Memo To: Website Browsers and Fans
From: Jude Wanniski
Re: Client letter of April 3,1996
[This was the headline on the client letter I sent out more than two years ago. Remember it was a presidential election year, and on April 3 it already was fairly clear that President Clinton would be running against Bob Dole. On January 2, with the DJIA at 5177, we said it would hit 6000 before year's end, and it did. Our reasoning was that Steve Forbes's entry into the race had changed the campaign dynamics, and that he would force the GOP to push economic growth instead of budget balance. On the day this was published, the DJIA was already at 5600, and there were plenty of ups and downs before the end of the year and 6000. The concept of a two-tier economy is one about which we have continued to write. This still makes good reading as a Golden Oldie.]
* * *
April 3, 1996
A TWO-TIER ECONOMY
by Jude Wanniski
The national economy always is operating at several levels. That is, there are industrial business cycles within the national business cycle. As one industry or region becomes relatively deficient in capital, another will be in relative surplus. The one draws upon the other -- in response to relative price changes of the goods they produce -- and then the favor is returned at a later stage of their cycles. When apples are up, oranges are down, and vice versa. Several years ago I suggested we not think of “the business cycle” as a sine curve, but rather as biorhythm curves. On top of this standard model, we now add the complexity of an entirely new industry, which we loosely call Telecommunications. The most interesting facet of this new industry is that it involves a pure efficiency product, with universal applications. Almost all other new industries of the industrial revolution increased the efficiency of a piece of the economy -- of transportation, of agriculture, of manufacturing, of entertainment. The new telecommunications industry we are just now beginning to experience increases the efficiency of every piece of the economy, perhaps comparable to the invention of the printing press and movable type. This means commercial decisions are speeded up all along the line. If all success is the result of risking failure, this means we can fail faster and succeed faster at all frontiers of development. It also means fewer people are needed to work as communication links in this trial-and-error process.
The United States has a virtual monopoly on this new industry. This is primarily because our political culture, more than any other in the history of the world, encourages communication. We had the free speech guarantees of the First Amendment when we began as a nation and these have been strengthened by the political process in the years since. In the century ahead, our lead in this new Telecommunications industry will not likely be overtaken by another nation, as no other will be able to overtake our free-speech culture. Telecommunications will be at the heart of the Pax Americana, forcing other nations, such as China, to widen their guarantees of free speech and political freedom if they hope to keep within shouting distance of our progress. The enthusiasm of the marketplace for the progress we are making is evident every day in the news from Wall Street, with exciting new mergers and acquisitions, dazzling IPOs, and surging share prices as the market reckons the increased efficiency of the nation’s capital stock. We note in this morning’s Wall Street Journal a report on the demand for the hot new shares of Lucent Technologies, the telephone equipment firm being spun off by AT&T. One of the risks to the shares are “doubts about whether Lucent will actually be able to cut 23,000 jobs as planned in an increasingly anti-layoff climate.”
In the big picture, we see the future is breathtakingly positive for both this new industry and the United States. On an ascending curve, we will sell the benefits to the rest of the 6 billion people on earth, and they will be able to pay for our genius in this realm with the movable goods and services they will be able to produce with the greater efficiency made possible by our state-of-the-art high-tech stuff. The main problems that will slow these awesome developments are social and political -- the growing pains associated with dynamic growth. How do we absorb the efficiencies wrought by the Information Age? How do we distribute the productivity gains throughout the national family? Theoretically, at least in the extreme, if AT&T is worth more with 40,000 fewer employes, one way to solve the problem is to tax AT&T’s increased profits sufficiently either to hire the 40,000 for government jobs or simply to pay them full retirement benefits. At a lesser extreme, we could tax AT&T sufficiently to retrain the 40,000 for other jobs which the Labor Department thinks might be opening up sometime soon. At the ideal, we would capitalize the efficiencies at AT&T by lowering tax rates to their discounted present value on the rest of the economy. This would inspire new enterprise of lower value-added goods and services which could then afford to hire the redundant 40,000. Actually, under this ideal scenario, the increased economic activity caused by the new enterprise would force AT&T to hire back some of the redundant employes. And if the government were entrepreneurial enough to cut the tax rates before AT&T announced its downsizing, the transition might even occur without an announcement, with most of the 40,000 being bid away by the rest of the economy.
As Washington ponders the mixed signals it gets about the economy in the absence of any of these solutions, we have all the manifestations of a two-tier economy. High-wage workers are being downsized. The efficiencies are flowing back into the new industry in the form of higher incomes for those still employed. Those sloughed off are pulled into low-wage jobs, serving the social pathologies associated with the rapid change. Those at the exciting top of the pyramid see the world as their oyster. If they have any advice to those of their fellow citizens who have been downsized, and are flipping hamburgers or standing guard over each other, it is that they must educate themselves, and Get With It! This is not very helpful.
I offer this picture as a backdrop against which you can plug in the statistics that are flowing out of the economy, the prices that are showing up on Wall Street, and the political news about this election year. The stock market is up by $1.3 trillion in the last year, but the increased wealth still leaves the American people distressed. Most of them are stretched out, trying to make ends meet with declining real wages, and they tune out when the guys at the top tell them to Get With It! There is an adjustment process underway, despite the gridlock in Washington, and the national economy surely will creep forward as it unfolds. As conditional as it is, the Telecommunications Act by itself will be something by which the history books will remember the 104th Congress.
The picture is incredibly bullish over time for all Americans, but until we see a political breakthrough, we will tread water bearishly for the economy as a whole. It is only an “interlude” as David Gitlitz suggested a week ago. He observes that “Last year’s market rally directly increased American households’ equity and mutual fund holdings by some $1.3 trillion, a 30% increase. At the same time, all household financial assets rose by an unprecedented $2.5 trillion, to $20 trillion. It is not difficult to see how the higher asset valuations would precipitate a temporary increase in consumption.” This is a dramatic increase in the nation’s wealth, which is distributed broadly over the population via the pension funds, the mutual funds, and the investment portfolios of Middle America. This does trickle down, but not enough to get us into the kind of economy that can rapidly absorb downsized America. How long might be the bear market interlude? Only as long as it takes for expectations to change, which to us means a political break in the weather. And hey, spring is almost here.