The Great Debate: 3Q2011 vs. 1Q2012

(Patriotic music starts. Camera pans audience of diverse college students, respectable elderly, and concerned baby boomers. People cheer and clap as they watch themselves on the screen above the stage. Two tense parties stand behind impressive lecterns. A thoughtful woman with a somber bearing steps on to the stage. She begins to speak…)

[MODERATOR]:
Ladies and gentlemen, I am Lady Liberty, moderator of tonight’s debate between 3Q2011, also known widely as The Third Quarter of 2011, and 1Q2012, the ever cheerful First Quarter of 2012. (Cheers, applause. She nods in acknowledgement.) As our audience knows well, these two quarters have expressed contradictory opinions about the global economy, have been passionate in their perspectives, and have strong feelings about the future. To begin tonight’s discussion, I would like each contestant to reintroduce themselves to our audience. 3Q2011, you came first on the calendar so let’s begin with you.

[3Q2011]:

Thank you, Lady Liberty. I’m glad I am back, but I bet your audience is not! (boos, a scattering of hisses) Truly, I only came back tonight because I have a few things to say that remain as relevant as they were a just a few short quarters ago. Look, I’ll be brief. I showed up after two years of stock market and commodity bullishness, a literal frenzy of risk taking with nothing but upside. My job? To get real, to remind the world how it really is. Congressional inaction on the debt ceiling? On my watch. Standard & Poor downgrade of the United States? On my watch. Gold at $1,900 per ounce? That’s me too. A 14% decline in equities? C’est moi! And of course, like any good contrarian quarter of late, I had a Greek meltdown to boot. I put the "sting" back in "investing" and I’m proud of it.

[MODERATOR]:

Well, thank you for your candor. 1Q2012, you have strong feelings as well. Tell us about yourself.

[1Q2012]:

Thank you for inviting me back here tonight. I have missed you all…but I bet you have missed me more! (audience roars approval) You all know me already. Jobless numbers coming down, decent earnings, strongest stock market in years. Even got interest rates moving up again and that was not easy. I feel like the sunshine after the storm tonight, St. George going up against the dragon. I spent my quarter cleaning up much of the mess made by my colleague here and the risk is back on, baby. We’re feeling good! (enthusiastic applause)

[MODERATOR]:

Well, well, it is clear we have quite the contest tonight. Before we dive in, let’s set the ground rules. During the course of the debate, audience members may not place block equity index trades or make any commercial loans. (disappointed sigh from audience) But don’t worry, the Treasury desk is always open so buy to your hearts content. (cheers)

[MODERATOR]:

First question. The European Union is in financial peril. How do you view the endgame? 3Q2011, you first.

[3Q2011]:

Très mauvais. Muy malo. Very bad. And agonizingly slow. Remember what I said last September. These folks do not have the willpower or political capital internally to make it work. The Greek government agrees to Germany’s strong-arm austerity plan, then backs down and says the people will vote, then reverses course…I mean, come on! You couldn’t make this stuff up. (laughter) The European Central Bank spent my quarter deciding whether or not to print money. Really? Really? You know, for the ancient Greeks, the prefix "EU" meant "good;" for modern Europe, it only means bad news and for a long time to come.

[1Q2012]:

Now hold on. The EU has bought itself some time. While my colleague 3Q2011 stirred up unwarranted fear and anxiety, I dedicated my quarter to calm statesmanship and tough negotiations, to giving the new president at the ECB, Mario Draghi, and Italy’s new prime minister, Mario Monti a chance to assuage unfounded fears. Are there problems in the EU? Sure, but they will not ripple out into global markets and certainly won’t spark another global recession. My quarter reflects that most people believe the European Union is a good concept that simply needs to work out some short-term challenges. Look Lady Liberty, remember how long it took the original U. S. of A. to get a sound economic footing…

[3Q2011]:

Yeah, but there was one language in the United States, no history of inter-colonial warfare, no currency futures contracts, and a world in which it took six months to get news across the Atlantic. Hardly a fair comparison…

[MODERATOR]:

Since we are talking comparisons, let’s return to this side of the pond. How do you feel about US fiscal policy?

[3Q2011]:

What fiscal policy?? (applause) Hey, I’m proud that Standard & Poor’s had the courage to tell it like it is during my quarter. I only wish that Moody’s and Fitch had been equally candid but they probably knew that they’d be putting their jobs on the line. Seems that everyone, including me, likes to bash Congress, but I think my quarter demonstrated that the real culprit here is the American voter. No different than in Europe. These representatives are elected by people who want their perks, their favorite programs and deductions and it’s on both sides of the aisle. If the vast majority of American voters do not want the US to be fiscally responsible, then heaven help the congressional representative that tries to be responsible.

[1Q2012]:

I don’t want to shock you but I actually agree with a part of 3Q2011’s analysis (collective gasp from audience)—but don’t worry, he’s mostly wrong! (jovial laughter) Look, we don’t need to worry about a fiscal crisis in the US. As my friend, 3Q2011 showed us, the US dollar still is the reserve currency of choice and the US Treasury Bond is the world’s safe haven. Where are countries, companies, and individuals going to put their money when they seek safety? Russia? China? Western Europe? Let’s be real, America is doing fine. Americans hate cutting spending, true, but they also are focused on economic growth. Consumers are shopping and borrowing again. Would they do those things if they were worried about the debt situation?

[MODERATOR]:

Lots of generalities from you both. Let’s get specific. The Ten-Year US Treasury Bond currently pays lenders 1.75% per year. Is that the right rate? If not, what should it be?

[3Q2011]:

Remember, it was during my quarter that the Ten-Year US Treasury yield broke below 2% for the first time ever, plunging to 1.71%. Whether you like the market or not, the rate is the rate. People complain about the Fed keeping rates too low, but you don’t exactly see a rush to the exits now do you? Look, I was saying back in September that the US Treasury yield should be low given our fiscal crisis, slower than normal growth prospects, and lack of investor confidence. And what is it now, a cool eight months later? Why it’s back at about 1.75%! You see, the US remains a safe haven and with all of the risk in the system, it should be low. I have a hard time imagining the yield moving up meaningfully in the next three to five years.

[MODERATOR]:

Even with inflation in the 2-4% range? How many investors will lock in real negative returns and thus knowingly lose money relative to inflation?

[3Q2011]:

A lot of them apparently. (nervous tittering in the audience) Investors do not trust equity market returns, do not want to invest in more real estate, and are concerned about fiscal mismanagement amongst our largest corporate and sovereign entities; so, they are willing if not happy to accept a negative real return.

[1Q2012]:

I disagree. It’s easy to be a bear and play into fear. Reality is, however, that we are seeing job growth—modest yes, but it is there. Americans are cleaning up their balance sheets. Individuals, corporations, even municipalities are streamlining. Interest rates are only low because we have an overactive Federal Reserve intent on keeping our cost of funds down and trying to keep the banks from imploding. Look what happened in March. In just two weeks, the ten-year Treasury shot up to 2.37%, an increase of nearly 20% in just a few days. Imagine where rates would be if the Fed would simply let the market be the market.

[MODERATOR]:

But wouldn’t that drive up the cost of debt service for the Feds and for countless municipalities, corporations, and individuals?

[1Q2012]:

There would be some pain in that regard, but at least lenders and borrows would know the real cost of doing business. Remember, uncertainty creates volatility. Give investors a clear sense of what things are worth and they can make decisions accordingly. That’s what my quarter was all about…

[3Q2011]:

Your quarter? Your quarter was goofy! It was a brief interlude of pretending that…

[MODERATOR]:

Hold on, hold on! We have time for a last comment from each of you. Please take 20 seconds each to give advice to the current quarter, 2Q2012. She has had a tough time and would benefit from your insight.

[3Q2011]:

Look kid, I know you’re young, just over half-way through, so there’s hope yet. Just tell the truth. Let folks know how bad it is and stop confusing them. You’re like spring in Colorado, hot and sunny one hour, cold and wet the next. Make some decisions so that investors, consumers, business leaders, and everyone else know what to expect and how to react.

[1Q2012]:

Look kid, I know you’re young, just over half-way through, so there’s hope yet. Just tell the truth. Let folks know how good it is and stop confusing them. You’re like spring in Colorado, cold and wet one hour, hot and sunny the next. Make some decisions so that investors, consumers, business leaders, and everyone else know what to expect and how to react.

[MODERATOR]:

Well said. This is Lady Liberty signing off. Thanks for joining us. We hope we’ve clarified things for you.

(camera pans a puzzled audience slowly rising and trying to find their way...)

Catch 2012

An older man named Yossarian stopped by the office the other day. No first name, just Yossarian. I mentioned that Yossarian was the main character in Joseph Heller’s Catch-22, the satirical 1961 novel about ironic incompetence in America’s wartime bureaucracy. The man smiled.

In our business, people sometimes bring a sealed manila envelope and ask us to look at their stuff and let them know what we think. That’s what he did.

I began to explain that I would need to learn more to properly evaluate the situation, but he just smiled, stood, and left. Puzzled, I slit open the envelope and peered inside. No statements, no investment policies, just a few words scribbled in long-hand. And though he wanted my feedback, he left no forwarding address, phone number, or other contact. So I republish his words here as one way to strive to contact him and say I think he’s on to something.

He wrote:
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In my day, Catch-22 impacted those serving in US Army Air Corps flight crews by proclaiming: You are insane if you willingly fly dangerous combat missions, but if you make a formal request to be removed from duty, you have proven yourself sane and therefore cannot be removed from duty. Brutal.

As we have redefined power away from boots on the ground towards economic strength, our ironic humor has followed suit. After all, I’m a 95 year old retiree with my life savings safely earning 0% for three years despite skyrocketing cost of health care, food, and energy. Apparently, the low return is supposed to encourage me to take bold risks and thus do my part to reduce the jobless rate and trade deficit. We can’t have a bunch of slacker 90 year olds earning interest on their savings. What kind of message would that send??

Now if you look at it right, that’s funny. However, if you are not sophisticated, you might consider such a policy intolerable, but then you’d only be proving that you are unsophisticated. Welcome to Catch-2012! But wait, there’s more…

The Stimulus Catch
Consider the stimulus. Since December 2008, the US Federal Reserve has kept its Target Rate as close to 0% as possible. Ostensibly, the low rate is supposed to loosen credit markets and stimulate economic activity. However, the Fed has justified the low rate—and manipulated the bond market to keep it low—by claiming in a somber monotone that the economy is in such dire straits that extreme measures are required. So in addition to potentially stimulating economic activity, Fed policy has stimulated fear and uncertainty, both of which happen to be poorly correlated with economic activity. And to reinforce the conundrum, the Fed intends to keep the Target Rate at close to 0% until at least 2014 because that’s how bad things are. So, go shopping, grow your company, and take your banker to lunch because the economy is even worse than you thought. Stimulating indeed!

The Electoral Catch
Consider those talented candidates of both parties running for President over the past year who have made a lousy economy part of their campaign. How stressful must it be for them to see the unemployment rate declining, to hear that manufacturing numbers are picking up, that even consumer confidence is improving. NOOOOO!!! Of course, the incumbent faces a challenge as well, having proposed policy changes that play to financial insecurity and antipathy toward capital and capitalists. So prepare for Super PACs on both sides to spend a fortune messaging that our economic model is fundamentally flawed and so their candidate should be in charge of it. It’s sure to be a Catch-2012 election!

The Analytic Catch
The real trick to analyzing economic growth, unemployment, tax revenues, consumer spending, and other data points is to make it appear that it would have been far better if only you had been in charge, or if you have been in charge, then it would have been far worse if you had not been. Brilliant really, because there is no control economy to which one can compare and so no meaningful way to evaluate the assertions. By reducing economic analysis to ideological argument, we have marginalized economic data from our assessment of the economy. (Unless there is a parallel universe with an alternate reality United States where we can manipulate Fed, tax, and regulatory policies to compare them to our actual policies. Since we keep cutting the NASA budget, we’ll probably never find out about parallel universes anyway, so we’ll have to ask China to keep us posted. Another catch.)

The Too Big to Fail Catch
The Original Assumption: Big banks are vital to America’s economic health because their massive balance sheets ensure safety and better protect our economy. The Recent Reality: Federal authorities representing both Parties bail out, prop up, or otherwise provide life support to those same big banks because their massive balance sheets endanger our economy and way of life. The Lesson: Encourage greater bank consolidation because Original Assumption must have been true before it was proven false. The Impact: Confusion mixed with mild bouts of nausea.

The Fiduciary Catch
The early version of what became the Dodd-Frank Act would have established a fiduciary standard across the investment industry, requiring most financial professionals to act in the best interest of their clients. Those crazy Congressmen! Such a change would have required a retooling of how the industry works, especially how investment firms are compensated. The American consumer, however, was saved by lobbyists from the broker-dealers, banks, and insurance companies who pointed out that being held to a fiduciary duty would inhibit the industry’s ability to meet their clients’ needs. After all, how can you serve your client if you owe the client loyalty and care? Talk about Catch-2012! Senator Dodd and Congressman Frank were persuaded (legally of course) and quickly struck the fiduciary standard language from the Act. Neither Party complained, nor did consumers; thus, the industry got back to business.

The Final Catch
Enough ravings from an old man. The real catch about Catch-22 and Catch-2012 and the other ironic policies we inflict upon ourselves is that we inflict them upon ourselves. No one wakes up in the morning and says, “How can I make things really difficult for my fellow Americans by creating insensible policies and regulations?” We simply lack the humor or intelligence to plan ahead that well.
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The ultimate Catch is that we are stuck with ourselves. It’s the price we pay for representative democracy. And as we watch our fellow human beings in Syria, Russia, and Myanmar struggle for the same right to be stuck with each other, we can’t help but wish them every success. May they catch the opportunity they seek.