Wall Street: a total eclipse in sight

The US stock market has reached new highs. By any definition it is fantastically valued. Michael Roberts looks at the reasons behind the speculative fever and its relations with the real economy and concludes that a total eclipse is not far away.

"Those whom the gods wish to destroy, they first make mad."

On 29 July in Atlanta, Georgia, American Mark Barton went into an office block owned by All-Tech Investment group. He went up to the manager and said: "Sorry to spoil your day." And then promptly shot him and his secretary. He proceeded to shoot five others. Later his wife and family were found dead at their home. As the police closed in on Barton, he shot himself dead.

Barton had been a day trader. This is the new breed of stock market speculators that have sprung up all across the US. In the great stock market boom of the 1990s, many Americans have given up their jobs and started trading on the stock market full time trying to make their fortune. Drawn by the huge gains apparently to be made on the stock market, these speculators set themselves up at their homes or in shared offices and start trading on the internet.

The key to day trading is to buy stocks and sell them by the end of the day. You own no stocks when you start and when you finish. You just try to make money on the hugely volatile movements of share prices in one day.

This is short-term speculation at its extreme. Forget analysis of economics or politics, forget analysis of the prices and movement of prices that all the pundits in the big banks or on the business TV channels talk about. Just bet on one day's movement. After a little training, you can start up as a day trader with a little nest egg of money. And you can share offices with others doing the same. That was the service provided by All-Tech Investment in Atlanta.

But the pot of gold did not come for Barton. Everything went horribly wrong with his bets during July. His life was in ruins. He was unstable and now he went mad. The ultimate speculator turned to the ultimate solution.

New heights

It's a portent of what is to come. The US stock market has reached new highs. By any definition it is fantastically valued. The Dow Jones Industrial index, which measures the prices of the top stocks, was twice the level of the hourly wage earnings index in 1990. Now it is 7 times larger. In 1990, the Dow index was 2% of the US house price index. Now it is 7%. What that means is that the price of shares has risen nearly four times faster than average wages and three times faster than house prices during the 1990s.

The annual gross product of the entire world is $32trn. Yet the value of the US stock market is now $13.5trn, or around 40% of world GDP. The US stock market is 150% of US annual GDP. That's nearly twice as high as in 1929, the previous all-time high - and the date of the start of the biggest crash in the history of capitalism. In the last two years alone, the US stock market has increased by $5trn. But this has not been matched by a similar increase in profits for US companies. Since the end of 1996, the stock market index has risen 77%, but profits are up only 2%!

But here is the real story. This stock market boom is almost entirely due to the rise in prices of just a few companies - the high-tech companies and in particular, the internet companies. The US internet sector now has a value of $470bn. It has risen 250% in one year!

The stock market value of just the five largest US companies, Microsoft, General Electric, Wal-Mart, Intel and IBM, is $1.4trn, which is larger than all the debt owed by all US corporations. Microsoft alone is worth $500bn, making Bill Gates who holds 20% of the shares, the first $100 billionaire!

This is all a recipe for disaster. As former US Federal Reserve Bank chairman, Paul Volcker, commented: "The fate of the world economy is now totally dependent on about 50 stocks, half of which have never reported any earnings".

Market mania

The internet stock mania has been a wonder to behold. Apparently the average punter in the stock market can see no wrong with the internet revolution and its companies. As soon as a new company is launched, its share price rockets. And yet none of these companies have made a profit: Amazon.com, Yahoo.com, etc - not one!.

The bulls (as the optimists of the stock market are called) say that doesn't matter. They eventually will. And anyway, the great internet revolution is driving up the productivity of US industry so much that the US economy can continue growing at 4%-plus without inflation rising and without a break. That will keep the stock market up. It's a new 'productivity paradigm'.

But is it so different? In the 1920s, output per worker in US industry rose 43% while capital investment jumped at an annual average rate of 6.4%. In the seven years up to 1929, US GDP rose 4.7% annually (much faster than in the 1990s) and unemployment fell to 4% (as now). As now, all this extra wealth was concentrated in the top portion of the population - income from profits, interest and rent compared to wages was twice as high as later in 1945. Everybody was engaged in stock market speculation (margin trading then). And stocks were selling at 50 times profits. Now they are selling at 50 times sales (not even profits!).

And take productivity. In the golden era of capitalism between 1950-73, real GDP per working person rose 2.4% a year in the US. In the great internet revolution of the 1990s, it's been rising just 1.7% a year. Real costs (after taking into account inflation) per unit of production for US capitalists did not rise at all during the 1950s and 1960s. Despite the new productivity paradigm, they've been rising at about 0.5% a year in the 1990s - not much, but more than in the golden era.

Huge bubble

The reality is that the stock market is a huge bubble, not based on the reality of fast rising productivity (or profits) for capitalism (although it's much faster than in the 1970s and 1980s) but on the expansion of cheap credit. The central banks of the world have cut interest rates right down and they have boosted the printing of money to new levels to save the capitalist world from deflation and slump.

But in doing so, they are breeding a new crisis. When it becomes clear that this bubble is based on thin air, it will all come down with a bang. And that time is near. Already in the last month or so, the US stock market has been falling back and the internet stocks in particular. It was that 'correction' that burned mad Mark Barton out and led to the terrible tragedy in Atlanta. In 1929, people who lost money in the stock market apparently threw themselves off skyscrapers in Wall St, New York (although JK Galbraith in his book, The Great Crash, said there were no reported cases of this actually happening). In 1999, instead, they get a gun and shoot everybody else.

How will the 'correction' come? First, US economic growth is unsustainable. Industry has benefited from cheap imports from abroad and low oil prices. And investment has been financed by very low interest rates and huge borrowing by US companies. They have borrowed much more than they have made in profits. And they've used this money not only to invest in internet and high-tech, but also in buying their own shares to keep the price up and maintain the stock market boom.

Falling dollar

But now the dollar is falling and with it import prices are rising and the US trade account is widening sharply. Costs are going up. And world interest rates are now on the rise. In June, the US Fed raised rates. The Bank of England has stopped lowering them. So has the European Central Bank.

Wage costs are on the rise in the US because productivity growth cannot match rising pay increases demanded by workers who are in a stronger bargaining position with unemployment so low. Above all, productivity returns from increased investment are not coming through at the same rate any more. US profits have bounced in the first half of 1999 because of the continued consumer boom and improved economies in some parts of Asia. But from now on, profit growth is going to be hard to come by. Higher borrowing costs and less profit growth - that's a formula for a credit squeeze and economic slowdown.

The stock market is already fearful. Worry could soon turn into panic. And if Wall St crashes, it will hit millions of Americans with much of their savings invested in speculative shares, like Mark Barton. First madness, then destruction. If the US economy spirals downwards, it will take the rest of the world with it.

It will be a total eclipse.