Wednesday, November 7, 2012

WTH does "Uncertainty" Mean?

Since when is life or business certain? As Mitt Romney's tax returns clearly demonstrated, not even taxes are certain. The "Very Serious People" who claim that the stagnant economy can be blamed on government-induced "uncertainty", are clearly misinformed, or passing the blame on every "job creators" favorite punching bag.

Based on my direct dealings with lower middle-market enterprises ($50 > enterprise value), the biggest problem affecting incremental increases in capex, is lack of demand. Companies do not need additional goods and services. In other words, companies are not receiving excess purchase orders to justify hiring new  employees, or investing in sunk costs. I've met with over fifty companies this year, and their main issue is slack demand.

The current low interest rate environment has resuscitated borderline distressed companies and has given breathing room to firms with high costs of capital. What does this mean? Low interest rates have INCREASED earnings for companies, INCREASED valuations and has DECREASED credit risk for companies. Why do you think there's been a huge influx of capital into junk bonds...?

What the US economy needs is an INJECTION of long term investments, i.e. infrastructure and sunk costs like R&D, non-profit activities, etc. The government can raise the necessary capital by pricing bonds at a spread above the current 30 treasury bond. The government can also offer LOW taxes on capital appreciation of the bond (maybe 5%). Assuming a 5% coupon, if the government were to raise $4T (directly or indirectly through GSE's), the annual interest expense would be $200B.

The influx of $4T might induce inflation, but that could be controlled by an increase in interest rates. Also, tax revenues would increase via income taxes, capital gains, sales taxes, property taxes, etc.
We can always use numbers to support or debunk a theory, however, economics and life tends to skew towards behavioral variables. Ask Romney!

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