"Who's in Charge?"

Sydney M. Williams

Thought of the Day

“Who’s in Charge?”

November 4, 2011

The disconnect between what is going on in the world and markets’ reaction suggests a blithe ignorance with reality. Consider a few facts and recent events.

        1) We are a heavily indebted nation with total federal debt roughly equal  to GDP. Like the little Dutch boy who held back the sea, Fed Chairman Bernanke has been holding down interest rates by committing tax payers to continue buying government paper that pays less than inflation. Unlike the Dutch boy with his finger in the dyke, the Chairman cannot ultimately be successful. Natural forces will ultimately cause interest rates to move higher, yet the market prefers that the end game be ignored. November 23rd is fast approaching and with it the deadline for the final report of the Congressional panel on deficit reductions. Good luck!

        2) Europe is a mess. Greece is bankrupt. Portugal, Italy and Spain are not far behind. The problem has been one of living beyond one’s means, and a failure to recognize that when the cow dies there is no more milk. The market applauded when Greece, Germany and France once again kicked the bucket down the road. A democratic referendum, if successful, would have incorporated Greek citizens into being part of the solution in assuming the tough choices that will have to be made to stay within the Euro. Now riots will persist and the day of reckoning postponed. On Wednesday, BNP Paribas reported their third quarter earnings, in which they took a $7 billion charge for marking down Greek debt by 40 percent. The mark down was insufficient; more important: Why haven’t they been doing this over the past twenty-one months? What does it say about valuations other banks are carrying their sovereign assets?

        3) China. The developed world, like an aged and infirm parent, has been looking to their robust offspring as saviour. They expect a continuing availability of credit at low interest rates, while expecting to be able to continue purchasing consumer goods from China at below market rates, while selling what little they produce at above market prices. At the same time, they commend her for her supposedly enlightened fiscal and economic successes, while ignoring her blatantly undemocratic politics. In the meantime, her military strengthens, while ours weakens. We take comfort that we are way ahead in terms of arms, but we ignore the math of time and percent changes.

        4) Last evening Morgan Stanley priced 30 million shares of Groupon at $20 per share, 18 percent above the midpoint of its expected range. While I am not an analyst, a $12.7 billion market valuation for a company, which has had to update and change its prospectus at least twice because of discrepancies in the manner in which they account for revenues – a seemingly simple exercise – seems a tad expensive. According to Wikipedia, operating losses of $410 million exceeded revenues that year, which Bloomberg puts at $312.9 million. Indicating questionable confidence in the operation, 85 percent of a $1.1 billion venture capital raise earlier this year was used to repay early investors. The whole exercise smacks of late 1999 and early 2000, when no speculation was too rich for those who believed in the tooth fairy.

The market is a discounting mechanism and all of these concerns may be reflected in prices, and that Wall Street bulls may be vindicated. But, in my opinion, the risks we face are endemic. They require very tough choices. It has been mentioned by most that a lack of civility demands a conciliatory approach, whether dealing with Muslim terrorists, prudent versus prodigal Europeans, recalcitrant Chinese, or the public sector unions in the U.S. that are bankrupting our nation. The problem with that seemingly reasonable approach is that it fails to recognize the severity of the problem. For example, the President and much of the mainstream press maintain that the Occupiers of Wall Street have a legitimate gripe. (I will even concede a smidgeon of sympathy for their cause.) But the real truth is that they mostly are a group of lazy, ill-mannered, too often drug induced, young people who have no respect for individual or property rights. Clarity, not politically correct euphemisms, is needed in describing them and their so-called plight. The mismatch between unfilled jobs, in places like North Dakota, and the lack of jobs in so-called more desirable places like New York or San Francisco, suggest a lack of willingness to simply work – a condition unknown to people of my generation.

The trajectory we are on risks turning the U.S. into Greece. A dependency on the public sector ignores the fact that the public sector depends on the private sector. Without a private sector, there are no jobs. We need both groups; for we need teachers and soldiers. We need those who administer welfare and necessary social services. We need those who enforce the law and protect us in our every day lives. And we even need legislators. However, there is no money available for any of them unless we have a robust, capitalist-driven private sector. But this is not the message the Occupiers are receiving from the President. There is little in politics as dangerous as the well-intentioned liberal who appeals to the heart, while ignoring the brain.

All of this may be discounted in the market, but I worry. It certainly makes one concerned that the inmates are in control of the asylum.