Jan

1

PandaWhat is the benefit from dramatic falls in valuation such as we have seen this year? Market prices embody the judgements of millions of minds. How could so many be so wrong, either before the crash or after? Maybe the $50 billion in fraud-induced value coupled with the distorting effect of millions of dollars in falsified returns each month can account for a small slice of the distortion. Asset bubbles stoked by monetary authorities and securities mischief can account a bigger slice of the overvaluation.

But maybe there is a separate but larger "purpose" in the crash. Art Laffer and Steve Moore have a new book The End of Prosperity where they argue that steady economic growth and vast increases in prosperity followed the tax cuts enacted in 1983. Economic and financial chaos opened the door for significant deregulation and tax cuts.

But as the economy prospered, state and federal governments have steadily ratcheted up taxes and regulations. Businesses and investors have developed strategies to adjust to this growing tax and regulatory burden, trying various financial innovations, like replacing working capital with revolving debt, outsourcing, and leveraging investments.

A huge financial crises lets Atlas shrug off the great burden of state taxes. Heavily regulated and taxed General Motors now received all of its past corporate taxes back in the form of a bailout. And the firm won't be paying taxes anytime soon. Neither will the millions of investors and firms who have lost so much in the crash.

Across the country newspaper are reporting that state governments are in "crisis" due to falling tax revenue. This though is a good thing. When corporations suffer downturns and have cut expenses by 20 or 30%, they try to cut the least productive parts of their operations. The result is that many firms grow leaner and more competitive, and assets spun off go are often revived under new management. Government regulators and bureaucrats let go are of two-fold benefit to the economy. They are no longer tasked with eating taxes and burdening private commerce. And when employed by private firms they are trained and motivated to actually create value.

Politicians, bureaucrats, agencies and government contractors live off of private sector taxes and fees. As the economy expands, so do these parasites and predators. Panda bears similarly expand during good times. A Giant Panda consumes 20-30 pounds of bamboo a day. From the Giant Panda's perspective, the purpose of a bamboo forest is food. Over the years, the growing Panda population becomes a burden for bamboo forests.

Bamboo forests have developed an interesting response to parasites and predators. Each species of bamboo forest has its own internal clock, and across its entire habitat, all trees flower and die at the same time. For some forests the die-off are from 60-100 years apart. This mass die off causes a significant die-off of species that live off bamboo. Lots of fat Giant Pandas are left with little to munch on, and their populations decline dramatically. The new forest grows healthy and strong and many years pass before parasite populations catch up.

So maybe bamboo stocks and corporate stocks die off for the same reason: to rid themselves, at least for a decade or two, of predators and parasites. (A more extensive version of this will appear in an upcoming issue of The Freeman.)


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