Is this high jumping stock market “irrationally exuberant, as Federal Reserve Chairman Alan Greenspan fears? Or is it for real?
We’ll know only in hindsight. But Allen Sinai, chief global economist for Primark Decision Economics, has no doubts at all. He’s sure it’s for real.
“Everything is working right, Sinai says. “We’ve got low inflation, low interest rates, good business profits, a strong competitive position internationally, no systemic imbalances and sound fiscal and monetary policies. That, in a nutshell, is the bull case for keeping money in stocks (or putting it there, if you’ve been too scared to move).”
Sinai describes himself as “rationally exuberant.” He believes we’re enjoying what’s going to be the longest business expansion ever, with an even higher target for stocks.
As he sees it, we’re reaping our reward for the hard work and sacrifices of the 1980s and early 1990s: the mass layoffs, the forced early retirements, the businesses torn apart and recombined. That painful restructuring is paying off not for every jettisoned worker, some of whom may never recover, but for the next generation, which will find its life chances greatly enhanced.
Underneath the bad news that has obsessed so many people, he says, positive trends have been gathering strength.
Business investment, for example, has been on the rise since the middle 1980s. Entrepreneurs find it easy to raise money by going to Wall Street and selling stock.
The U.S. leads the world in technological innovation. That’s the real bridge to the 21st century. A high percentage of people are working today. Creeping improvements in productivity have helped hold inflation down even though wages are now edging up. Personal savings rates are rising toward 6 percent, thanks in part to the baby boomers’ new focus on retirement.
Stocks are their investment of choice. Foreign money is also flooding into the American market. Internationally, the United States is now the place to invest. All this suggests that the rise in stocks isn’t a bubble or a dream, Sinai says.
Bull markets do overshoot. But then they regroup and rise again. By some measures, stocks are highly overvalued. Dividends, for example, are unusually low. But by other measures, including price/earnings ratios, stocks are at the high end of their normal range.
The smaller stocks haven’t kept up with the big stocks that make up the Standard & Poor’s 500 stock average. Maybe the S & P; will drop, to store a more normal balance between small stocks and big ones. Or maybe the smaller stocks will catch up an investment opportunity for investors who look for value where prices are relatively low.
It usually takes a recession to stop a bull market and push stocks into a downward trend. A bear market is generally defined as a drop in the market averages of 20 percent or more. But Sinai and most other economists see none of the imbalances that cause recessions.
That doesn’t mean that investors are home free. It’s not unusual for stock prices to drop 5 percent to 15 percent in a market whose basic trend is up.
The proximate cause of such a temporary drop might be a small rise in inflation, due to tight labor markets and a small hike in interest rates by the Federal Reserve.
The other risk is a sudden shock, such as the overthrow of the Saudi Arabian monarchy, which would interrupt U.S. oil supplies and run energy prices up. Low inflation is key to keeping the American miracle alive.
A quick word about foreign stocks. The world is now copying the United States, Sinai says striving for low inflation, low interest rates, fiscal restraint and business restructuring. He cites Germany, Canada, Mexico, Argentina and Brazil, among others, with Japanese restructuring to follow soon.
Assuming success, these countries could mimic America’s long and profitable run, both in business profits and in stocks. One mathematical note: The current market rise isn’t quite as stupendous as it sounds. When the Dow Jones Industrial Average goes from 1,000 to 2,000, it has risen 100 percent. The rise from 6,000 to 7,000, however, is a more modest 16.7 percent.
Conversely, a drop from 7,000 back to 6,000 is only 14.3 percent, and would set the market back just four months. Whatever happens, the rise has been astonishing, especially at a time when so many people are moaning about what’s wrong with America. Just for a moment, tune into some of the things that are right as the stock market clearly has.
Talking tax reform
Let’s talk real tax reform. Not a tax credit for college tuition. Not a $500 credit per child. Not cutting the tax on capital gains. That’s political pandering. Worse, it’s guaranteed to mess up the tax code even more.
You don’t believe me? Look what happened last year in the pander department. Congress passed three minor, pre-election tax laws that handed out new deductions and credits.
Those little nothings made around 655 changes to the tax code, says economist and tax-policy expert William Gale of the Brookings Institution in Washington, D.C.
Voters claim to want simplified tax returns. But they change their tune when Congress proposes tax breaks that put money in their pockets.
True reform wouldn’t hand out tax pork to this or that constituency. Instead, it would simplify the system, lower tax rates and get rid of most itemized deductions (deductions are a form of tax welfare for the monied class).
Ironically, Congress tried to do exactly that in 1986. It passed an exemplary tax-reform law that was shaped in large part by the Treasury Department under President Reagan.
That law cut the top tax bracket to 28 percent from 50 percent, nearly doubled the personal exemption and increased the standard deduction.
To help pay for the cuts, it eliminated some beloved tax gambits, such as the write-off for interest on consumer debt.
In 1986, 60 percent of taxpayers used the standard deduction. By the most recent numbers, it’s 71 percent. That’s simplification in itself.
But instead of continuing on that path lower tax rates, fewer taxbreaks, simpler returns old habits came creeping back. Politicians love to vote for juicy tax indulgences. People love to receive them. Bit by bit, we turned away from what the reformers wrought.
Syndicated columnist Jane Bryant Quinn can be reached in care of the Washington Post Writers Group, 1150 15th St., Washington D.C. 20071-9200.