TCS Daily

Good Stock-Market News Lost in the Election Turmoil

By Kevin Hassett - November 20, 2000 12:00 AM

Markets were crushed last week. High-tech stocks were hit especially hard, with the value of the Nasdaq dropping by one-seventh. There is no question that the main cause of the decline is anxiety that the presidential election will spiral downward into a constitutional crisis. Markets hate uncertainty, and often move sharply downward when a small probability of significant upheaval becomes apparent.

History shows, however, that the market recovers sharply when the risk of calamity disappears. Remember the Asian crisis? If the presidential campaign works itself out, then we can expect a relatively rapid recovery; in fact, we already saw strength on Monday.

But politics isn't everything. What else is going on in the economy? Certainly, some businesses - of the New Economy and the old - are being hurt by disappointing earnings. Hewlett-Packard fell far short of its expected profits in the latest quarter, and Staples, the office superstore chain, reported that its earnings year-to-year fell 8.5 percent in the third period because of tough competition and weak computer sales.

Two solid pieces of good news, however, were obscured by the election dispute. The most important was the Producer Price Index (PPI) for October, which was reported last Thursday. The PPI measures the prices that U.S. producers - as opposed to retailers --- receive for their goods. While energy prices, naturally, showed steep increases, the prices for everything else were very stable. The index excluding food and energy was only one percent higher than it was last year - an amazingly low number, especially if you consider that energy prices have soared, with heating oil, for example, up a whopping 70 percent.

What should we make of that? It is true that there is often a lot of noise in price data, but look at the last few months' year-over-year numbers. September was up 1.2 percent relative to September 1999. August was 1.5 percent above the previous August, as was July. June was 1.4 percent above June of 1999. Altogether, we are seeing a deceleration of inflation, despite the oil shock.

In the past, oil prices would have caused the price of everything else to accelerate. Now we can be nearly certain that we have dodged the bullet. Indeed, the deceleration of prices suggests that the increase in supply from the high productivity of new technologies is racing ahead of demand. The New Economy is really changing the normal pattern of the business cycle. Thus, there is plenty of room for the Federal Reserve to cut rates now, and you can expect the intransigent Fed to begun to mutter something about interest reductions in the next few meetings. If I were sitting on the Fed Open Market Committee, I would vote for an immediate rate cut.

Lower rates will likely push the stock market higher, and reduce the risk that we will decelerate into a recession.

The second piece of good news was that some form of gridlock likely emerged from the elections. As I write this, we still don't know which candidate will be our next president, but the election on Nov. 7 left the balance of power in Washington so close that significant new regulations will be almost impossible to pass into law.

Why is that so important? A close friend of mine who has been involved in a number of successful high-tech start-ups has made a career out of changing ships just after his vessel has proven seaworthy. I asked him once, why is it that he never sticks around for the ride once the firms start making money? His answer says a lot, I believe, about why our economy is doing so well. He said he switches from his established firm to a new startup because, that way, he always stays several steps ahead of regulators. By the time Washington knows his product exists, he is on to the next one.

Our economy has been deregulated lately at an astonishing pace, perhaps because government has been gridlocked, but also because our old-economy government has been unable to keep up with innovators. In nature, the presence of faster prey inevitably leads to faster predators. Are we in danger of evolving a faster government? Prior to the election, there were signs that government was catching up.

There are many beasts that could emerge to ravage our economy, but the most imposing candidate near the end of the Clinton administration was clearly antitrust policy. A strong mandate for Al Gore, whose rhetoric at least was significantly to the left of Bill Clinton, would have empowered the FTC and the Justice Department to "Microsoft" strong new-economy firms at will. There are plenty of fat targets. Intel has already dodged an antitrust bullet and there are numerous other candidates. EMC has a large share of the computer storage market, and a market cap that exceeds that of Microsoft. Corning makes most of the glass that is melted into our fiber-optic network, and has a share price that has more than tripled in a year. A sweep for the Democrats would have put these firms in jeopardy.

Instead, we have a tenuous Republican control of the hill that will make it difficult to pursue just about anything contentious. In the White House there are two possibilities. A Bush administration will likely remove many of threats introduced at the end of the Clinton years. A Gore administration will likely -- given the closeness of the election -- need to stake out an aggressive position in the center in order to establish the fact that it can govern. Neither is a recipe for strong government, which is pretty good news.

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