Monday, December 29, 2008

No bailout bargain

It would be nice if the economy would have a Clive Huggins moment. Clive was my late father, and, having been raised in the Depression, was always fearful of the prospect of paying too much for something; thus, he was often punished by the rule that says you get what you pay for. The Christmas trees he brought home looked like the last survivors of a worldwide drought, while he grumbled that he had overpaid. I, on the other hand, being perfectly willing to pay a premium price where I can afford it (though, on my budget, such willingness is more often a state of mind than an actual monetary transaction) and am likely to gain real quality by doing so, sometimes find myself buying perfectly creditable items for absurdly low prices. When that happens—e.g., paying $85 for $250 luggage or $18 for a $120 lounging robe—I call it a Clive Huggins moment. One of the largest Christmas trees I ever had, a tree so large I actually had to block one of the doors of my apartment to find a place to set it up, cost me $2, which was ridiculously low even for 1974.

Jeffrey Garten, writing in Newsweek recently, was convinced that we are trying to nickel-and-dime our way out of the current financial crisis and that nothing but an investment of $1 trillion, or 7% of GDP over the next 2 years, will give the economy the necessary infusion of capital and inspire consumer confidence once more:

The fundamental issue is fear. Despite the colossal problems in the U.S. economy, the dollar continues to strengthen, which just shows that investors fear other markets even more. Billions of dollars are flowing into three-year U.S. Treasury bills, whose interest rate is zero, so investors are merely trying to minimize losses, not make money. Clearly, the governments have not succeeded in restoring calm. Their efforts look improvised, confused and ineffective to the average consumer or investor. The poster child for this problem is the $700 billion Troubled Asset Relief Program in the United States. The bitter congressional debates over the program and its shifting purpose—from buying toxic assets to injecting cash—has left the public feeling that Washington isn't quite sure what it is doing. For many weeks now, the Treasury and the Fed have appeared to be constantly on the brink of unveiling yet another new program, leaving the impression that even they don't believe the current ones will work.

I only wish someone could figure out the ratio of fear to real potential economic damage. Of course the government needs to spend, but how much? The exasperating thing is the extent to which the crisis is driven by emotion. I think of this, for instance, when I read of homeowners who, we are told, are still stuck paying on homes that are now worth less than the balance of the mortgage. So? My Saturn Ion is worth less than what I owe on it, even at the 0% APR financing I obtained from a desperate car dealer last year (another Clive Huggins moment), but that doesn't keep it from getting me to work, and I am still making payments. There is a real economic crisis—no argument there—and an additional amount of hand-wringing that is no doubt making the situation potentially much worse than it needs to be.

Actually, psychology is as interesting in figuring out how we got here as it is in figuring out how to get out of this mess. Henry Blodget, once notorious as a Wall St. tech stock analyst forced out of his occupation after the meltdown by Eliot Spitzer (never mind), provides a very incisive analysis of why there will always be economic bubbles and why perfectly intelligent, well-intentioned people will miss them until it's too late, in his article "Why Wall Street Always Blows It" in the current Atlantic:

...most bubbles are the product of more than just bad faith, or incompetence, or rank stupidity; the interaction of human psychology with a market economy practically ensures that they will form. In this sense, bubbles are perfectly rational—or at least they’re a rational and unavoidable by-product of capitalism (which, as Winston Churchill might have said, is the worst economic system on the planet except for all the others). Technology and circumstances change, but the human animal doesn’t.

One of the biggest culprits, as Blodget points out, is the recurring belief that "it's different this time" in a way that is supposed to make caution irrelevant:

Those are said to be the most expensive words in the English language, by the way: it’s different this time. You can’t have a bubble without good explanations for why it’s different this time. If everyone knew that this time wasn’t different, the market would stop going up. But the future is always uncertain—and amid uncertainty, all sorts of faith-based theories can flourish, even on Wall Street.

In the 1920s, the “differences” were said to be the miraculous new technologies (phones, cars, planes) that would speed the economy, as well as Prohibition, which was supposed to produce an ultra-efficient, ultra-responsible workforce. (Don’t laugh: one of the most respected economists of the era, Irving Fisher of Yale University, believed that one.) In the tech bubble of the 1990s, the differences were low interest rates, low inflation, a government budget surplus, the Internet revolution, and a Federal Reserve chairman apparently so divinely talented that he had made the business cycle obsolete. In the housing bubble, they were low interest rates, population growth, new mortgage products, a new ownership society, and, of course, the fact that “they aren’t making any more land.”

In hindsight, it’s obvious that all these differences were bogus (they’ve never made any more land—except in Dubai, which now has its own problems). At the time, however, with prices going up every day, things sure seemed different.

In fairness to the thousands of experts who’ve snookered themselves throughout the years, a complicating factor is always at work: the ever-present possibility that it really might have been different. Everything is obvious only after the crash.

The other deadly ingredient in bubbles is that investment professionals won't keep their jobs if they restrict themselves to prudent courses leading to merely reasonable returns; the same competition that fuels a free market also drives each fund manager to chase larger and larger returns for his investors, on peril of a forced retirement. Blodget cites the instance of fund manager Julian Robertson, whose Tiger Management company lost 66% of its assets to withdrawals by disgruntled investors and finally closed its doors because Robertson correctly anticipated the tech stock meltdown and moved his investors' funds elsewhere (where returns were lesser, though on safer ground).

In other words, we don't want the slick mortgage broker, the BMW-driving realtor, or the glib investment pitchman to do the right thing for us but the thing, instead, that will make us feel as well off as our neighbors occupying the houses that they also couldn't afford. Frankly, I wonder if the Dutch had the right idea when they went nuts over tulip bulbs in 1634; the Semper Augustus bulb was commanding prices equal to that of a house on the Amsterdam market, but at least that was a product of nature.

Actually, Jane Bryant Quinn quotes financial advisor Steve Leuthold in a recent column as saying that investors should buy just about anything at this point, on the grounds that it is likely to be a bargain. That was certainly true of the $22.99 box of firelogs I talked an exasperated Kroger manager into selling me for $5.99 yesterday, after it had been mislabeled, but I don't think that's what Leuthold meant. If stocks scare you too much, perhaps you could consider bidding on Jeff Koons's metal "Hanging Heart" sculpture, a colossal piece of kitsch that recently sold for $27 million, which proves that a fool and his money are soon parted. I think my best buy today was ordering Facing Mount Kenya from on the advice of the Kenyan clergyman of the church I have been visiting; an ethnographic study done at the London School of Economics by a young Jomo Kenyatta in the 1930s, it is supposed to be a very insightful analysis of Kikuyu life and culture. I got it for just $1.75.

© Michael Huggins, 2008. All rights reserved.

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