Capital Accumulation, Financial Repression, and Other Stuff

I’m all for capital accumulation (financial and non-financial).   It’s the American way to concentrate these two forms of capital and that concentration has served us well over a couple of centuries.   I doubt many would argue that economic growth is not at its best when both financial and non-financial capital is accumulated and concentrated.   Financial capital is fairly self-explanatory, but by “non-financial” I’m referring to human capital.   To accumulate non-financial capital, the workforce must be better educated, better skilled, and motivated to share in the overall growth of the economy.   Bigger pie and bigger slices.

Recent years have shown a great deal of financial accumulation (a) with a decline or stagnation in non-financial capital accumulation (b).   Accumulating (a) without accumulating   (b) leads to sluggish economic growth, a bifurcation of ideology among a citizenry, and political polarization as each side puts forth its ideas as to how to grow (a) and (b) together.

This is where we find ourselves today.   You can hardly turn on the TV without hearing the expression “sluggish growth.”   Similarly, the concept of inequality has been elevated in the media by the likes of Occupy Wall Street and a recent Presidential stumping tour.   One thing has become clear since the financial crisis:   The accumulation and concentration of financial capital has been a smashing success, while the opposite is true from the standpoint of non-financial capital.

Some of the anecdotes backing up my observation are so shop worn that repeating them here would be an exercise in self- and reader-boredom.   We all know about the top 1% and the 99 percenters.   I’m more interested in trying to quantify the accumulation and concentration of capital as a way to assess potential future economic growth.   That is, if you believe that accumulating and concentrating an increasing amount of (a) + (b) is the way to grow the economy, then the rest of this blog may be modestly interesting to you.   If you don’t think that equation has merit, sorry for wasting your time up to this point.   Have a nice Holiday.

To oversimplify the analysis, I’ve put together a few tables.   Therein  you will find 1) the percentage of capital gains taxes paid by the top 400 taxpayers by AGI (from the IRS), 2) the unemployment rate (from the BLS), 3) the labor participation rate (from the BLS), and inflation adjusted (real) median wage information (from the Census Bureau).   The first item is an attempt to gauge the accumulation and concentration of financial capital as a function of how it is taxed.   While it is a blunt instrument, I think looking at the trend and magnitude can be useful.   The next three items are being used to gauge the accumulation and concentration of non-financial capital.   I selected three different metrics to view the data from a few different angles.   I selected the timeframe of 2004 – 2009 for the analysis since 2004 is post-tech bubble and 2009 is the most recent data available from the IRS.   2009 also encompasses the financial crisis and the beginnings of the recovery.

% of Capital Gains Paid by Top 400 Taxpayers Based on AGI

2004                        8.30%

2005                        7.48%

2006                        8.48%

2007                        10.07%

2008                        13.10%

2009                        16.00%

  Year-End Unemployment Rate

2004                        5.4%

2005                        4.9%

2006                        4.4%

2007                        5.0%

2008                        7.3%

2009                        9.9%

  Labor Force Participation Rate

2004                        65.9%

2005                        66.0%

2006                        65.8%

2007                        66.0%

2008                        65.8%

2009                        64.6%

Real Median Household Income

2004                        $53, 891

2005                        $54, 486

2006                        $54, 892

2007                        $55, 627

2008                        $53, 644

2009                        $53, 285

So, what do these tables say?   From the period 2004 – 2009:

·          Capital gains tax paid by top 400 taxpayers increase by 7.7% (a factor 92.8%)

·          Unemployment rate increased by 4.5% (a factor of 88.3%)

·          Labor Force participation declined by 1.3% (a factor of 2.0%)

·          Real median household income declined by $606 (a factor of 1.1%)

What seems to be shaping up based on this rudimentary analysis is that financial capital accumulation and concentration is progressing quite nicely.   While the IRS has not yet published any data post 2009, I think it is safe to assume that the accumulation and concentration has increased since then.

The non-financial factors, however, show stagnation at best, reduction at worse.   Further, we know that the unemployment rate has now fallen to 7% (better), labor participation has fallen to 63% (worse), and real median household income has fallen to $51, 017 (also worse) since 2009. Again, this points to stagnation or recession in the accumulation and concentration of non-financial capital.

One can debate the causes of the difference in the rates of accumulation and concentration of financial and non-financial capital, but I’ll posit the following as my opinion:

  • ·          Financial Repression:   Zero interest rate policy and massive bond purchases by the Federal Reserve has punished smaller savers and helped corporations materially improve their balance sheets.
  •   ·          Education mismatch:   A large percentage of the workforce is educated and skilled in fields that are becoming less viable (how many MBA’s were being cranked out just ahead of the financial crisis?).
  •   ·          Crisis of confidence:   In both the political and financial realms, confidence in the system is eroding (government shutdowns, the perception of cronyism, market flash crashes, insider trading, etc.).   Confidence is the lubrication for these systems and once it is lost it is very hard to recover.
  •   ·          Political polarity:   Pick your poison…   redistribution or trickle down.

Still…   I’m rarely paid to provide social or political commentary.   As I mentioned earlier, my professional interest in these things is to attempt to estimate the rate of future economic growth.   The reasons for the increase in financial capital and the stagnation of non-financial capital appear to be systemic – that is to say that they cannot be easily corrected in a short time horizon.   The question then becomes, “Can financial capital be accumulated and concentrated rapidly enough to spur economic growth in the absence of a similar acceleration in non-financial capital?”   I’ll let that question answer itself with one more table: Inflation Adjusted GDP Growth:

 2004                        3.1%

2005                        3.0%

2006                        2.4%

2007                        1.9%

2008                        -2.9%

2009                        -0.2%

2010                        2.8%

2011                        2.0%

2012                        2.0%

2013 (est)                2.1%

Add to this that the Federal Reserve is very likely to begin removing one of their mechanisms for aiding the accumulation of financial capital (QE) while continuing to hold interest rates at zero, and I’d argue that the accumulation of financial capital will begin to decline while little or no change will be coming to non-financial capital.   In such a scenario low growth would be expected.

I will stipulate that this analysis is very narrow and country-specific.   There are many other factors that can help to determine future US growth.   I just find these trends to be unsustainable and unhealthy in both the short- and the long-run — financially and socially.

Can we believe in next year’s expected earnings multiples for the stock market in a low growth environment when profit margins are already at record highs?   Something needs to move – either the P or the E.   – LL


Recession. The Technical versus the Real.

It seems as though every cycle comes with its own new lexicon or isolated points of contention.  During the Great Recession, debate circled around “in what inning of the recession are we?”  For weeks this was bandied about by the “experts” whom had nothing better to do than opine on CNBC or Bloomberg TV. 3rd inning, 7th inning, blah, blah, blah.

Similarly, we heard the same debate about “the Treasury Bubble.”  That one had a shelf-life of over two years until (finally) Bill Gross threw in the towel and went home to “cry in his beer.”  (His words, not mine).  Incidentally, his bottom quintile performance speaks, perhaps, slightly louder than his eventual acknowledgement.

The debate du’ jour happens to revolve around whether the country is re-entering recession.  What is sadly comical about this debate is that is revolves strictly around the technical definition of recession1. A period of temporary economic decline during which trade and industrial activity are reduced, generally identified by a fall in GDP in two successive quarters.

I find this debate to be sad due to the fact that, during the exercise of trying to guess whether GDP will fall for two consecutive quarters (and the rafts of graphs, tables, and charts displayed to rationalize one or the other side of the argument); the social damage inflicted by this economy becomes obscured.

At last count, the unemployment rate was 9.1%.  Drive down the street, make a conservative assumption that each home you pass holds only one person actively seeking a job, and understand that (on average), one out of each 11 homes contains an unemployed adult.  Add back the underemployed and those who have simply walked away from the job market and you’ll only have to drive past 7 homes.  That sure feels like a recession.

If you happen to be driving through a minority neighborhood, pass 6 houses and you’ll find someone who is unemployed (source: National Urban League).  Recession?

And while you’re driving by those homes, it could occur to you that 4 out of 10 (on average) are underwater (source: Standard and Poors).  If you’re driving through Las Vegas, 8 of 10 have bubbles rising outside their windows (source: Zillow).  Driving through Orlando, it’s 5 of 10.  That sure feels like a recession.

Let’s keep driving.

With about 46 million Americans now on food stamps, 1 in 7 of the homes we pass will be collecting assistance to eat.  That is 15% of our citizens needing… food.  That sure feels like a recession.

The problem with today’s technical discussion about recession is that it masks the social effects of the present environment.  And from an investment perspective; ignore the social effects at your own risk.

Ignoring the social situation and focusing almost exclusively on monetary policy is short-sighted and ineffective.  If 15% of the country is struggling to eat, 40% of the country has underwater homes, and 9% of the country doesn’t have a paycheck, it strains logic that manufacturing a “wealth effect” by forcing up the price of speculative assets will solve the economy’s woes.  The speculative assets are concentrated with a relative few, and this economy needs broad participation to return to good health.

Further, incessant tinkering with monetary policy has led to bubble after bubble, escalating the social problem each time.

Yet, the debate rages on about recession or no recession, QE3 or no QE3, and risk-on or risk-off.

My thoughts:  If we cannot arrive at a coordinated solution that includes fiscal, monetary, and political sanity, it is hard to consider allocating capital to risk assets.  Sourcing investment returns from areas only loosely associated with risk asset pricing continues to dominate our thinking.

Now…  returning to some observations about the state of our economy, I include some observations from Dr. John Hussman of the Hussman Funds. (

I included the link to Hussman not as an investment recommendation.  Rather, it is a legal condition of reprinting Hussman’s copyrighted material.

“It is now urgent for investors to recognize that the set of economic evidence we observe reflects a unique signature of recessions comprising deterioration in financial and economic measures that is always and only observed during or immediately prior to U.S. recessions. These include a widening of credit spreads on corporate debt versus 6 months prior, the S&P 500 below its level of 6 months prior, the Treasury yield curve flatter than 2.5% (10-year minus 3-month), year-over-year GDP growth below 2%, ISM Purchasing Managers Index below 54, year-over-year growth in total nonfarm payrolls below 1%, as well as important corroborating indicators such as plunging consumer confidence. There are certainly a great number of opinions about the prospect of recession, but the evidence we observe at present has 100% sensitivity (these conditions have always been observed during or just prior to each U.S. recession) and 100% specificity (the only time we observe the full set of these conditions is during or just prior to U.S. recessions). This doesn’t mean that the U.S. economy cannot possibly avoid a recession, but to expect that outcome relies on the hope that “this time is different.”

As always, it’s up to the reader to determine if these facts are “fitted” to support the conclusion, or the other way around.  In any event, Dr. Hussman is a smart guy and usually has some interesting insights.