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Politics and Profits

08/26/2005 12:00 am EST


Steve Forbes

Chairman and Editor-in-Chief, Forbes Media

With his experience in both finance and politics, it is apt that we begin our DC Highlights report with Steve Forbes, editor-in-chief of Forbes magazine. Well-known for his insightful opinions, he offers an exceptional overview of his outlook on investments, the economy, and taxes.

"We are now in a period of time just as we had in the early 1990s, where perceptions lag reality. The American economy today is in fairly good shape. It is growing at a good 3.5-4% rate, even though most people don’t feel very good about it. As a matter of fact, that is probably a bullish sign, when people don’t feel good about it. You’re all familiar with those two phrases about the stock market.

"During a bear market, the phrase is ‘going down the slope of hope.’ People can’t believe the bear market is taking place, such as in 2000 following the giddy 1990s. People think the down move has to end at some point. The market takes a real hit and then you have what is called sucker’s rally—a bear market rally—and people think that things are back to normal again. But then the market gets hit again. Then there is another bear market rally, and then the market gets slammed again. This happens again and again, and then finally people despair and say, ‘Dear God, just get me even, and I’ll never go near equities again.’ That’s usually the bottom. If you have any money left, that is the time to invest.

"Conversely in a bull market, the operative phrase is ‘climbing walls of worry.’ People are aware of all the things that can go wrong. The media is full of worries. People then worry how long this can last. Is it going to come to a grim end? But the thing about any market is that it never goes in a straight line. So you never know if the current move is for real. It’s only when the move is over that people can look back and say with confidence, ‘Aha. That was a bear market or a bull market.’ But living through it, you don’t know. In the early 1990s, people wondered if we would recover from the recession. It wasn’t until 1996 that people really believed that the bull market was for real. In 1997, we had the Asian crisis and the market took a real hit. In 1998, Russia collapsed and the market took another hit.

"We are in one of those periods today. Barring something hideously going wrong in the world or our friends in the government doing something really stupid – even by their scale – there is no reason why this recovery – even though it will fluctuate from quarter to quarter and go through numerous revisions – the economy should show long-term growth, the expansion should show the durability and depth of the expansions of both the 1980s and 1990s. The fundamentals are there for that to happen. We are still in the midst of a productivity boom. Not everyone benefits, but companies are learning more and more how to take advantage of advances in technology and applying them in the workplace. Inventories still remain fairly tight, personal incomes are continuing to rise, capital spending – especially from small- and medium-sized companies – is continuing to grow, and profits are continuing to rise in fairly decent shape.

"One of the most amazing things is the liquidity in corporate America today. If you take what companies have in cash and marketable securities and subtract out short-term debt, corporate America is now positive by about $2 trillion dollars. Rarely in financial history has cash made up such a large part of corporate assets as it does today. Yet chief financial officers still clutch their cash as if the world is about to come to an end. So there is plenty of liquidity to finance an expansion and plenty of liquidity to finance more capital spending and plenty of liquidity to increase dividends, which we are likely to see as competition heats up and the expansion continues.

"What also is not appreciated at all is the extraordinary liquidity of American households. Most people never think that their incomes are enough. It always falls short, as people’s expenses always seem to go up with income. Despite the media’s portrayal of us as a nation of spendthrifts drowning in debt and just begging for the next credit card, the fact of the matter is that even though many people are overextended, if you take what households in America own in terms of stocks, bonds, bank CDs, money market funds, life insurance policies, 401(k)'s, and the like, and take out what we owe in debt and credit cards and even take out what we owe in mortgages (ignoring the value of your house, but taking out the liability) American households today are positive by almost $26 trillion. And that is a fundamental foundation for long-term expansion.

"Meanwhile, we all know about the uncertainty regarding interest rates. But the thing to think about with interest rates is this: the Federal Reserve is like the equivalent of a fuel injector for a car. You can have a fantastic automobile, but if you don’t have sufficient fuel, the engine’s going to stall. If you have too much fuel, you’re going to flood the engine. Get it just right, and the engine has the chance to purr. A few years ago the Fed made a mistake, I think. They put in too little credit for the economy.

"How do we know if the Fed is doing the job right or wrong? If you want to get a good barometer of what the Fed is doing—and economists gag at this—just look at broad-based commodity averages. Just look at the price of gold. If gold is below $300 an ounce, that’s bad. That’s deflation. When it goes above $400, you should begin to watch out. If it goes to about $450 or $500, then we will be in big trouble. Those of us who follow this saw gold breach $400 a little over a year ago, and we knew strange things would begin to happen.

"When inflation starts to kick up commodity prices, people begin to buy more now due to fears that prices will rise later. This starts to feed on itself. You see it in oil prices today. About $15 to $20 per barrel in the oil price today is not supply and demand, but speculation engendered by inflation. In my view, however, this is not going to last. Eventually the Fed will get it right on it’s tightening. And at that time the oil price is going to come down with a thud. We all talk about real estate bubbles. But the real bubble is oil. I don’t know when it is going to pop, but eventually it will.

"Finally, I’d emphasize that incentive works. If the government just gets off the back of American people they will do great things. This gets to what will happen as the president’s tax panel is going to soon make recommendations about what to do with this hideous tax code that we have today. It’s amazing that as a free people, we continue to put up with the tax burdens that we do. It is time to get rid of the Federal income tax code. Whether you believe in a flat tax or some sort of consumption tax, the code we have today is an abomination, and it’s high time we got rid of it.

"Just to put it in perspective, Lincoln’s Gettysburg address, which defined the character of the American nation, was all of 268 words. America’s Declaration of Independence was 1,300 words. America’s Constitution, which has held us in good shape for over 200 years, is only 6,000 words. The Holy Bible, which took centuries to put together, is 773,000 words. Now the Federal income tax code and its rules and regulations is 9 million words and rising. It’s just crazy.

"And the government keeps cluttering this up. It’s a corrupting and corrosive thing. You can’t redeem this code. Ronald Reagan tried that 20 years ago, but no soon was the ink dry on his signature, that the tax monster slithered out of the swamp and grew again. Since 1986, the tax code has been amended 14,000 times – with 3 million words added. The only thing you can do with this beast once and for all is drive a stake through its heart and kill it and bury it and hope it never rises again."

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