Q: What will be the engine for US recovery and where will Dr. Greenspan and Secretary O’Neill find a solution?

bti-o/New York.-Every US recession since the first oil crisis in the early 1970s has coincided with a spike in energy prices. Mr. Greenspan knows this and mentioned this in a speech in May 2001 before The Economic Club of New York. Nevertheless, he continues to cut rates too tepidly to have any real impact.

He also knows that energy is a major component of US and global business costs while interest rates are a relatively minor factor. Therefore, his rate cuts have had little or no impact. This also explains why earnings for all companies, (both sound and weak, as well as new and old economy), have been disappointing. The US stock markets have been particularly sensitive to these earnings reports of late. The weakening US stock market has a negative “wealth effect” on US consumers, ergo continue weakness in the US consumer sector.

There is no imminent engine to economic recovery in the US, not from the consumer sector or business capital sector, and not from abroad; Japan, Europe or the emerging markets are all looking for the US to pull them out. The US economy is suffering from an excess of “irrational exuberance” in the capital investment area. There is no logical expectation of a surge in capital spending, only a hope that it will stop declining soon (ergo Cisco’s hopeful prediction of this week and Friday’s rise in the Dow Jones) and inventories are still not back to levels of the pre new economy model of 1994.

What we need is a new Y2K, Internet, Emerging Market, i.e. a Dutch Tulip Bulb-like phenomenon. The 90’s boom started with the folly that the Emerging Markets had arrived and that billions of new consumers were ready to purchase telephones, televisions and cars. That naiveté was quickly and almost seamlessly replaced during the Mexican Peso crisis of 1994 with the “irrational exuberance” of the Internet and that techno craze was extended by the War of the Worlds like panic of Y2K. But by 2000 and no Y2K disasters, the whole thing fell apart and we have been in decline, waiting for the next economic messianic myth. My bet for the next folly is President Bush’s Star Wars.

Star Wars is no more about defense than the recent US tax cut was about stimulating the economy. It is about relieving the US taxpayer of trillions of dollars for the Bush constituency which happens to be big oil and defense. Star Wars will be the biggest public works project since the Roosevelt administration. And by sheer coincidence, there is nothing that Putin needs more than contracts to help rebuild Russia’s technology sector.

If Bush wants a recovery and Russian and European and Japanese support, let him give them a fraction of the trillions of dollars of Star War contracts and start the next recovery.

Putin comes to Texas in November 2002 that gives the negotiators on both sides plenty of time to resolve the details so that the Texas summit can have a centerpiece- resolution of the ABM treaty, Star Wars cooperation and the promise of significant foreign direct investment in Russia. A win win for both sides.

With a few trillion dollars at stake there will be enough of US taxpayers’ money to go around for everyone, i.e. except for the Social Security and Medicare trust funds. (I do not think that Mr. Cheney and friend are really relying on their social security to see them through their golden years).

Is Mr. Greenspan to have no role in this recovery? I don’t think so and that will help ease in his successor. If Mr. Greenspan wants to participate, he might lecture Mr. Bush and Mr. O’Neill on the ludicrous tax cuts and why holding back government spending in times of economic weakness is counterproductive. And then he should try to act more like Paul Volcker than the consummate politician that he is and pursue dramatic rate cuts and aggressively weakening the dollar.

A weak dollar and low rates will hasten the time when global business will resume capital spending projects with US technology. And a strong US technology sector and the constant US trade deficits will certainly help the US to again become the engine of global recovery.
But that is not Mr. Greenspan’s style. He is very cautious and tends to take action after the fact.

Russia will benefit from Star Wars, lower interest rates, a cheaper dollar and the inevitable growing US trade deficit, which the global economy has come to love, expect and encourage.

So what does this mean with respect to investments? 1.We still like fixed income securities as we expect global interest rates to decline, outside the major industrial countries. 2. We like defense industry stocks in the US and Russia. In the US, Boeing and General Dyamics are both trading with p/e’s of less than 20 and less than the S&P.
Nick Roberts

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