buying, hire the right kind of agency, and monitor their work.

Productivity, Speculation, and Monetary Policy

One of the theories behind U.S. monetary policy is that if we make money easier to get (low taxes and low interest rates) people will invest in activity that drives productivity. Business will expand, new business will open, more jobs and economic growth will follow. The problem with this theory is that it is not absolute. Investment does flow into productivity, but investment also flows into speculation. The technology and real estate bubbles are perfect examples. Speculation drives false productivity, where the value of assets rose based upon perceived value versus actual productivity.

While Alan Greenspan and Ben Bernanke were driving down interest rates to avoid inflation HGTV was airing The Big Flip eight times a week. Funny how the word "flip" showed up in both the tech and housing bubbles. Here is how HGTV promotes the show:

Our renovators, Paul Peic and Kye Husbands, are taking on the challenge of fixing and flipping as many houses as they can in just 12 months. Or lose their minds and shirts trying. Paul and Kye are experienced entrepreneurs who will try anything once, but neither one of them has ever flipped houses before. They say it's not a problem. They're convinced they have what it takes not only to be successful... but really, really rich. The investment, the sweat equity and any ups or downs are all theirs. Can it be done? They think so.

HGTV's peers were all in the game, with competing shows including Flip this House and Flip that House. There is a big difference between a VC that can afford to spend $500 million on 10 start-ups in hopes that one ends up worth $5 billion and people putting all of their savings into real estate and tech stocks. Most venture capital firms aren't investing with their own money. Investing is what a VC does for a living, and the good VCs bring assets to the companies they invest in that make those companies better.

The investor who overextends to invest in properties in Southern Florida is working in a completely different environment. Let's say he put $1.5 million down to buy 20 properties for an average price of $500,000. That gives him $10 million in mortgage liability and $100,000 a month in mortgage payments. He is investing his own money. No one property is going to "make it big" and suddenly be worth $50 million to offset losses elsewhere. And if he can't cover the mortgage payments he has to start selling off property, regardless of the market conditions. The is a real scenario. I rented a house from someone in exactly this situation. The day after we went home from our vacation in Disney World the bank foreclosed on all of his properties.

This kind of speculation happened across the country in both larger and smaller scales. I don't have an answer; the solution is not obvious. I'm all for lowering taxes and trimming government spend. And I am not against low interest rates. I do think that when you use terms like "irrational exuberance" and "froth" to describe market conditions perhaps driving down interest rates, on its own, isn't the best course of action. Once again, I'm not in a position to say where those interest rates should be, but our policy makers need to much smarter at avoiding and/or managing bubbles. 

White Knight Misses Battle

Treasury Secretary Henry Paulson's 218-page regulatory blueprint was released today. Sure, I bet some regulatory tweaking would make a difference, but one can only hope that at least 100 pages suggest some common sense and reading a newspaper once a week.

Even as early speculators were making money hand over foot during the real estate bubble they knew a day of reckoning would come. Everyone can't get rich on the same exact scheme, that isn't how the economy works. Press coverage on the issue started ages ago. Home prices were surging. Home builders were getting bolder and bolder, buying huge tracks of land. Experts questioned the wisdom of ARMs. Well-off people were putting their retirement funds into condos and vacation homes with the overt goal of flipping. Sound familiar? Built to flip? Tech bubble? Come on, seriously, we all knew this was coming.

Perhaps the big financial institutions didn't get burned enough by Enron or the tech bubble. It was their clients, after all, that bore the brunt of all that vaporized stock equity. This time around the implosion of Bear Stearns has taught them a hard lesson.

Yet we never apply lessons learned in one area to our future actions in another. Don't think for a moment that we won't suffer another financial debacle within the next decade. Our economy seems to be programmed this way.

So now Henry Paulson has arrived on the battlefield, a white knight mounted on his war horse. Yet he has missed the battle. All he can do is watch the dying get carried off the field and the dead get buried where they fell.

What is the next bubble?

Of late, Americans have a knack for engaging in spectacular economic fiascoes.  First there was the dot com bubble, then the real estate bubble. Our penchant for get rich schemes is amazing. My mind has wandered to a very simple rule of thumb: if everyone is getting rich in exactly the same way, the majority of people involved are going to get hurt. 

So what is next? I don’t think the Chinese product recall really qualifies. Yes, it is somewhat self-inflicted. And yes, the steady movement of consumer product and ingredient manufacturing to China was largely fueled by efforts to make as much money as possible. But not at a level that involved the average American. Sure we benefited from the high quality, $6 t-shirts we bought for our kids, but most of us aren’t getting rich from Chinese manufacturing.

I think the next bubble might just be the huge rush in America toward bio fuels. I’m all for adding more renewable energy into our energy diet, but a lot of money is being poured into corn and soybean farming. So much so that I wonder if the market really needs it all, particularly if you consider all the crop subsidies that are in place. And we don’t know what the secondary impact of the investment will be. If speculators lose money there will be a ripple effect, but the average person may not be impacted that much unless the shift to crops for energy impacts other parts of the economy.

I have a friend who recently moved to Wisconsin to start an organic farm. She is going to grow and sell organic vegetables, but her main crop will be hay. Why hay? She says so many farmers have switched to farming crops for fuel that it has created a hay shortage. It sounded like an awfully broad claim to me. This summer we drove 12 hours from St. Louis to Michigan, and I have to say the number of crop fields in Northern Illinois and Indiana with bio diesel signs along the highway was astounding. It is a bubble candidate for sure, but maybe not to the extent of the technology and real estate bubbles.

What else could be the next bubble? If you have an idea, let me know, I’ll look into it because I am dying to know.