GM's IPO: A "Smart" Investment?

I finally came around to reviewing some of last week's news regarding GM's successful IPO. While this had obviously led to the usual and expected, self-congratulatory verbiage from President Obama and his political allies, others had expressed a bit more caution, and rightly so. With GM stock closing at $34.50 last Thursday (November 19), some members in the media, such as Reuters, were quick to remind readers that this was still way below the $53 needed for the government to finally recoup its investment, of which a sizable $9.25 billion (about a "37 percent stake," according to Steve Calogera at egmcartech.com), remained. And it was not clear when that will occur.

Meanwhile, that same day, Mat Phillips over at the WSJ's Marketbeat, reported a CRT Capital recommendation of GM as a "buy," projecting the price at $45-an encouraging sign, no doubt, but certainly not enough to satisfy critics who have raised questions about the validity and necessity of such large-scale government bailouts, not to mention that GM stock at this price would still be $8 less than the "break even" point. It is obviously a bit premature for Obama to crow about the "success" of this initiative, and it remains to be seen to what extent the government should put up such large sums in the name of "saving U.S. industry and jobs."

An AP article published in TBO.com, referred to a Center for Automative Research claim that this financial rescue of two of the Big Three automakers (the other being Chrysler) "saved" about 1.4 million jobs, covering the two year period of 2009-2010, but at the risk of billions in taxpayer funds. GM alone received $49.86 billion, according to Reuters.

However, unless both companies generate sufficient and consistent, growth and profits over an extended period, the bailouts will represent nothing more than billion-dollar, money-draining, taxpayer funded subsidies meant to insure that certain political entities will reap huge benefits come election time.  Only the most optimistic and perhaps naive, observer could claim that this IPO represents the vindication of a policy, that has yet to convincingly prove itself.

The Folly of Risking Trade War

There is a scene in Book XXI, Chapter IV, of Sir Thomas Mallory’s Le Morte D’Arthur,” which described how King Arthur waged his final battle with Sir Mordred, concluding with the utter destruction of both their armies, and leaving the latter surviving, alone. Meanwhile, the monarch still had two knights left, Sir Lucan and Sir Bedivere, though they were both “sorely wounded.” Sir Lucan pleaded with the king not to continue the conflict any further, reminding him that he had “won the field” that day. But Arthur would have none of that as he was determined to exact final revenge, at whatever cost. Readers all know what happened next because of his fateful decision.

This all came to mind as I read a recent question posted in the Wall Street Journal’s online “Journal Community” section:

Should the U.S. and other countries risk a trade war with China over the valuation of the yuan?

Alas, it is just another way of saying, should the U.S. and like-minded countries risk mutually assured destruction in order to fix what others refer to as a non-existent problem, or at worst, one that is overblown.  We could all simply end up like King Arthur.

As economist Walter E. Williams noted in his excellent article entitled, “Our Trade Deficit (May 25, 2005):” “I buy more from my grocer than he buys from me, and I bet it’s the same with you and your grocer. That means we have a trade deficit with our grocers. Does our perpetual grocer trade deficit portend doom?”

Of course not, I say, but as Dr. Williams had observed, this example illustrates that there is more to the issue than those seemingly frightening deficit figures used by certain “pundits and politicians” to scare the general public, and there are a fair number of such fear mongers these days, both from the political right and left, whether we refer to Pat Buchanan, Lou Dobbs, as well as former congressman Richard Gephardt, current U.S. Senator Sherrod Brown (D-Ohio), and a host of others.

However, judging from the lopsided poll results and angry posts in support of trade war, these respondents and other, similarly outraged individuals, have largely ignored the thoughtful and sensible pronouncements of people like Dr. Williams. Yes, these folks have certainly worked themselves up to a similar, “to hell with the consequences” frenzy, and the U.S. Federal Reserve’s new  initiative, known as QE2, is largely influenced by these same views. Fortunately, saner heads seem have to have prevailed at the recent G20 summit, with the general consensus rejecting American efforts to pressure China to relax tight controls on its currency. Yet, that hardly resolved any major issues, leaving the prospect of trade war hanging over everyone’s heads like a dreaded “Sword of Damocles.” More importantly, the United States has simply incurred the opposition of trading partners such as Germany (not to mention China) for this seemingly reckless monetary policy aimed at further bringing down the value of the U.S. currency, all in the name of “stimulating the U.S. economy and creating jobs.”

Gee, if only things were that simple and not fraught with risks, such as the likelihood of causing a dramatic rise in inflation, especially in the price of commodities like petroleum products. With the continued deterioration of the U.S. dollar, we may very well see oil prices again rise north of USD $100 per barrel, perhaps as early as 2011.  The Obama administration is probably betting that many Americans (especially those who actively participate as voters) are not savvy enough to know the connection, and unfortunately, that may very well be the case. Maybe people will finally figure it out once oil hits USD $200, with inflation raging at 20 percent.

Meanwhile, I doubt President Obama fooled anyone with his insistence that QE2 was “not meant to deliberately weaken the U.S. dollar,” as reported by Ben Feller of AP and others. It also appeared that the Fed was not fully prepared for international reaction, especially with countries getting ready to, or having imposed additional financial regulations meant to blunt the intended effects of QE2. Nowadays, I am increasingly convinced that Bernanke and his people are losing their grip on economic, global reality.

With this unfortunate and largely misleading political perception that America’s high unemployment rate is directly linked to its massive U.S. trade imbalance, and with increasing demands to impose trade barriers, other nations could likely respond in kind, which could bring us to a SH2 (Smoot-Hawley 2) type scenario and an economic nightmare that could reduce global trade dramatically and bring about massive, worldwide unemployment not seen since the Great Depression. As the philosopher George Santayana was quoted as saying, “Those who do not learn from history, are doomed to repeat it.”


(Originally posted by this blog's administrator at Citizeneconomists.com)

Deflation: Bernanke's "Imaginary Dragon?"

In his New York Times article (October 17, 2010) on the general impact of deflation on Japan, Martin Flacker spoke of "economists who portend that this represents a dark vision of the future." Indeed, in a speech back in August 27, 2010, America's most powerful economist, Ben Bernanke forcefully said that "The Federal Open Market Committee will strongly resist deviations from price stability in the downward direction," as noted by Greg Robb, at the WSJ's marketwatch.com.

In fact, just last month, Chairman Ben made noises about the Consumer Price Index being too low, and getting considerable flack for that, what with reports of rising commodity prices, which are normally associated with inflation.  Bill Bonner at DailyReckoning.com, sarcastically noted that "Bernanke is 'right'....Prices for people who neither eat, nor travel, nor heat their houses, are flat." Adding further fuel to the fire, Bonner's colleague Chris Mayer recently reeled off some revealing inflationary statistics courtesy of the Wall Street Journal:

"Corn is up 44 percent, milk is up 6.5 percent, hot rolled coiled steel is up 4 percent, copper is up 29 percent, and oil is up 14 percent from a year ago."

And we are also back to paying over three dollars a gallon for gas, and gold is way above USD $1,300 an ounce. To quote Mayer, "One day, the Fed will wish inflation were only 2 percent,"

Other economic indicators reflect this dire picture, according to Eric Fry, also at DailyReckoning.com, who came up with U.S. inflation numbers way above 8 percent (courtesy of ShadowStats.com). In other words, the "monster" has already entered the building.

Bernanke instituted QE2 in part to curb the likelihood of deflation, even though to critics, it is becoming increasing clear that he may be preparing for the wrong battle.  For many, it might look like the "barbarians of inflation" are inside the castle walls, but Emperor Ben has his back turned, fending off the "imaginary dragon of deflation."

Now, perhaps that is a little bit of an exaggeration, for deflation remains a possibility, although a remote one, a fact which even Bernanke had acknowledged, before.  Echoing that view, Jens Christensen, a senior economist at the Federal Reserve Bank in San Francisco, wrote in a FRBSF economic letter published in October 25, 2010:

"The recent economic slowdown has raised concerns about the possibility of sustained deflation in the years ahead. However, a refined model of inflation-indexed and non-indexed Treasury bond yields, which captures accurately the possible inflation outcomes perceived by bond investors, suggests that the probability of sustained deflation is just 5.3%. The model accounts accurately for the behavior of inflation-protected Treasury bond yields during the financial crisis and could prove reliable in evaluating deflation risk."

So according to another leading Fed economist, the chance of sustained deflation is under six percent.  I'm very sure most folks can live with that.

Meanwhile, on the other side of the world, the Chinese are grappling with the "beast" of inflation (NY Times, November 10, 2010), and that, my friends, is what Americans should really be concerned about, for it is already here, among us, regardless of the Fed's CPI figures.  And for those still wondering, QE2 should NOT be the weapon of choice.