The mainstream medias financial news outlets differ little from their traditional news counterparts: they focus on the extreme, preferring stark gloom or extreme exuberance over enlightened analysis. This kind of oversimplification, though, is unhelpful, particularly in the complex and multifaceted realm of economics. Instead, investors should shy away from the medias overzealous generalizations and instead study and understand the fiscal policies that will ensure a strong economy.
The Medias Misunderstanding
The press has dubbed the current and ongoing economic recovery as the jobless recovery, latching on to each months job report without tying it to the overall economic picture. Even after March's exceptional job creation report, in which the total far exceeded expectations, the media persists in its fixation on job losses, the false economic recovery, and faulty economic policy, all of which are not grounded in facts.
What the media doesn't understand, though, is that our nations GDP cannot be called anything other than robust, having just turned in two of the strongest quarters in 20 years. With such productivity in the workplace, sluggish employment numbers are far from surprising, and not alarming. In fact, the current unemployment rate of 5.6% is the same level which the Fed and most economists labeled as the natural rate of unemployment just a decade ago. Such a relatively benign unemployment rate was widely believed to be accounted for by job transitioning, and any rate below the natural rate was believed to be inflationary and harmful to the growth of the economy. Since unemployment is considered a lagging indicator for the economy, once the employment numbers come in, the recovery is well underway.
Today's Fiscal Policy Isn't to Blame
Before the media blames recent fiscal policy for job losses that began before such policies were implemented, we should understand what jobs were lost and how. As a result of the nearly free capital and stimulative monetary policies in the late 1990s, the economy experienced a sizable bubble, mostly in the Telecom and Technology sectors. Put bluntly, many of the jobs created during the bubble era will never be replaced because many of the dot-com companies responsible for creating those new jobs were not viable businesses in the first place. Hundreds of companies hired tens of thousands of people because they had two things: an idea and capital. Unfortunately, these two things did not necessarily lead to customers or revenue.
Additionally, a commensurate surge in the building out of telecom capacity accompanied the over-hiring. Many of these jobs will simply never again be needed or used since much of the telecom infrastructure developed during this period of overinvestment in capacity will most likely become obsolete before demand catches up with the supply. It is not even logical to assume that these dot-com era jobs will be replaced with real jobs in a few years. The creative stage in our capitalist society got well ahead of itself and created excess capacity and capital that since has been destroyed or shut down. The economy was also subject to some huge external shocks as a result of the September 11 terrorist acts. The terrorist activity lengthened and worsened the recession, and as a result, many businesses have been hesitant to increase staffing with the new heightened risk of another potential attack that could have another negative impact the economy. Given all these factors, it is reasonable to assume that subsequent fiscal policy is not to blame for the slow job growth.
Increased Productivity Means Economic Growth
Additionally, the media hasn't made the positive link between increased productivity and growth in the global economy, focusing only on the short-term impact on employment. In the past decade, businesses have spent a significant amount of capital on technology, and that investment is paying off. The economy's productivity numbers are remarkable, approaching the best three-year streak in many decades. While many point to the increased productivity as the cause of U.S. losing 11% of its manufacturing jobs during the past five years, its important to note that this same level of decline in manufacturing jobs is global, illustrating that the capital-for-labor tradeoff is not just a theory, but alive and well.
History offers many examples of the decline of one type of job and the rise in new types after technological advances. For example, as food production became more efficient after technological improvements in farming equipment and the addition of fertilizers, seeds, and crop management, human labor needs were dramatically reduced on the farm, but increased in industries that created farm equipment. Today, food is more abundant and significantly less expensive than it was in the past, and is produced with only a fraction of the labor compared to the past.
It is clear that the process of improving technology and productivity has resulted in a tremendous improvement in living standards for the developed world, but not without considerable impact on productivity and jobs. Unfortunately, people change and grow at a much slower rate than the markets, resulting in some individuals offering skill sets that are no longer in demand. Many nations and industry groups have undergone government intervention to attempt to remedy this process, and the results have been very poor, usually because the marketplace does not respond well to central control, particularly when it is heavy handed. The main issue with government planning is that it is impossible to forecast tomorrows industries, just as nobody predicted the dramatic change in the marketplace over the past decade.
Instead, re-education, lifetime learning, and incentives for capital formation and access will go a long way toward reducing the social aspects of change and globalization. Fiscal policy in this capitalist society needs to focus on capital creation and opportunity, relying on the following market-driving principles:
- Stable value of account An economy's currency needs to be as good as gold and not subject to high degrees of volatility. Confidence in a currency allows businesses to put capital in place for longer periods of time and keep it in place, and investors are more willing to invest in countries with stable currencies. As a result, capital becomes cheaper and more available.
- Low regulation While rules and regulations are necessary to ensure the game is not rigged, regulations also add costs to companies without producing any revenue. Countries with too many rules and regulations can bury businesses in unnecessary paperwork, even creating regulations that completely conflict with each other. Such a scenario puts every business at the whim of the government powers and creates a setting ripe for corruption. Underdeveloped economies with deep government bureaucracies often burden businesses in this way, which helps to explain why capital does not flow to or stay long in these economies.
- Low taxation High taxes pull resources from productive businesses and transfer it to non-producing government bodies, impeding natural capital allocation while offsetting success. Clearly, some level of taxation is necessary, but we need low tax rates to compete globally and create new business. Arguments that higher taxes will better serve the poor do not take into account the governments inefficiency or inability in re-allocating wealth. Currently, government transfer payments to individuals comprise more than 50% of government spending, which means that if the money went directly to the poor in this country, then each family of four living in poverty would be given nearly $100,000 per year. Instead, taxes flow into the government apparatus and determine levels of power: power to get re-elected, power to control industry, and power to favor one faction over another.
- Free trade It is almost a universal truth that everyone benefits from free trade. The ability to control input costs and trade beyond one country's borders results in lower cost products for all. This concept is generally not debated until a specific industry, typically with some kind of clout, is brought into the mix. Like regulations, it is important to have a fair game in which all countries abide by the rules, but as a whole, countries that aggressively pursue free trade prosper.
- Private property rights Similar to having a stable currency, strong private property rights are critical to attract and preserve capital. Perhaps the best argument for these rights is to look at the lack of capital investment or business successes in places that have poor private property rights in order to recognize its importance.
- Consistent and fair rule of law Once again, the difference between developed and undeveloped countries is a rule of law that is fair and protects the individual, property, and rights.
As investors, we look at the changes in the margins of each of these six principles and try to determine the impact on capital creation and living standards. These principles boil down the fact that markets are quick to penalize actions that disrupt capital creation, and quick to favor policies that treat capital best. This observation has been borne out repeatedly throughout history, most recently in the markets rise following the implementation of a growth-oriented fiscal policy.
Regardless of the medias misguided linkage between our ongoing economic recovery and the overall job numbers, we recommend that investors take a broader view and recognize that maintaining policies that will keep the recovery on track is one of the best assurances that the natural extension to job growth will follow and lend even further support to the breadth and depth of the ongoing recovery. Fiscal policies that limit tax rates on businesses, incomes, dividends and capital gains provide incentives for wealth creation by enterprising individuals and companies, which will continue to enhance our overall economic picture