THE WAY WE SEE IT - 2006

By Merritt K. Widen                                                  

Another year dawns, giving us an opportunity to make new predictions and give new advice.  Though we are not in the business of prognosticating, everyone in a position of responsibility, in business, in government, or simply as a pater or mater families must make educated guesses on the way things are going and what to do about them.  We have reviewed our predictions of the past few years.  Some were wrong.  Most were right on. Predicting can become addicting.

We read the work of the professional economic prognosticators.  Most mainstream economists seem to think things are going pretty well, with the American economy showing moderate growth.  But a small, smart and vocal minority sees very dark days ahead.  We are in the middle, but alas, find ourselves on the more pessimistic side of the ledger.

The arguments enumerating the excesses in the US economy have all been made before.  The balance of trade imbalance; the deficit; the housing bubble; the low (or zero) savings rate; the burdensome levels of consumer debt; and the recovery of interest rates to sustainable levels from levels impossibly low.  We agree that every one of these must, and will be corrected. And, frankly, we do not see how they can correct without a recession. The momentum of the economy, fueled by rising asset values, government spending, loosely-monitored debt, and historically low interest rates has, in my opinion, definitely changed.  We see a recession becoming firmly established by the end of this year, or the first part of next.

You heard it here first, folks.

I know we are contravening the mainstream.  However, we have seen all the arrows in the quiver already shot. I believe that US business is cautious, having been frightfully burned in 2000-2001.  I believe that the US consumer is becoming so. I believe housing prices will fall somewhat, and that people will take the appropriate action once they know the party’s over.  They will begin to clean up (their balance sheets). But in the face of slowing activity, I do not believe the Fed can afford to lower rates from already historically low levels.  The difference this time around is the amount of US debt in foreign hands.  I do not believe we can sell our debt at lower rates.  In fact, I believe rates will continue to rise despite the signs of economic slowdown. Ben Bernanke also probably expects a long tenure as Head of the Fed, and will try to do the right thing, and get things on a more stable footing, early in his reign.

But please do not put us in the camp of the Uberpessimists, those that are predicting some kind of financial disaster. Most of those writings, attacking the Administration, demonizing Greenspan (God bless ‘im) and predicting the end of American dominance, are based, I believe, on an irrational distaste for America, Americans and the American way of life.  For all its coarseness, crassness, and materialism, the American way of life is a force of nature, and you stand against it at your peril.

Some of the numbers of historical economic imbalance could indeed predict disastrous corrections.  But they do not take into account the power of what I call the Great American Economic Engine (Let’s call it the GRAMEE).  This is the incredible ingenuity, perseverance, and workplace diligence of tens of millions of Americans who work all day, dream at night, and make things happen. This is really what sets this country apart, and attracts the best, brightest and bravest from other lands. These folks are not much affected by economic conditions.  They produce and innovate and work despite the economic weather, and their collective genius is what will eventually prevail.

I also believe that the doomsayers do not show proper respect to the role of the US as the world’s policeman.  Simply stated, the world cannot protect itself without us, and is willing to pay us an economic premium for this service.  How long could Japan, Taiwan, South Korea, Germany, Saudi Arabia, the Emirates protect themselves, and their tremendous economic assets, without our help from a determined, or crazed, foe? These, and, other countries, have a clear economic purpose in supporting, and even propping up, the US economy, and its military. And it is irrefragable that Military is something America does well.  It’s power is both an economic as well as political asset.

What is the bottom line of all these geopolitical ramblings?  We foresee a period of long, but shallow, recession and stagnation, embracing a definite slowing in the second half of 2006 and a very weak 2007.  We foresee a dollar that continues weak, and interest rates that level off at higher levels than we see today.  We see tough sledding for the stock market, with a slightly downward direction for the next 19 months. We see a general increase in caution in business and investment.

But we see the GRAMEE chugging through this mess, and gaining steam slowly throughout next year.  And when the recession has ended, we see tremendous opportunities for growth in a re-tooled America in 2008, as the GRAMEE gets into high gear.

In this a fascinating environment, this is how we counsel our friends and clients.

First, remember that there is still plenty of liquidity in the system.  Institutional investors are flush with cash, and their need to spend it will outweigh their increased caution for the near future.  Corporate cash is at an all time high. Interest rates are still historically very low, making business cash flows very valuable from an historic perspective.  I think that if you are considering selling a business, this is still an excellent time to do so.

This is a good time to stick by your knitting.  Since it is a time of relatively high risk to low reward, it is not, in our opinion a great time to speculate or to diversify to new businesses. But, if you buy our scenario, it is a good time to prepare to grow your business for the next great cycle.  Investment funds are still plentiful and relatively cheap.  It is a good time to clean up your finances and prepare to grow in the future. It is also a great time to explore financial partnerships, as long as they are structured on the basis of long-term performance.

Finally, any US slowdown will definitely affect other economies, and probably affect offshore asset values much more than here, especially in the frothy markets of the past few years.  If you need to make arrangements to position your business in the new realities of the global economy, preparations now should result in good moves in 2007. And we still see the Chinese Yuan as being painfully undervalued.  Trade imbalances with the US are continuing to expand. Nobody knows how long the Chinese government can hold back the sea.  But it cannot be forever.  And when the Yuan rises, so too will Chinese asset values.

So, dear friends, be realistic, and play safe.  And please remember us if we can be of help in navigating these choppy waters. We are here to help.

Or if you want to chat about your own thoughts or predictions we would love to listen.