Wednesday, September 2, 2009

Taipan Daily: Tracking the Two-Track Economy

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Wednesday, September 2, 2009
Taipan Daily: Tracking the Two-Track Economy
by Justice Litle, Editorial Director, Taipan Publishing Group

Last week Taipan Daily gave a nod to former IMF chief economist Simon Johnson, who asked, “Is a Two-Track Economy Emerging From the Rubble?”

In exploring the question, Johnson noted how “the elite live well and seem not to mind repeated cycles of economic-financial crisis.” Now we are seeing evidence that the “Two-Track Economy” is real – and getting stronger by the day.

The basic idea is that America is being split up into two post-crisis camps. One might call them the “haves” and the “have nots.” This kind of class-based rhetoric is very much at odds with the American ideal. The notion that anyone can succeed with vision, determination and a little bit of luck has long been baked into the culture.

Historically, the U.S. has not been a jealous country when it comes to wealth – except in cases of blatant fraud and deceit.

The emergence of a two-track economy, then, is a real threat to American ideals. To the degree that hard-working individuals look around and say no, the system is NOT fair... that yes, the system IS rigged against me... the rugged individualism and dynamic spirit that long set the country apart comes under threat.

Something else should be noted... without getting too deep into the political side of things, there is a real irony here in regard to traditional American politics. Republicans have long been seen as the political party that favors “the rich,” turning their nose up at the poor and disenfranchised, while Democrats have been cast as the party that truly cares. And yet it is a Democratic administration, held in full thrall to powerful financial interests, under which this “Two-Track” reality has gained more traction than ever before.

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Three Areas of Divergence

There are at least three broad ideas where this notion of a “Two-Track Economy” holds true. The “haves” versus “have nots” phenomenon is playing out among banks, consumers and businesses, with larger holding a substantial (and growing) edge over smaller in each case.

First the banks... As a result of Washington’s policies, the giants have only tightened their grip. In a recent piece titled “Banks ‘Too Big to Fail’ Have Grown Even Bigger,” The Washington Post notes how the “Big Four” have amassed even greater levels of power.

The crisis may be turning out very well for many of the behemoths that dominate U.S. finance. A series of federally arranged mergers safely landed troubled banks on the decks of more stable firms. And it allowed the survivors to emerge from the turmoil with strengthened market positions, giving them even greater control over consumer lending and more potential to profit.

J.P. Morgan Chase, an amalgam of some of Wall Street's most storied institutions, now holds more than $1 of every $10 on deposit in this country. So does Bank of America, scarred by its acquisition of Merrill Lynch and partly government-owned as a result of the crisis, as does Wells Fargo, the biggest West Coast bank. Those three banks, plus government-rescued and -owned Citigroup, now issue one of every two mortgages and about two of every three credit cards, federal data show.

Was this mass consolidation of power deliberate or accidental? At this point it doesn’t matter so much. Either way, the results are the same.

Through a habit of consistently favoring the biggest players – flooding them with bailout cash, while at the same time refusing to punish for gross misdeeds – Washington has entrenched the financial oligarchy to an even greater degree.

In the days ahead, we may hear more positive noises about big bank profitability and a positive return on investment for TARP cash. The irony here, aside from dodgy accounting principles, is that much of this profit may come at the expense of the many smaller banks and less connected financial institutions that dot the land. While Washington has all but prostrated itself before the “big four,” it has essentially told the many mom and pop outfits who finance American small business to go to hell.

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The smaller banks are not exactly innocent, of course. Many of them loaded up on risky construction loans or otherwise pushed far too hard in the boom times. But, blame aside, the net effect of Washington policy now is that the big will get bigger while the small will be left to wither and die.

Survival of the Most Connected

On the business side of the ledger, big is beautiful again – and small is a deadly grind. As The Wall Street Journal recently wrote in a piece titled “Halting Recovery Divides America in Two,”

At one extreme of Corporate America is a cadre of companies and banks, mostly big, united by an enviable access to credit. At the other end are firms, chiefly small, with slumping sales that can't borrow or are facing stiff terms to do so.

On Main Street, there are consumers with rock-solid jobs ­– but also legions of debt-strapped individuals struggling to keep their noses above water.

This split helps explain the patchiness of the recovery that appears to be taking hold after the worst recession in a half-century.

“Patchy” is far too kind a word...

Once again, the reality we are faced with now is a function of deep financial crisis. More “normal” downturns cannot compare to financial-crisis-driven ones, in which the basic mechanisms of credit and finance have been all but destroyed.

The divide between “haves” and “have nots” filters down from banks to businesses by way of credit prejudice. With banks struggling to survive all across the land, only corporations with pristine balance sheets and super-solid footing have access to credit. Small suppliers with even a slight chance of not making it are finding their slightly weakened financial condition to be a self-fulfilling prophecy of doom.

How can business ramp up again if the workers can’t be rehired and the factory can’t reopen? And how can the factory reopen unless the local bank shows willingness to extend a fresh line of credit?

Washington’s focus on the very top of the pyramid has created a vicious chicken-and-egg problem in the levels far below. Local banks are too weak to lend to local businesses... local businesses are thus too hobbled to get back on their feet... and so general conditions for the local banks remain poor.

Meanwhile, even as this challenging cycle plays out, Washington plans more largesse for the biggest banks – along with potential new tax hikes to pay for it all.

The result is a sick distortion of the Darwinian “survival of the fittest” process, in which the name of the game becomes “survival of the most connected.” 

Large corporations are looking better at this point in the cycle because they are exactly who the JP Morgans and Citigroups of the world want to lend to. A Fortune 500 Business is by and large a safe balance sheet risk.

But even the big corporations will be hampered and stymied by the phenomenon of thousands of small suppliers going under – and more American jobs disappearing alongside.

According to official estimates, small businesses with fewer than 20 employees account for more than half of the nation’s private workforce. The policies in place now are the medical equivalent to 19th-century medicine, bleeding half our economy to death.

Fun With Statistics

The stark nature of this reality is a big reason why government statistics, and “green shoot” data points in particular, have become more dubious than ever.

As Mark Twain (I believe it was he) so memorably observed, there are “lies, damn lies, and statistics.” It is all too easy to skew the statistical data in regard to consumer saving and spending trends to flatter the small portion of the country that is doing well (the “haves”), while sweeping under the rug the much larger portion of “have nots.”

As a quick example of how statistics can blatantly lie, imagine a room of 1,000 people selected at random. Now imagine you wanted to calculate the average level of retirement savings in the room. To calculate it, you would add up everyone’s savings and divide by 1,000.

Now imagine Bill Gates walks into the room... all of a sudden, the “average” for everyone present shoots well into the millions. Is that change in any way close to reality? No, not at all. It is purely a distortion, caused by an extreme outlier (who happens to be the founder of Microsoft in this case).

On a more subtle level, this kind of tweaking and fudging happens all the time... always with the aim of making conditions look rosier than they actually are.

When the numbers are dubious, critical thinking skills are especially helpful. Can we really be recovering nicely when so much power, money and influence is being concentrated in such a small space? Can the country really be “okay” when the very backbone of the U.S. economy (small business) has been left to starve, pressed on all sides by creeping taxation, withheld credit, lower consumer spending and higher raw materials prices?

And can the U.S. consumer, whose collective savings were a pittance even at the height of the boom – with much of those vaunted savings counted in phantom house-price appreciation now gone – really be doing just fine as many numbers-touting pundits would have us believe?

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The Road to Oligarchy

Your humble editor looks around and sees the emergence of oligarchy... or rather, the deep and lasting  entrenchment of oligarchy on a scale and scope not before seen in America. (Just what is “oligarchy” by the way? As the online dictionary defines it, “A government run by only a few, often the wealthy... a state ruled by such a government.”)

One of the most frightening things is the self-perpetuating nature of this trend. As the economy weakens, the government feels even greater need to “help.” As the employment picture darkens, the government feels yet more compulsion to step in with government jobs and government assistance.

And meanwhile the old backbone of the U.S. economy, the old driver that used to employ more than half the private work force – small business – sees its lifeblood drained away.

Perhaps we should just get it over with and shut down all community banks, all standalone businesses with fewer than X number of employees. Maybe the little banks would be better off as wholly subsumed satellites of the big four, and the average American small business is an OSHA nightmare ill-equipped to administer vital functions like nationalized healthcare anyway.

Would it be easier, your editor idly wonders, if we just signed everything over to the all-powerful Washington Wall Street nexus now and kissed our old way of life goodbye? 

Warm Regards,


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