The US securities markets are closed for Martin Luther King Day. I’m going to make only a brief post–and one not as directly associated with finance as usual.
As a growth investor, I’m a big believer in progress through creative destruction. I think the rate at which such change occurs accelerated during the Cold War period after WWII, and accelerated again when China decided to ditch central planning in favor of Western economics in the late 1970s.
Change isn’t easy. The forces of the status quo–the current economic and political leaders–in every economy are very powerful. They oppose change in any way they can, because it’s in their own economic interest to do so. In the emerging world, crunch time typically comes when the supply of new workers for labor-intensive export-oriented manufacturing (most often textile) is exhausted. Wages begin to rise. Operations become less profitable.
In theory, it’s clear what has to be done for the national good–migrate to higher value-added industries by worker retraining and by shifting government efforts toward creating infrastructure that attracts more sophisticated foreign companies willing to transfer technology.
In practice, the corporate and government beneficiaries of the way things are now use their clout to stop this from happening. Many times, because they’re rich and powerful, they get their way–to the long-term detriment of the local economy.
In the developed world, the prime example of the dysfunctional triumph of the status quo over progress is Japan. Once an incredibly dynamic economy, Japan has spent almost the past quarter century protecting the political and industrial establishment of the late 1980s. The result has been decades without economic growth, an industrial base in shambles, a sharp decline in the Japanese standard of living and the piling up of an immense government debt. Ugh!
To my mind, the EU has already traveled a significant way down the same path.
The US, although at an earlier stage, appears to me to be following suit as well. This despite the increasingly intense dissatisfaction of the electorate, expressed mostly as unhappiness with continuing deficit spending.
Pretty scary stuff.
Very recently, though, Washington appears to be having second thoughts about what it’s dong. The Republicans are now saying they won’t repeat last year’s fight in Congress over increasing the debt ceiling. The Democrats are saying they’ll prepare a budget that includes spending cuts. So we may be seeing some willingness on both sides to give up their rigidly partisan, protect the status quo, positions.
Certainly, it’s very early days. But what significance would a movement toward common sense and compromise in Washington have for stocks? The world already knows that the dysfunction story ends in an economic disaster. This possibility get expressed in investors paying a lower price earnings multiple for US stocks than they otherwise would.
How much multiple expansion would a less self-destructive Washington engender? One point? …two? Each point would represent about an 8% increase in the market level. So there’s a lot at stake.