More economic meanderings

Economic recovery is tied to increased income. Probably it is more accurate to say that it is tied to disposable income, since income that is consumed by fixed expenses doesn't have much of an impact. Now, in the years of the housing boom, a lot of "income" was related to increase in house valuation, to the extent that Americans were willing to borrow either directly or indirectly against their home valuations.

When prices stopped going up and in fact reversed course, this income disappeared and the cost of the borrowing remained. This led to a tremendous decrease in disposable income and in fact many Americans found themselves unable to pay fixed expenses let alone have disposable income.

Now, this loss of income characterized by the loss of housing wealth led to the steep recession, joblessness and the decline in the stock market. Of course, not everyone was impacted but certainly enough people were to cause a tremendous reduction in demand across the board. This reduction in demand led to deflation in many areas and may still have that impact.

One of the biggest impacts was the tremendous decline in the money supply. Now, when I say money supply, the amount of money actually created by the Federal Government is only the tip of the iceberg. The money used to make loans multiplies the amount of money in the system since the capital reserves are only a percentage of the amount loaned. If a deposit of $1 allows you to lend $10, you have effectively multiplied the money in use by a factor of 10.

As banks started to lose money and stopped making loans, we saw a tremendous decrease in the money supply and a corresponding decrease in prices. As the Government attempted to combat this by in effect creating money by borrowing and making this new money available, it also raised reserve requirements for banks. The measure of the money supply that includes all the bank lending is referred to as M3 and is no longer published by the US Government. However, it is still estimated by a number of economic sites and is not increasing. It is still tracked in Europe where it has been declining.

If M3 is stagnant or decreasing, the risk is hardly inflation, it is deflation. Of course, there is a simple argument that the banks could increase M3 very quickly by increasing credit. However, it seems unlikely in the current environment that they will do that very quickly.

It would seem that many of the jobs that existed just two years ago are very unlikely to come back in the same areas. However, if we can get domestic and renewable energy projects going, that job growth can help significantly. Further, we should be engaging in much more infrastructure repair than we are. Finally, we need to reduce the cost of doing business in this country, by changing our tax system and reforming health care.

Market Valuation

As we are seeing more earnings data, the S&P 500 is somewhat expensive based on current earnings, but right in line if you think about next year earnings. Now, obviously, next year earnings are an estimate and therefore risky, but as we see most companies beating the estimates on current earnings, the better productivity coupled with any increase in revenue based on improved economic conditions will probably meant that the 2010 estimates are too low.

While we can certainly expect to see hesitancy in the rise of the S&P to levels above 1200, barring some significant unknown economic event, it is a highly probable outcome. Some areas of the economy are still weak and will remain that way for awhile, but these are known risks and as the Government actually takes action to increase jobs, as it will with an election coming up next year, we will see increased demand, increased revenue and increased profitability.

Whether the Government will be smart enough to turn the 2010 stimulated boom into a longer term self sustaining recovery with sustainable growth depends on how fast they increase usage of domestic and renewable resources, reduce the health care cost burden and reform the tax system.

Health costs and employment

While earnings have been improving we have not yet seen a significant increase in hiring. While inevitably, hiring will resume, the simple fact is that man industries that just went through painful layoffs will use that opportunity to implement permanent productivity increases that will result in a smaller need for employees.

Further, we unfortunately have many incentives to outsource jobs to other countries. One of the biggest of these is the excessive health care costs we have in this country. Now, health care reform is partly based on reducing these costs but if we do expand coverage, this will lead to increased demand and that normally leads to increased prices.

Clearly, we need some reforms designed to control cost increases in health care delivery and drug costs in this country. These reductions should not be related to reduction in beneficial health care but should be focused on elimination of waste to include unnecessary tests and procedures. Now, in each case the doctor patient role should not be precluded but we need to eliminate some of the fear of malpractice that leads to doctor's ordering tests that are not medically necessary.

It is certainly not desired to excuse doctors who are negligent, but we do need to reform the process which drives up the cost for malpractice insurance because of a pre-disposition to equate the performance of every conceivable test to good medical practice.

Ethical behavior

If you read Plato you may recall the question he poses concerning a magic ring of invisibility. The question can be summarized as follows, if you could do whatever you wanted to do without the danger of being caught, would you have any reason to be ethical or moral?

The question gets to the root of a human dilemma, is being "good" something that we should do or is the ultimate goal to "take care of number 1"? Now remember, this is pre-christian and the ancient Greek view of the afterlife was not the same as our current views. Further, if you really want to think about the question, getting caught by God would make it irrelevant.

So, giving no real fear of retribution, would most of us behave well, meaning not taking unfair advantage of our fellows. Unfortunately, based on recent headlines and events, it would seem many of the people in the financial industry are clearly on the side that says, get away with whatever you can. Now, I don't mean to pick on the financial world, but we see more examples there where unscrupulous people took advantage of people who for had no way of discovering their wrongdoing.

Of course it is probably unfair to focus on the highly publicized cases, but in an industry that relies on making trades where generally there has to be a winner and a loser, we probably cultivate some of the most cut throat behavior possible. It is also clear that some of the players are going to have an advantage for legitimate reasons. However, how do we control the unscrupulous players?

If you consider the financial world, there have been many safeguards designed in by the markets themselves. However, many of these self-regulating rules are not as effective as they once were as the old methods have changed due to changes in technology. In fact, one big issue that needs to be restored is trust. There are many, many people who simply don't trust the financial industry.

Government has to be part of the answer, but it can't be the complete answer. Government will never be big enough or capable enough to prevent abuse, it is more appropriate for it to punish abusers who get caught.

The financial industry needs to do what it needs to do to reform itself. This has to take into consideration that public trust is important, not just because of the amount of money that retail investors invest, but because public perception will lead to onerous Government intervention, and we know that can't come out well.

Risk taking

Success in any endeavor has many components, including hard work, intelligence, initiative and what may be best characterized as luck. Sometimes you can be successful and only employ one or two of these and if for example you simply stumble into a situation that leads to success. If for example you invested in Micro Soft because you happened to know someone associated with the founders in the early days, you may have made a fortune simply because you knew someone and maybe invested some money as a favor, even if you had no real conviction. This would be similar to someone winning a lottery. However, that sort of thing simply can not be counted on and if it happens, god bless, but a more reliable method is to employ hard work and intelligence.

Now intelligence is to some extent the result of hard work and it can be innate or purchased. By this I mean, you can certainly pay for advisers or sift through various sources of information to acquire intelligence in a particular area. Similarly, you can learn a skill that may enable you to be successful. Obviously, I am not using intelligence here to refer to potential knowledge but to actual knowledge gained.

So ultimately, you can use hard work to garner intelligence. You also have to act on your intelligence. This is initiative. If someone has acquired knowledge that indicates a potential trend or movement but fails to act, it is the same as not having the knowledge at all. This is initiative that may also be characterized as risk taking. The amount of risk that you are willing to tolerate often predicts the potential success you may enjoy.

Now this is where some of the most confusion arises. You often hear that you need to take some risk in order to enjoy significant success. However, just taking risk is not enough. For example, if you note that a particular stock for a well know company has dropped tremendously and buy it thinking it will recover, you have taken risk. If you have not acquired enough knowledge to support that conclusion you are likely to be wrong and lose the money you have invested. Now, not always, but this type of uniformed risk taking is, well very very risky.

However risk coupled with intelligence acquired via hard work can be a tremendously successful combination.

Price pressure

One of the things that seems to have changed is the sensitivity of the consumer for goods and services to changes in price. While obviously, price was always a factor in making decisions about whether to buy something or not, when demand was higher, it wasn't the main factor since many consumers felt the desired product or service might get more expensive or become unavailable if they didn't make a quick decision.

As demand fell off a cliff last year and prices plummeted, consumer's have taken a different attitude, feeling that the product or service will be available and that there is stronger likelihood that it will be cheaper if they wait. This change in sentiment is clearly going to put pressure on businesses and you see things like Coach coming out with a more affordable line of product to cater to the new consumer.

This attitude is also impacting the length of time products remain in use. Where many people felt that they needed to get a new car every few years, many are now postponing that decision and driving slightly older cars. This had led to a shortage in the used car markets. Now, I sometimes see this change characterized as a switch to cheaper products, such as store brands. However, while some of that has happened, it is more accurate that consumers want the products they have been used to buying at a lower price point.

Brands that in the past tried to maintain certain price levels are being put under a lot of pressure to provide consumers with deal. Of course, we have seen how business has been able to restore profitability by cutting costs. I believe it will be quite a while before prices will go back to what they were, since consumers have learned they can demand better value for their dollar.

This is flowing down the supply chain. I hear analysts talking about the risk of inflation as the dollar declines and things like foreign oil go up in price. However, companies that try to pass increased costs through to the consumer are going to have a hard time of it. I believe they will be spurred to find cheaper alternatives or ways to reduce costs in other areas to maintain low prices.

With all the extra capacity we have, inflation is a very unlikely event for at least two years, if not longer. In fact, deflation is still a more likely scenario.

Future economy

It is getting harder and harder for those who think the economy is not actually getting better to find evidence to support that opinion. While there are still issues in the economy related to home mortgages, commercial real estate, and unemployment, business has now factored in those things and adjusted their overall business models to handle a lower level of overall activity.

The companies that did this the best are making profits that exceed the estimates and indicate that they can be successful in the current and future economy. Consumer spending will probably not return to levels that existed during the bubble, but it doesn't need to. In fact, the fact that we have excess capacity and room to grow withing prior limits will limit inflation and put the overall economy on a better footing.

If consumer spending drops 15% and represented 70% of the economy, it would reduce GDP by 10.5%. Now we have seen this reduction and if consumer spending goes from 70% to about 66% of the economy, that difference can easily be made up over time by development of alternative energy and exports.

If you really look at the numbers, we are moving into a healthier economy than we just left and with the change will be able to reduce our balance of payment issues and start to absorb more of our own debt.

There are very healthy long term trends emerging and while we can expect some bumps in the road, the country is far from Armageddon.

Long term growth

In order to achieve long term stable growth in the United States, there are three things that have to happen.

The first of these is that we need to reduce or eliminate our reliance upon foreign oil. The fact that the country has an abundance of its own energy resources and is capable of developing renewable energy sources for the future makes the ongoing drain and uncertainty of foreign oil unacceptable. Further, it drains funds and contributes greatly to our trade imbalance. This has in my opinion already started as we have started to reduce usage of foreign oil via energy efficiency and ongoing conversion efforts, as well as reduced economic activity. However, as economic activity picks up, we need increased use of domestic and renewable energy sources. This would add jobs.

The second thing is that we need to change our method of corporate taxation and move to a consumption tax. By taxing products sold in this country, we will level the playing field from a tax basis, for domestic manufacturers. The increased cost of products should be matched domestically by a reduction in cost as the current taxes are eliminated. A tax like this would go a long way to encouraging the regrowth of domestic manufacturing as our products were put in a better competitive position both domestically and internationally. This would add jobs.

We need to eliminate the deficit and start reducing the National Debt. It doesn't matter if the reduction seems insignificant, any reduction would have the desired effect of strengthening the dollar and controlling inflation. Now, it may seem almost impossible, but I believe the energy and tax reform initiatives will increase revenue significantly as consumer spending rebounds and imported products pay their fair share. This has to be matched by reductions in federal spending. We seriously need to look at the cost of all federal programs and where spending is not mandatory, such as Social Security, make significant reductions. However the best path to balancing the budget rests in economic growth. Reducing our dependence on foreign oil and reforming our business tax system has tremendous potential to spur growth. If we can foster this growth while reducing spending by even modest amounts we can achieve a balanced budget in 5 years.

Half filled glass

When you consider data the old stumper about whether a glass is half empty or half full comes to mind. Of course, the answer to the stumper is that it depends on whether you are filling it up or drinking it. Data in a vacuum only provides you with a point in time. It is the trend that matters.

So when you see that foreclosures are still near record levels, the key point is are they getting worse or are they getting better? Similarly for unemployment, are more people losing their jobs or less people? You can go on and on with this, but in almost every category, the numbers while still not "good" are "better" than they were.

So, going back to the glass analogy, the glass which was being emptied for much of 2008 and early 2009 has now started to be refilled. It may not even be at the halfway level yet, but the level is rising.

Health Care Timeline

I just read a quote about leadership that said leaders take people where they want to go but great leaders take them where they may not want to go but ought to be (Rosalynn Carter). The first instance could be characterized as pure Democracy since in such a situation, the people completely dictate what to do. Most societies, over time, have found this to be an unreliable method to make decisions. If you look at the development of society you almost always find that democracy gives way to some other form of organization most likely because democracies often end up being unable to make tough decisions.

The United States has a representative form of Government. Now since representatives have to get reelected, they have to be responsive to the people they represent, but, for the period of their term they have a chance to take unpopular but correct decisions. However, their willingness to take risk is clearly dependent on how much time is left in their term. If you make an unpopular decision immediately before you are up for reelection you seriously put your future in danger. On the other side, if you have a significant amount of time between the decision and the election, if in fact it was the correct but unpopular decision, you have time in which you may be able to show that it was the right thing to do.

To a large extent the health care reform is subject to this time sensitivity. Realistically, there are some areas of the country where Government involvement in health care is looked at with some favor while there are some areas of the country where it is looked at as a terrible thing. Representatives from these districts have little doubt about what they should do. However, there is a significant part of the country where opinions are not so clear. It is these representatives who hold the outcome of the health reform decision in their hands.

What is most important in these districts where many Democrats won very close elections and where Republicans present a significant challenge to their reelection that it is important to get a health care bill passed this year. They have an election in November and need significant time to show that whatever is passed is the right decision even if many of their constituents don't think so now.

For those who wonder why the time pressure is so intense, this is probably the most significant reason.

Spending

Company after company has been reporting higher earnings and generally higher revenues than expected by the Wall Street Analysts. This is starting to build strong evidence that the economy is not as bad as these analysts think it is.

Now, there are problems in the economy but as I've said before, when someone loses a job or goes through a foreclosure it doesn't necessarily mean that they stop spending. In the case of the foreclosure, if they are still employed, it may mean they have more money to spend.

In fact the main loss of spending is not really related to either of these two events, it was related to the loss of home equity and the ability to borrow against that equity for large purchases. This and the negative environment and loss of wealth in the stock market, caused many people who were still employed to slow down spending. However, with the exception of large purchases that had previously been financed by using home equity they still have the same disposable income they had previously.

Consumer spending is not dead, it may be reduced, but it is growing again.

Growth

Growth is a relative term. You can consider growth over a long period of time or over a short period of time. In our current environment, you hear many argue that compared to a year ago or sometimes even longer, the results show declines in growth. However, in most cases the short term view is that growth on a month over month basis is up.

How do we reconcile these two things. Well, if you have a company that achieved profitability after negative growth, and it then starts to grow from the new lower base, profitability will also grow. However, if you need to return to prior year levels in order to achieve profitability, than the longer term view is appropriate.

Profitablility

If you invest in an enterprise, what you hope is that the enterprise makes money. You also want your investment to provide returns commensurate with the risk involved. Anyone can but bank Cd's or Treasury Bonds to get a relatively safe return (main risk there being inflation). However, if you invest in equities or another enterprise that carries the risk of failure, you expect a better return if it is successful.

You also would like the potential to see your investment's value grow. In fact, there are many stocks that only provide price appreciation as the possible return since they don't pay dividends. Of course if they are making money and reinvesting the money, you should see the value of your investment grow.

So fundamentally, the most important thing is that the enterprise returns a profit. A secondary consideration would be that the profit increases over time. Now, all of this is relative to where you make your investment. It is fairly rare for investors to be in at the inception of an enterprise. More likely you are considering the future of an ongoing enterprise and trying to decide if its stock is a good investment. Now, if the enterprise used to be much bigger but has contracted and revised its business model, the current enterprise is what you need to consider, not the enterprise that used to exist.

In our current economic situation, many businesses have contracted and reduced costs in order to adjust to the reduction in consumer demand. The fact that consumer demand is less than it was is really irrelevant since to make money you have to be a realist. If you can adjust your business model to be profitable at current demand levels you are a successful business. Over time, the demand may grow back to where it used to be and if it does, the enterprises can grow along with it, but there is no need for that return to happen quickly.

Increased profitability

Companies that made money last quarter will make more money this quarter if the earnings were based on continuing operations. It is ridiculous when I hear people with significant business backgrounds talk about how cost cutting is a one time thing. When you reduce staff, reduce inventory or eliminate facilities it is ongoing, and those costs will not return until you hire people or open new facilities. In fact, normally the cost cuts get better over time as severance payments or costs related to closed facilities go away.

So, the companies that achieved profitability via better efficiency (a nicer word than cost cuts) have only to see revenues stay the same to have an increase in profitability. If there is revenue growth it will greatly increase profitability.

In fact, the next quarter is going to see a shortage of consumer goods develop since retailer's have lowered their expectations and stocked much less inventory. As hot items start to move off the shelves, we will see manufacturers filling rush replacement orders and putting on additional shifts to satisfy this short term demand. Now, this doesn't require great sales increases from last year, since if you are stocked up to a level that expects less sales and get the same sales, you will be short of product.

Businesses are prepared for the worst and they are going to get something better than that. That is going to drive significant earnings improvements similar to what happened during back to school shopping. You don't have to sell more than you did less year, you simply have to sell most of your current inventory.

Predicting the future

In every time of crisis, some adapt and end up being successful and other fail to adapt and fail. The ones who adapt are finding opportunities and working to be successful while the ones that don't adapt complain about how everything is stacked against them.

The opportunities being created by the ones who are adapting the best clearly are in areas that are not clear to most of us. The changes that will come will be significant. Predicting these changes is difficult and like everything else they are dependant upon circumstances that may or may not already exist.

If you simply look at problems facing the United States and the World, you may get a feel for the areas where these innovators will make the biggest contributions. However, some of the changes will be in areas that are not even perceived as current problems. For example, twenty years ago I believe most people would have felt the telephone system that existed was quite adequate. However, now most people can't manage without their cell phones. This is an entire industry that was created without a perceived need for it. You can say it created the demand that it then satisfied.

In fact, most of the most successful innovations and growth industries are not in response to a problem that existed, but a brand new opportunity that we would have had problem imagining at one time. In many of our traditional businesses, the improvements have been significant but not revolutionary. In other industries, the new developments have created significant challenges that they are struggling to overcome. Think about network TV, newspapers, land line phones companies, etc.

So when I hear prognosticators talk about the downfall of the economy and the collapse of our society I have to wonder if they are taking into account the fact that so much is simply unpredictable? I don't think they are and I guess I simply have more faith in the entrepreneurial and innovative spirit that humanity has.

Consumer spending

Understanding the limits of on-air analysis, I am still a bit befuddled by some of the things I hear. The one question that I think I find the most insipid is the discussion concerning whether the consumer is back or not. Well, the consumer has never really left, they just bought less and became more value conscious. This was driven by the loss of equity wealth and that wealth is not coming back quite so quickly.

Consumer spending will now start to trend up from the low levels we saw early this year. However, it is not going to "jump" back to where it was during the bubble. The good news is that it doesn't have to for us to have a vibrant economic recovery.

Companies have adjusted their forecasts to a lower level of sales, have reduced staff and locations and are stocking less inventory. These productivity reductions will mean that they will sell most of their inventory at decent margins. Further, the suppliers have also pared back to provide the lower levels of inventory. Now this contraction in the economy has been accomplished and we will find that the companies will start to grow from its contracted point.

The recovery will not mean that we return to bubble levels, but we don't need to and in fact we shouldn't want to. What we need is to do all the things we are currently doing, reduce consumer debt, revalue assets to affordable levels and provide better value for each dollar spent. These activities will lead to a better fundamental economic base and sustainable growth.

Shoppers

The last few times I was at a local mall, the number of people there has been noticeably higher than just a few months ago. Some of this is probably related to the seasonal issues, such as back to school shopping, but in the early months of this year, the malls resembled ghost towns.

How good an economic indicator is this? Well, you can't have spending unless you have shoppers. The shoppers may be more value oriented but the folks were carrying packages and even more importantly looked sort of happy.

Going back a few months, the people who I did see at malls looked like they were sorry to be there. It almost seemed that they had to be there because there was something they had to get because they really had no other choice. Now the shoppers seemed more relaxed, and happier, chatting, going to the food court and generally creating a familiar buzz that was missing a few months ago.

I think the consumer is coming back, not at the same level as during the bubble but at a higher level than the last nine to twelve months. Considering how the companies have reduced cost, even small growth in revenue will result in significant profitability.

Cost cuts equal Productivity

I keep hearing how companies can't keep cutting costs to improve profitability. Well, from a purely mathematical point of view, I agree that cost cutting has a limit after which we would have liquidation. However, mathematics also tells us that profits can be made at any sales level as long as costs are less.

The cost cuts that business has undertaken, as well as other productivity improvements were designed to allow them to make profit with lower revenue. Once these reductions were obtained, they merely need revenue to stay flat, or increase. However, if revenue is seen to be decreasing further, there can and will be additional cost cuts.

Now one of the outcomes of this is that companies that have heavy leveraged positions are faced with fixed debt payments that can't be easily reduced. Basic accounting talks about fixed vs variable costs and the various permutations thereof and the more costs are variable the easier they are to reduce. Many companies have outsourced a lot of what once were considered core capabilities and in a downturn can simply reduce orders to reduce costs. Personnel are of course generally a variable cost and the high unemployment we are seeing is evidence of that.

So, companies that have kept fixed costs at a reasonable level can cut costs to a very low level to maintain profitability. The companies that had high fixed costs (debt) have either gone bankrupt or may end up there. This is the way weak companies get shaken out of the market and the more adaptable companies get bigger eventually. So, if a company made profits last quarter because of cost cuts, it will most likely make more profits this quarter. The three scenarios we face are revenues got worse, not the most likely scenario, revenues were flat or revenues increased. In the latter two of the scenarios profits will be the same or higher than they were last quarter. In the first scenario, the profitability will depend on additional cost cutting. However, this is the least likely outcome, since clearly economic activity was higher last quarter than it was in the preceding one.

Simple things

The economic recovery we have started is going to build up momentum as soon as we turn the corner on jobs creation. Of course, a certain number of jobs have been cut and they will never come back due to productivity improvements in the form of technological improvements and other factors. So to really get job growth, we have to stimulate new growth industries and reform our tax system to encourage jobs in this country instead of overseas.

I believe renewable and domestic energy as well as the growth in technology offers our best opportunity for significant job growth. I've discussed it before and if you want to have effective stimulus programs, it should be directed to home and industrial energy improvements and conversion to domestic and renewable energy sources.

Secondly, we need to change our corporate tax structure to tax items sold in this country no matter where manufactured. This change would level the playing field and reduce incentives to shift employment overseas.

These simple steps would go a very long way in putting a solid foundation under the recovery.

Economic domiance

The United States emerged as the dominant economic power in the world by the end of the 20th century. This was not the case at the end of the 19th since England and Germany were at that time dominant economies. Of course, if you looked at the United States in 1899, it was up and coming and clearly had the potential to become what it did. Of course the fact that Europe went through two devastating wars and the colonies achieved Independence had a lot to do with the emergence, or at least the speed of it, but the United States clearly had much greater potential than England or Germany without colonies.

So the question is, looking forward from 1999 to 2100, will the next dominant economic power be China? The main resource that China possesses in excess is the number of people who live there. Of course, China is a large country with approximately as much land as the United States excluding Alaska, but more of China is inhospitable than is the U.S. as the entire western part of it is mostly arid. Now, those areas may contain tremendous natural resources to be exploited, but in general, the United States seems to have more natural resources than China does.

So will China's large population bring it economic dominance? There is one thing that is certain. Since China has 4 times as many people as the United States, the size of its economy will eventually surpass that of the United States through the normal course of events. China has been growing and creating wealth for its population. As the consumer culture expands in China there will be tremendous opportunities considering the size of the population.

However, does China have the wherewithal to support a standard of living for its population similar to that enjoyed by the West? Well, ultimately, yes and when that happens the economy will be dominant. Of course, India is moving in the same direction and perhaps faster.

So sometime during this century the Asian powers will emerge as the two largest economies. This isn't necessarily a bad thing, especially if American companies and workers can exploit this growth by exporting products there.

Creating jobs

There are a number of things that are so obvious that stating them seems non-sensible until you think about it. If you want to accomplish something you have to be as direct as possible. In the years I spent reviewing costs, I lived by a fairly simple rule, "If you want to reduce costs, you have to reduce costs." Now, the reason this rule is so effective is because in many instances the proposals I would look at would have all sorts of machinations but when you really studied them, they just moved costs around, and didn't reduce them.

So applying this to our current economic situation, if the goal of the stimulus was to create jobs, it should have created jobs. Now, I will admit that I'm not an expert on every aspect of the stimulus, however, I do know that much of the stimulus money ended up funding things that had very little potential to increase jobs. Now, some of this money may be seed money, with the hope that the outcomes will eventually increase jobs, but it would seem that there were plenty of opportunities for direct job creation that could have been implemented.

You hear a lot of arguments from various politicians that the federal government should not try to dictate specific behavior in granting money. However, when you look through the stimulus plan, there is basically no money that can be clearly linked to direct job creation. One of the great mistakes you see in the bill is how much was given to the taxpayers and social security recipients. The assumption had to be that these folks would spend the money, however, in the current economic climate, more of them saved it then spent it and it provided no real stimulus to the economy at all. Second, the extension of unemployment benefits may have been altruistic, but had the money been used to actually employ some of these people, say having them work on infrastructure repair or energy projects, it would have reduced the unemployment rate and possibly forced some of the folks to be more aggressive in taking action.

How many jobs were saved or created by the stimulus? Clearly not enough. Suppose the Government created 1,000,000 direct jobs performing needed projects or funded the states to create these jobs using something similar to a program we had back in the 70s called the Comprehensive Employment and Training Act (C.E.T.A.), and if these temporary jobs with limited benefits cost $50,000 a year, it would have required $50 billion. However, 1,000,000 created jobs has a multiplier impact and a significant number of other jobs would have been created or saved to support the jobs created. Also, instead of getting unemployment benefits, the workers would be paying taxes and feeling a whole lot better about themselves.

The idea being that the best way to create jobs is to actually create them.

Seasonal adjustments

September jobs data like all the other months gets adjusted for what have been seasonal variations. Some of these adjustments are based on historical patterns and while they made sense when initiated, sometimes don't make sense in unusual economic times.

A lot of adjustments related to what has been historical patterns in the auto industry are simply wrong now. How much these distort the figures is open to debate, but the pattern that used to exist where many auto workers were laid off for a period while the plants retooled for the new model year has been disrupted by all the current chaos in the industry.

The question then is point is served by the use of these seasonally adjusted numbers? At one time, it was felt that the raw variations could provide a false impression as to the health of the economy. If you could predict that x thousands of auto workers let go in July would be hired back in September, the spike in unemployment they represented wasn't considered real. It was also of course politically problematic to have unemployment rates shoot up every summer and then drop again.

Statistically, if you were trying to determine the real structural trend, you had to eliminate these cyclical impacts. However, they require constant adjustment and can distort when times become unusual.

Market forecasting

As we go into October, the economy looks poised to continue its recovery. It should be remembered that only six months ago, there was a lot of people who believed that the entire worlds on the brink of a collapse comparable to the Great Depression.

Very few still hold that view (some do) but it simply looks like the economy has taken its lumps and has started to regrow. Business cycles are really very predictable in the macro but not so much in the micro. Now, we are moving into another earnings system and I would think we are going to see improvements over last quarter for most companies. Of course, the companies that have adjusted better will do better than those that did not.

The next three months present some challenges to the extent that there are a large number of professional investors who would like to see a market correction so they could put cash to work at lower valuations than current. Of course a correction could happen, but it would require a significant event to trigger it. One significant danger is the CIT situation and it is unclear if a failure to reorganize CIT would be enough. Another possibility might be some sort of terrorist event and I don't think anyone wants that.

Without a major stimulus the most likely outcome over the next three months is for the market to continue its upward trend, although possibly at a slower pace than the quarter that just passed. However, I still believe the earnings that are going to come this month and the forecasts will point strongly to an S&P level of 1150-1200 and that is about a 10% increase over the quarter.