Month: August 2009

In the wake of the global financial crisis of 2007-2009, economists have cause to ponder the adequacy of their intellectual frameworks for understanding the way economies, and especially systems and markets, function. Many of what had come to be widely-accepted verities – including the ‘efficient markets hypothesis’, the merits of self-regulation, the assumptions that people behave in rational and predictable ways, the use of statistical models to measure risk – have been seriously challenged by the course of events. So too has our reputation for being able to forecast crises and cyclical turning points.

Saul Eslake, The Shann Memorial Lecture, University of WA, 19/8/2009

We need a new science of macroeconomics. A science that starts from the assumption that individuals have severe cognitive limitations; that they do not understand much about the complexities of the world in which they live. This lack of understanding creates biased beliefs and collective movements of euphoria when agents underestimate risk, followed by collective depression in which perceptions of risk are dramatically increased. These collective movements turn uncorrelated risks into highly correlated ones. What Keynes called ‘animal spirits’ are fundamental forces driving macroeconomic fluctuations.

Paul De Grauwe, Financial Times, London, 22/7/2009 – "Warring economists are carried along by the crowd."

Bull markets are born on pessimism, grow on scepticism, mature on optimism, and die on euphoria. BUY when others are despondently selling. SELL when others are greedily buying. When too many people are doing the same thing, the market will adjust. Bull markets are driven by liquidity.

Ecinya Investment Rule #4, 1997. Refer to ‘Market Wisdom’ tab for the complete set of rules.

Firm predictions are out of the question. The future depends on the policy responses the financial crisis will provoke. But we can identify the problems and analyse the policy options. We can also make some firm predictions about what the next era will NOT look like. The post-World War ll period of credit expansion will not be followed by an equally long period of credit contraction. Boom-bust processes are asymmetric (not identical) in shape: a long, gradually accelerating boom is followed by a short and sharp bust. Consequently, most of the credit contraction can be expected to occur in the near term.

The Bush administration shows no understanding of the predicament in which it finds itself. Eventually, the US government will have to use taxpayer’s money to arrest the decline in house prices. Until it does, the decline will be self-reinforcing, with people walking away from homes in which they have negative equity and more and more financial institutions becoming insolvent. The Bush administration resists using taxpayer’s money because of its market fundamantalist ideology and its reluctance to yield power to Congress. It has left the conduct of policy largely to the Federal Reserve. This has put too much of a burden on an institution designed to deal with liquidity, not solvency, problems.

George Soros "The New Paradigm for Financial Markets: The Credit Crisis of 2008 and what it means."

The sharemarket posted its biggest one-day gain in more than a month yesterday, underpinned by US central bank optimism about the prospects for global recovery as well as earnings upgrades flowing from the local profit reporting season. The S&P/ ASX 200 Index added 135.5 points, or 3.3 per cent, to close at 4426.1, as upbeat US housing data and optimistic comments from Federal Reserve Chairman Ben Bernanke bolstered confidence about the global outlook.

Front page Australian Financial Review "Bernanke’s optimism lifts shares."

PROLOGUE

This week’s Insights follow on from last week’s "Navigate the Noise" and run in tandem with each of our Insight articles since our new site began on a stand-alone basis on 28 July (vis previously being part of the E*Trade web-site).

THE MARKETS’ ENDLESS DANCE

Economic recoveries are a waltz, and the market since the March lows has been doing the tango, the cha cha cha, and in some cases, rock and roll. The ASX All Ordinaries and the S&P 500, our global proxy, have performed as follows:

XAO/ S&P

• Wave 1 : 43 days UP +25.6%/ +37.4%
• Wave 2: 5 days DOWN -4.1%/ -5.1%
• Wave 3: 20 days UP +8.1%/ +7.3%
• Wave 4: 20 days DOWN -6.7%/ -7.1%
• Wave 5: 31 days UP +17.0%/ +16.6%

Overall primary trend UP from March lows: 119 days XAO +39.8%/ S&P 500 + 47.3%

Our models are suggesting that most stocks are at or near fair value and that forward earnings forecasts do not suggest a significant advance from here. Once forecasts are boosted by a more robust macro-economic picture of enduring quality, the market will have good reason to continue its advance.

About Mr Bernanke

Firstly, Mr Bernanke is an economist and an acknowledged expert of ‘The Great Depression’ so that his policy response has been appropriate. However, it has also been accompanied by a Congressional/ Presidential fiscal stimulus as great as that which followed the end of WWll. Mr Bernanke is up for re-appointment in about October of this year, as his term as boss of the Federal Reserve ends. Many believe he has saved the world economy from a serious depression-type melt-down, and others believe he is the architect of the next great crash. But it cannot be said by the AFR or anyone else that his remarks were ‘upbeat’ and ‘optimistic’. His remarks were heavily qualified, and though some tinges of optimism were evident, the colour of his remarks were a brighter shade of grey, rather than of vibrant red or yellow.

Secondly, though Ecinya attributes much of the ‘crash’ to Mr Greenspan (Mr Bernanke’s predecessor), Mr Bernanke was in The White House as Chairman of the Council of Economic advisers, and no statement of the coming melt-down, the manifest excesses or banking irregularities flowed from The White House. So, Mr Bernanke’s recent record is not without blemish. In fact, it could be said that he followed Mr Greenspan’s view of central banking, as being nearly always politically correct or obfuscatory to induce a sense of comfort. Central banking in the US appears to be only notionally independent, rather than strictly independent. The checks and balances were/ are not in evidence, at this stage of the recovery process.

The US Housing numbers

True, sales of existing dwellings rose at twice the rate they had risen in the previous month, and July was the fourth month of successive rises. However, the AFR reporting neglected to point out, at least at the beginning (our editor stopped reading after the second paragraph), that median house prices fell by 1.9% over the previous month, and on a year-over-year basis have fallen by 6%, and in some regions by double-digits. Given that the median house price is $US168,800 it could fairly be said that the United States housing market is the Aldi of the developed world. Houses are cheap relative to incomes and per-capita GDP.

Summary

The point we are making is that although the share-market rose, the attributed reasons are spurious, shallow, and misleading. A better explanation lies in a more holistic story that repossessions are high and speculation is being fuelled by massive liquidity injections by the Fed. Though housing has nearly stopped its precipitous decline, the housing turn-around only begins when both housing volumes and house prices move up together.

BUT

this ‘made in America’ global recession will, on Thursday of this week, be hit with a BIG important number. The Office of Budget and Administration is expected to report that the US domestic budget deficit forecast over the next 10 years will move from a projected deficit of $7.1 trillion to a projected deficit of $9 trillion. That’s bad news! But the ‘good’ news is that the 2009 deficit will go down from an estimated $1.84 trillion to $1.58 trillion, a reduction of 14%! Under President Bush there was considerable anguish when the actual budget deficit reached $400 billion, approximately equal to 3% of GDP.

At $1.58 trillion the ratio of debt to GDP is around 11.8%. Will this number be the catalyst that drives the US, and other global markets, down? During the week Warren Buffett warned that the US could become a ‘banana republic’, given the growing mountain of official debt. He is reported as having said: "Unchecked carbon emissions will likely cause icebergs to melt. Unchecked greenback emissions will certainly cause the purchasing power of the currency to melt."

We can only wait and see. America cannot afford a national health scheme in its present economic state, but some comfort can be taken that a national health scheme that has to be paid for will not emerge until 2010 at the earliest as the debate ebbs and flows.

AND

Iraq and Afghanistan are still consuming significant resources

AND

US unemployment continues to rise, retail sales continue to fall (except for motor vehicles where the government ‘cash for clunkers’ scheme is proving effective), and the oil price is somewhat elevated above $72, threatening to go higher.

IN CONCLUSION

Though Rosy Scenario is on the dance floor with all of her beguiling charm and flamboyance, dancing with her and falling under her magical spell is dangerous folly at this stage in the markets’ advances. The market lyrics are out of sync with the economic tune, being too far advanced for our comfort.

What is noise?

"Noise" (physics): A usually persistent disturbance that obscures or reduces the clarity of a signal.

American Heritage Dictionary as expressed in Richard Bernstein’s "Navigate the Noise – investing in the new age of media and hype", 2001.

Games played amongst even professional investors of Old maid, Snap, and Musical Chairs can be played with zest and enjoyment, though all the players know that it is the Old Maid which is circulating, or that when the music stops some of the players will find themselves unseated.

John Maynard Keynes circa 1930s.

Ultimately, success in the stock-market comes down to you, for no matter how much we know, the future is difficult to predict, both in relation to time and dimension. No one cares as much about your money as you do and Ecinya encourages you to develop sources that can assist you to take advantage of many sources of information. In looking at source material be mindful of confirmations and divergences of opinion. The aim of the Ecinya pages is to help you to build a set of thought processes to assist you to successfully invest, and occasionally trade. It is considered that occasional trading can enhance performance. In defining the Ecinya approach, which is almost exclusively fundamental, our proximate matrix is 35% fundamental company, 25% the global economy, 20% the national economy, 13% technical analysis, and 7% quantitative analysis.

"About Ecinya", written 2001.

In a society confronted with social, political, religious and ethnic conflicts, whose victims are often children, the youth and women, sport and the Olympic ideal provide hope, and the sports field remains the best place for peaceful confrontation. Sport is a school of human values which we frequent when we are young and need to make further use of as a means of preventative education, in order to face the scourges which poison our society. Investing in education and youth is an investment in the future.

Juan Antonio Samaranch, at the XXVll Olympiad, Sydney 2000.

THIS WEEK’S THESIS

THE GAME OF GOLF

Once upon a time when our editor was but a young man (from age 9 to age 16) he played competitive tennis, man against man; one man or team lost, one man or team won. At the end of the season the scores were tallied, the finalists determined and the finals played, and the prize-giving night awarded the trophies to the victors of the various divisions. The game was really all about winning and losing. The best player in our team of six had his mother in attendance each Saturday and she would critique the play of her son’s partners ("noise"), but her son always played without blemish or error. On one notable occasion her son’s partner carried the day and the team of two qualified to play at Sydney’s then home of tennis, White City, in the Milo Cup. On that day she remained silent lest her congratulations of her son’s partner would reveal the shortcomings of her son on that fateful day. Such is life and such are the rigours of intense competition. At age 17, our editor found golf, and his life was changed forever.

GOLF is very different to most competitive sports. Here is a sport where the course is the master and you have only yourself to compete against in that context. Our editor plays each Saturday in the club competition with 3 mates selected from a wide circle of mates who have been members of the club together for many years. As the game is being played there is frequent exclamations of "good shot", or "bad luck". There is a consistent and certain joy in one of your playing companions playing well, particularly if it results in him winning the day’s competition, which in some cases results in having your name ‘on the board’ along with past winners of that particular trophy. This coming Saturday our editor will play with three mates and two of them will be past winners of that day’s competition, The Captain’s Trophy, an event of considerable prestige.

BUT WHAT HAS THIS TO DO WITH THE STOCK-MARKET?

Golf is a game played in isolation, the only person you have control over is yourself. Though you have 192 players in the field, the progress of only four participants is known to you, for good or ill, yourself and your three companion golfers. One of you could have the best score of the four, and a score that is considered to have likely won the day, though players are still ‘on the course’. As you enter the clubhouse for the mandatory drink and discussion, you meet other players who have completed their round and discover that someone has had a better score than the best of your foursome. Though you have not won the day, you have played well. That ‘someone’ with the better score may also not have won. We won’t know that until the day’s competition is complete. Every player has a handicap which represents an assessment of their contemporary ability. Our editor in his youth played off six, so that a round of 78 (72 plus 6) meant that he played precisely to his attributed ability. As of today his handicap is 16, so that a score of 88 reflects break-even or par for him. The idea in golf is that your good shots exceed your bad shots. In the market, the idea is that your good decisions exceed your poor decisions and that you are not blown out of the water by being over-weight a bad decision.

THE STOCK-MARKET is a game of relativities; your handicap is your experience, your ability, and the time you care to devote to investing, and occasionally, trading; the other players are numerous and what they are thinking is largely unknown to you, though some clues are contained in the market aggregates; every day in the market is a brand new day; the unexpected can happen, the bad bounce, the fortunate bounce. The stock-market requires effort, discipline and patience, so does golf. Your performance is a matter of record. When you act upon a decision the outcome will not be revealed for some time, the stock may go up or down. If it goes down you may re-visit your assumptions and buy some more. Past success does not guarantee future success. Your reading of the market may be awry, the timing may be out of kilter. ECINYA has always suggested that in a bull-market focus on price and momentum; in a bear-market focus on value. Sometimes it is difficult to tell whether, or not, you are in a bull or bear-market, or participating in a rally or retracement in either context. Today, much of our thoughts revolve around that complex question; Has the recession ended? What will shape the recovery? Are the banks fully provisioned? Is there more bad news to come?

THE NOISE

Now that we have compulsory superannuation in Australia the stock-market has become a feature of our daily lives. We are all aware of The Dow, moves in global stock-markets, we know the name of The Reserve Bank Governor, the Treasury Secretary; their speeches are played on our TV sets. Interest rates, a dominant economic variable, are discussed ad-nauseum. Housing prices feature prominently. If you have Foxtel you have a wide range of business programmes of which Sky Business, CNBC, and Bloomberg are the most notable. CNBC is largely ‘infotainment’ and the commentators are made up of good-looking females, earnest young men, and a few old sages to give a balance. In fact "balance" and "perspective" are alleged features of the broadcasting commentary. But there are also a few ‘ratbags’ who rant and rave over the day’s affairs. When a villian is caught his crime, his motives and his detainment are reported with zeal and regulatory agency failures recognised. Examples of this are the recent episode with Mr Madoff, the sub-prime calamity, Storm Financial. People on the infotainment channels who called the market make guest appearances to forecast the future and dwell on the past whether, or not, they anticipated the likely course of events. There is a lot of noise everywhere.

NAVIGATING THE NOISE

An old adage in newspaper publishing is "90% of the message is in the head-note." But generally the day’s head-notes tend to follow, rather than lead the market; if the market is up the stories are generally bullish, if the market is down the stories are generally bearish, if the market is steady, the one lead head-note is generally bullish, the other generally bearish or neutral. Recent examples on the same day from The Australian Financial Review Market Wrap lead-page:

• 18/8/09: Harsh reality sinks shares/ Sustained recovery hinges on consumers.
• 12/8/09: Experts sceptical over earnings/ $A soars to 13 year peak against pound.
• 10/8/09: Pundits factor in early increases/ RBA holds longer-term view of China.
• 27/7/09 : Word of recovery is spreading/ Strong $A dulls shine of overseas orders.
• 24/7/09: Don’t miss boat analysts warn/ Alarm bells ring over commercial property.
• 23/7/09: Shares rise seven days in a row/ Price of stimulus may be a slow recovery.
• 22/7/09: Gains prompt soaring hopes/ As crisis eases, the next move will be up.
• 20/7/09: Hopes high for reporting season/ Busy week to test new found optimism.
• 15/7/2009: Rosy data sparks dash higher/ Boom on way for corporate funding.
• 14/7/09: banks and resources wipe gains/ Earnings recovery down the line.

From 13 July until 14 August in All Ordinaries terms the market rose 17.8% and our global proxy, the S&P 500 rose 14.2%. These numbers were clearly unsustainable and last night the S&P fell 2.5%. A retracement is almost certainly underway and this, in our view, will last 5 to 40 days with a most likely time-frame of circa 20 days. The recession is not over; the world has not returned to sustainable growth. Keynes would say that the ‘game of musical chairs is being played with zest and vigour and some will find themselves unseated’. Volatility is high. Though the reporting season is meeting our modelled expectations, those expectations are low to lowish, and the euphemism for the days ahead from most of the managing directors is "challenging."

So how to read the newspapers: Firstly, we recommend The Australian and The Financial Review, with an occasional glance at Ross Gittins in The Sydney Morning Herald. Go through the head-notes to get a sense of ‘bullish’ or ‘bearish’, mark the articles that you wish to return to, and then read them in full. Sometimes the head-note can be misleading. If a stock attracts you, go to a chart and look at the trend. Then visit the company’s web-site to get a feel for what the company does. If you can access research reports then do so. We recommend Aegis Equities Research and Huntleys/ Morningstar. Focus on sales and earnings growth.

THE IMPORTANCE OF HAVING INVESTMENT AND TRADING RULES

Rules provide a framework around which you can make investment and trading decisions. The Ecinya Investment rules are contained under our tab-heading ‘Market Wisdom’ though we do suggest that you devlop your own rules and benchmarks. Over the course of the next few months we will add the rules from a number of other published sources. There are many ways to think about investment, just as there are many ways to swing a golf club to good effect. BUT there are certain fundamentals that have been proven to work on a sustainable basis over the years. In golf you must be balanced, accelerate but don’t rush, avoid bouts of despair and euphoria; when in trouble take your punishment, get back to a position where you can play an aggressive shot towards the target; play one shot at a time etc. Success in the stock-market is similar – ‘let your profits run, cut your losses’; if it’s too good to be true it generally is; stay alert to what is going on around you. An elevated noise level is a sign of a potential turning point – up or down.

TACTICS

We do not like the expression ‘long term’ and our models take an 18 month view on a rolling full year basis. This means that after we have factored in the actual results for the year ended 30 June 2009, we will have a full year view for the year ended 31 December 2009, the year ended 30 June 2010, and the year ended 31 December 2010. These rolling full year views obviously morph into a longer-term view. But within that context we have a tactical trading perspective to assist with timing and asset allocation between equities and cash. These tactical positions are described as (1) Going with the flow, with conviction. (2) Going with the flow, without conviction. (3) Going against the flow, with conviction. (4) Going against the flow, without conviction. (5) Ambivalent, uncertain, relatively clueless

MACRO ECONOMICS

Briefly, we cover the macro in a simplistic acronym – ‘ICE’: Interest rates, Confidence, and Earnings. Of these, Earnings is generally the most important. The ECINYA Market Barometer demonstrates where we are in the market cycle and to, a lesser extent, the economic cycle.

We access The Economist and ANZ Economics, particularly their Quarterly Outlook document and The Wall Street economics panel. We view all economic forecasts with a degree of scepticism and are more interested in trend or mood changes than the actual numbers themsleves. We also talk to a lot of small businesses to gauge how sales and sales trends are. When visiting super-markets and other retail shops, gauging the difficulty of getting a car space, talking to cab drivers, our spouse etc. There is a lot of observable information about. We know what our friends are doing. We talk to our travel agent on a regular basis, even though we are infrequent overseas travellers. We talk to people who have just returned from overseas. John Mauldin is an American financial adviser who writes regularly on the blogosphere and Paul Kasriel is an American economist who writes clearly with precision. When we see views expressed by them we print them out and highlight and underline their conclusions. And there is always Google.

CONFIDANTS

Over the years, associations are formed with people who are investing in the market. We talk to these people on a regular basis. We call these people our ‘confidants’ and occasionally refer to their thoughts and actions in the ECINYA pages, either to agree or disagree. You should do the same. We try to avoid falling in love with our various theses and if market action is proving us wrong we re-visit our assumptions.

BOOKS

IF we had just two books to recommend on the stock-market they would be Victor Sperandeo’s "Trader Vic – methods of a Wall Steet master" and Richard Bernstein’s "Navigate the noise – investing in the new age of media and hype". Both of these books belie their titles and offer significant insights beyond that suggested by their titles.

THE OVERALL MESSAGE is that you have to develop your own sources of insightful information, balanced against what you see and read around you. Write down why you are investing in any particular stock in a note-book and then re-visit your notes when something goes terribly right or terribly wrong. Naturally we are hoping that ECINYA becomes one of your trusted sources. Our aim is that the ECINYA pages, over time, assist to remove a lot of the ‘noise’ from your investment deliberations.

 

 

 

 

 

 

 

 

 

 

 

‘Crony’: A friend or companion

Collins Dictionary

It is a mixture of money and politics that Australians have become accustomed to over the last decade. But this culture of paying for access has become increasingly problematic in recent weeks as lobbying scandals make headlines nationwide……….

Dick Warburton, a former Reserve Bank director and prominent company director, has had enough. He is scathing about the fund-raising culture that has developed in Australia. The former chairman of David Jones and Caltex says "it has become a racket"……………….

Warburton, as an elder statesman pulling back from corporate life, can be frank. For most others it would be a poor business decision to speak out against a system that both major parties rely on to fill their election coffers……………..

"Access can now be purchased, patronage is dispensed, mates and supporters are appointed and retired politicians exploit their connections to obtain ‘success fees’ for deals between business and government," Fitzgerald told an audience in Brisbane last month.

Australian Financial Review 8/8/2009 "Democracy For Sale."

With Labor governments mired in cronyism as established fact all up and down the eastern seaboard, the emerging irony is this: it may yet be the Liberal Party that emerges to save what reputation for decency these shabby outfits have left.

The man most likely to restore Labor’s moral compass at both the state and federal level is Michael Ronaldson. Ronaldson is well known in Victoria, but less so outside that state. He was Malcolm Turnbull’s numbers man against Brendan Nelson. He remains part of the Opposition Leader’s inner coterie. Which means he’ll be a busy man this week.

He’s survived cancer and still smokes. That makes him a mug when it comes to his health and I’ve told him so. But he’s no political mug. A direct talker in the Australian tradition, he’s known almost universally on both sides of politics as "Ronno". He’s determined; when cancer felled him he was forced to retire from his seat of Ballarat. That was in 2001. He came back to Canberra via the Senate in 2005.

And he knows a crooked system when he sees one.

The "crooked system" I refer to is campaign financing. And as it turns out, as shadow special minister of state, it’s the system Ronaldson has responsibility for. When Labor’s moral warhorse John Faulkner asked for and was given the Special Minister of State portfolio by Kevin Rudd after Labor’s 2007 election victory, he was on a mission to clean up political funding in Australia.

Because, like Ronaldson, Faulkner recognises that all those rent seekers in suits, sitting sleekly around the likes of Joe Tripodi in Jordan’s Seafood Restaurant outside the ALP conference at Darling Harbour a fortnight ago, are bad news for the democratic process.

Glenn Milne writing in The Australian 10/8/2009

To talk about economics requires more and more, that one write about politics.

Paul Krugman "The Great Unravelling" 2003.

ECINYA TEXT

ECINYA has long believed that Australia had the opportunity to adopt the best of Britain and the best that America has to offer. Though we are fighting the ‘good fight’ and generally winning, the opportunity to adopt the worst of both of these countries’ cultures is alive and well. One of Ecinya’s enduring obsessions is that the 3 year Federal parliamentary term leads to poor policy formulation and, too often, poor execution. The daily battle between scarce resources and unlimited wants and needs in context of tight political deadlines all too often leads to poor outcomes. The formal expression of this is ‘misallocation of resources.’ In a parliament as dysfunctional as our current parliament, with a Leader of the Opposition on training wheels, and a Prime Minister full of bellicose bluster sprouting economic hog-wash in local and global forums and writing convoluted essays, the problem of misallocation of resources looms as potential policy failure.

Towards a solution

Crony capitalism is one of the factors that has brought the United States of America to its economic knees. We should be consciously aware of the American model.

The recent debate surrounding alco-pops demonstrates the dilemma faced by politicians. We assume the alcohol, pubs, gaming industry are keen supporters of democracy and offending them might be dangerous for many, although we doubt that sports sponsorship leads to binge drinking, except for the highly paid sports stars themselves, and that might be a function of their income rather than advertising sponsorship. The recent revelations of connected and vested interests in Queensland is but another example of a system veering towards the American model.

How about Australia leads the world in electoral reform, and its hand-maiden, electoral funding transparency

Australia creates The Electoral Bank Fund ….. it collects donations made by interested parties, corporations and individuals, which are tax deductible, and also the Treasury makes a contribution as well. The funds are invested and earn a return between elections.

Once the election is announced, sitting members receive an allocation of funds on some formula basis, and pre-selected candidates do as well.

Any such candidate can ask for extra funds provided he/ she puts up some adequate security. Moneys spent on winning or losing an election that are not reimbursed become tax deductible.

An independent candidate can also borrow funds on a secured basis and contest the election. They will have a portion of his/her loan dissolved, provided they win a certain number of votes. Perhaps they have to win say 5% of the votes to qualify for dissolution of portion of their loan. If they were to win outright, or to win say 25% of the votes, their loan would be extinguished in its entirety, subject to some defined limits. Bribing voters by cash payments would not constitute ‘allowable expenditure’. ‘Allowable expenditures’ would have to be subject to adequate audit and verification.

Candidates would not be able to use funds provided from any source, be it union, corporate or otherwise.

All fund raising activities would have to be accredited and the funds remitted to the Electoral Bank. Fund raisers could nominate a beneficiary of their efforts, but it would not necessarily be binding upon the Bank Trustees, except in the case of an independent where, subject to source, extra funding might be allocated irrespective of win or loss.

For relatively safe seats funding might be scaled to reflect the realities that a loss is unlikely so that contestable seats are ‘over-allocated’ funds wise.

Obviously, we at Ecinya, do not have the experience or the information to know how to design the system in its entirety to make it workable BUT this brief essay may contain the germ of an idea that might just work to keep our democracy healthy.

In passing, we note that the major candidates in the last American election spent over $1 billion: circa $730 million from Obama, about $330 million from the McCain camp and about 4 independents spent another $60 or so million.

In Australia, the last election was our most expensive ever, according to Google, and some $163 million found its way from the private sector back to the private sector.

Resources are scarce; if they are allocated according to patronage the outcomes will be sub-optimal. State governments are struggling for revenues and the Federal government has become significantly interventionist, ostensibly sanctioned by a dead prophet in John Maynard Keynes. It is relatively clear that the Federal government is keen to get to the polls on an exaggerated debate about climate change after winning the second-hand Toyota utility truck debate. Additionally, we are going to soon have a limited debate about the meaning of tax reform as the Henry report arrives before the next election, which will presumably be aimed at replenishing public coffers. Electoral funding and favours asked for and given, seems an important issue for taxpayer scrutiny, for in the end they pay the piper for his tune. The ‘tune’ is estimated to be something above $200 billion of public debt. If this debt achieves little because a lot of it goes to cronies, then that would be a monumental waste of resources.

The success of the exceptional Hawke-Keating policy, compulsory superannuation, demands corporate transparency. If we do not have transparency at the top of our political system, it is hard to imagine that it will exist in sufficient quality in the middle and at the bottom. Electoral reform and an extended federal term is long overdue.

Though I am not wholly convinced that the government will be able to maintain the spending discipline required to return the budget to surplus by 2015-16, or to ‘pay off’ its net debt by some time in the early 2020s, as foreshadowed in the recent Budget. Achieving those goals will, I think, require ‘harder’ decisions, and more of them, than were contained in this year’s Budget. But if that timetable were to slip by two or three years, I for one would not be losing much, if any, sleep over it.
Let me conclude by noting that the spirit of Keynes the economist has been very much alive during the past year, and that we are all much the better for it.

Saul Eslake, Brisbane Polo Club, addressing a luncheon hosted by The Australia-Israel Chamber of Commerce and The Australian Business Arts Foundation 11/6/2009

 

Professional investment may be likened to those newspaper competitions in which the competitors have to pick out the six prettiest faces from a hundred photographs, the prize being awarded to the competitor whose choice most nearly corresponds to the average preferences of the competitors as a whole; so that each competitor has to pick, not those faces which he himself finds prettiest, but those which he thinks likeliest to catch the fancy of the other competitors, all of whom are looking at the problem from the same point of view. It is not the case of choosing those which, to the best of one’s judgement, are really the prettiest, nor even those which average opinion genuinely thinks the prettiest. We have reached the third degree where we devote our intelligences to anticipate what the average opinion expects the average opinion to be. And there are some I, believe, who practice the fourth, fifth, and higher degrees.

John Maynard Keynes, around the 1930s

 

ECINYA COMMENT

We are nowhere near as relaxed or comfortable as Saul with the concept that the re-leveraging of the public sector is an entirely appropriate way to de-leverage the private sector. However, we are less uncomfortable in knowing that an economist as capable and thoughtful as Saul will ‘not be losing much sleep’ as our Federal budget surplus is replaced in hasty fashion by a deficit 10-12 times larger. We do not have a great deal of confidence in our government’s ability to allocate scarce resources effectively and efficiently.

Keynes was born in 1883 and died in 1946 and was particularly effective in persuading governments that the economic damage wrought by the combination of the great depression and World War ll could be remedied by governments spending and borrowing to boost economic activity. It can fairly be said that Keynes may not quite see the post 2000 world as he saw it between 1928 and 1946. The speed of economics and politics and the interaction between the two might have been somewhat different in his day. But we will never know.

But we can say that Keynes was an economist who based his concepts and theories not on precise macro, mathematically driven models, but on the economic behaviour of societal elements. These included producers, developers, consumers, governments, entrepreneurs etc. Data had to be assembled and evaluated in context of attitudes and motivations. He regarded the world as generally dynamic and capable of wild swings due mainly to wild swings in peoples’ perceptions.

Prime Minister Rudd, as part of his stimulus rhetoric, has cleverly said "We are all Keynesians now". However, we are of the opinion that careless spending would not have been sanctioned by Keynes and we suspect that much of the borrowing and the spending will be carelessly driven by politics as much as economics.

It seems hard to reconcile Keynes with the concept of the cash handout, which consumers spend on imported goods or a day at the races. But this is where about $10 billion of taxpayer funded debt has gone; or to a school’s programme that builds facilities not necessarily needed at this time.

So as governments in America and Australia are congratulating themselves on the good works wrought by fiscal stimulus, it seems reasonable to say that much of the stability that has been restored has had more to do with monetary policy (lower interest rates and printing money) than dubious concepts of borrow and spend.

America had little choice but to reflate as it has. ‘Globalisation’ has been a charade perpetuated by America’s bankers looking to support American manufacturers chasing cheap labour outside of the USA. Immediately after WW2 it was Japan followed by South Korea, Taiwan and now China. America lost the will to manufacture and has now lost many of the skills and structures, including a dynamic, manufacturing, education base. But America needs time to recover from its manifest malaises and profligate consumerism, and though the fiscal and monetary stimulus is probably excessive, it should do more good than harm.

Taking Keynesianism to extreme positions could create future problems and make the world vulnerable to the next ‘Black Swan’ event. Much of America’s problems are structural, brought about by absurd interpretations of Reaganomics.

If we had one economic input to suggest, for Australia, it would be the abolition or suspension of that worst of all the taxes: the dreaded payroll tax.

KEYNES THE INVESTOR

In going with the current flow of the market with little conviction of the underlying macro and micro fundamentals supporting current price and price momentum, we sometimes feel like a competitor in Keynes’ ‘six prettiest girls’ competition.