JOBS (cont.)

The first such period was the Great Depression. In 1933, the unemployment rate hit 24.9%, and the government reacted by passing a slew of new regulations on industry, increasing spending, and creating new entitlement programs and ‘make-work’ jobs programs. All of this was very popular as it made the government look like they were ’doing something.’ Yet in 1939, the unemployment rate was still 17.2%. Things got better, but not by much.

The second time the unemployment rate got up to near double digits was in 1982. At the end of 1982 the unemployment rate was 9.7%, and the government reacted by reducing regulation, reducing the size of government, and lowering taxes. The public response at first was not positive, since it appeared that government ‘didn’t care.’ By 1989 unemployment was down to 5.3%. Government continued to downsize through the 1990s and in 1999 unemployment stood at 4.2%.

One approach didn’t work and the other did. But, there were some side effects to the second approach. Most notably, there has been a disturbingly increasing gap between the haves and the have-nots.

Today we sit between a rock and a hard place. To produce jobs, we must encourage innovation by providing economic freedom, but we must also do something about the growing bifurcation of our society. This dilemma is spelled out very well in Jim Manzi’s essay for National Affairs, “Keeping America’s Edge.” Unfortunately what Manzi describes – correctly, in my opinion – as a “dysfunctional political dynamic” is preventing us from actually facing this challenge and has instead “given us the worst of both worlds: a ballooning welfare state that threatens future growth, along with growing socioeconomic disparities.”

Liberals are correct when they point out the disparity of the rich versus the poor in our country today, but they are blind to the reality that their attempts to control economic activity centrally are counterproductive and actually make things worse. Conservatives are correct when they argue for the power of the free market, but they are blind to increasing inequality. We live in a world where increasingly people are able to avoid any bit of information that does not fit with their world view. They increase their closed-mindedness by digesting only views with which they know they will agree. This serves only to grow our respective blind spots and our political dysfunction.

There are solutions, and I will discuss some during the course of this year. But they are going to require a mature facing of facts – all the facts. Big government does not work. We need to do something about the economic disparity in our society – starting with reforming education. We need a state-of-the-art regulatory system to govern the financial markets. If we do these things, jobs will come. In the meantime, beware of politicians promising jobs programs – they might just be handing out spoons.

Charles E. Osborne, CFA, Managing Director

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Market Forecast

Another year, another guess – I mean forecast – for where the S&P will end the year.
I am reminded of Peter Lynch’s warning that if you spend 13 minutes on a market forecast you have wasted 10 minutes. I will say that I am fairly optimistic about the markets’ chances in the first half of 2010, as corporate profits should continue to recover from their lows and inventories continue to rebuild. To me, the question becomes what happens next and that is very blurry. If history is the judge, the S&P will end up about 15% this year. That seems a little optimistic to me, but a return around 12% would be a reasonable expectation.

While it would not be surprising for emerging markets to take a little breather, the fundamentals remain strong. Small caps should also continue to do well. Europe remains the biggest concern for us regarding equities. We still believe the opportunities in bonds are in the corporate and high-yield bond market. Treasuries, usually the safe haven, look dangerous. Bonds may not prove to be the safe haven they have been in the past.