Business & Economics

Productivity growth

2012-01-25T23:13:00.001-08:00

The Economist reported in December that productivity has unexpectedly been growing robustly in the US. This is despite the fact that last year many experts were predicting slow productivity growth. Some of the people interviewed said they saw no limit to its continued climb.

The gains have been, theoretically, driven to a large extent by necessity. In the current economic environment, competition is tough, and firms are looking for any edge they can get. Workers are also eager to be productive to keep their jobs.

This last factor stems in part from the fact that the US's labor market is much more flexible than those of many other countries. Companies have more freedom to hire and fire at will. One of the things that has been holding Europe back for years is inflexible labor markets.

Productivity growth is a big driver of economic growth and an important factor in international competitiveness. US productivity growth in the past year has been faster than most other developed countries.

Long View--supplemental

2011-10-21T06:35:00.000-07:00

Ron Paul (Republican candidate for President) had an interesting op ed piece in the Wall Street Journal yesterday (Thursday, Oct 20, 2011), claiming that our current economic mess is mainly the fault of the Federal Reserve and calling into question the need to have the Fed at all.

It is true that some economists and analysts have blamed at least part of both the Great Depression and the so-called Great Recession (which may or may not be over now) on incorrect monetary policy by the Fed. In the case of the Depression, they are accused of persisting with deflationary monetary policy even as catastrophic deflation was already happening. In regard to our current situation, they are accused of having an "easy money" policy that expanded the money supply too much.

There were booms and busts and banking panics before the Fed was established; the Fed was supposed to be a solution to that problem. But as often happens with solutions, if they are not based on a total understanding of what the problem actually is, the solution itself becomes a problem, often even worse than the original problem. The booms and busts and panics that happened before the Fed was invented were more frequent than, but not as bad as, the ones that happened after.

Having smart people in charge of managing our currency and economy sounds like a good idea, but it could be that the complexity of these things has outpaced the ability of these smart people to understand them. Economic theory, which is always changing, may be behind the 8-ball on these matters.

What would take the place of the Fed if it were abolished is not clear. At any rate, what are the chances of that happening? Slim to none.

A Long View--Part 2

2011-10-18T18:43:00.000-07:00

Until the fall of communism, the economies of a large part of the world were held down by their governments. Most of their people were locked into perpetual poverty.

Communism, however, was not the only culprit. India, though nominally capitalist, was heavily socialist. Its economy too was held down by excessive state control.

China's economy had been brutalized by Mao, with various Five Year Plans and the infamous Great Leap Forward. But in the late 1970's, things began to change. The vise-like grip loosened.

Today, though China's government is still heavily involved in the economy, the winds of capitalism and free enterprise are blowing hot and heavy. The Chinese economy is growing like crazy. And they seem to be kicking our butt.

China has the advantage that Japan had 30 to 40 years ago--low-cost labor that can do quality work. And their population is huge. It would seem that it would take a very long time for their wages to rise, as Japan's did, to the level of developed nations.

India, too, has reduced government control of its economy, and it too is growing rapidly. It too has a large population that works for wages far lower than those in the US.

Other areas of the world are entering the so-called global economy. Most of Asia is proceeding with rapid growth.

All these billions of people producing low-cost products and services represent a down-draft for wages and prices in the US.

To look at it in a positive way, after so many years of talking about lifting people in poor countries out of poverty, now we are doing it. We are doing it by buying products made in their factories and by buying services out-sourced to them by American companies.

Wages in China are actually starting to rise a little. Thus it would appear that their supply of cheap labor is not quite as infinite as we might have thought.

This is a fluid situation, not one that will always remain the way it is now. Maybe China will catch up and pass us. But we thought Japan would do that. They didn't. However, it is certainly true that China is much bigger than Japan.

But the question is not one of who will be bigger or richer. The question is whether wages and standards of living will reach some kind of equilibrium.

And, since the pie we share is not static but ever growing, can that equilibrium be at a high level? Can we avoid having our standard of living pulled down by theirs? Can we raise theirs up instead?

In reality we may be experiencing some degree of drag on our standard of living from the current lack of equilibrium.

We could erect trade barriers against cheap products from overseas. But the lessons of the past seem to indicate that trade barriers lead in one direction: down. Everybody loses.

We have embraced and pursued free trade. It is dangerous and uncomfortable. But we feel that the competition makes us stronger.

Other nations may pursue us and come close to catching up. But so far no one has been able to lead like we can.

It is easier to pursue than to lead.

A Long View--part 1

2011-10-17T01:26:00.000-07:00

After World War Two, a large proportion of the factories in the developed world had been bombed out--except in the United States. The US's industrial capacity was a key reason it had won the war. Its ability to produce tanks, planes and ships was unmatched. When the war ended with Europe, Russia and Japan mainly in rubble, demand for peacetime production was high, and US industry obliged. Times were good for factories and their workers. Wages rose, and unions were strong.

Demand for military production continued as well, since the Soviet Union was a major threat to Europe. And we were providing funds to rebuild Europe.

Over the next couple of decades, Europe revived, and Japan re-emerged as an industrial power.

Wages in Japan started out low, giving them an advantage over factories in the US. The US began to experience the rising tide of imports from Asia. The impact seemed to be particularly severe in the auto industry. The US ended up making a series of deals with Japan in which Japan agreed to limit its exports of autos to the US. This seemed to help, but on the other hand, Japanese car makers sent over more expensive cars rather than the hordes of cheap ones. Thus they did not lose much money on the deal.

Meanwhile Japanese wages and general standard of living rose until it reached the range of that of the US and Europe. Japan became part of the developed world. It lost its low-wage, low-cost advantage over the US and Europe. Yet its manufacturers were still almost legendarily efficient, profitable and high-quality. They continued to be a formidable competitor.

In the 1980s the Japanese overextended themselves, running up huge debts to invest in US assets. Some of the assets they bought at their high water mark seemed to be symbolic of a Japanese economic victory over the US.

The government-directed industrial policy of Japan also reached a point where they were done catching up, and if they were going to really overtake the US, they would have to lead the world in new directions in technology and innovation. Artificial intelligence seemed to be a new frontier with huge potential. They embarked on a course to advance heavily in that area.

But the debts they ran up in over-expanding into the US, plus the unexpected difficulty encountered in developing artificial intelligence, led to Japan's "lost decade." Growth ground to a halt, and unemployment rose. The government began a long period of deficit spending to try to stimulate the economy. Yet structural problems in various areas of their economy, particularly their finance industry, have kept japan from recovering from their slump. The lost decade has stretched out into another decade.

Japan is still one of the largest economies in the world, but it does not at this time appear to be a threat to overtake the US.

Part 2 will consider China.

Recession?

2011-10-07T19:04:00.001-07:00

There has been a lot of hand-wringing in the media, especially the financial press, about whether we are about to experience the second dip of a double-dip recession. At the same time there are people who say that, with 10% unemployment, why should we say we are not in a recession now?

It may indeed turn out that future economists will look back at this period of time--especially if we do have another dip--as one long recession. The anemic growth that we do have is totally created by government action: stimulus spending by Congress and easy money by the Federal Reserve. The conditions that created the recession have not yet been resolved.

On the other hand, the doomsday predictions from some quarters of a catastrophic failure of our economy and indeed our civilization have not come to pass, despite the fact that the potential did definitely seem to be there for a very hard landing. We are not out of the woods yet (see Europe), but maybe we will survive.

Though conditions existed in 2008 that could have led to as big a collapse as the one that led to the Great Depression, there are three huge differences in how the crisis has been handled compared to how things were handled at the beginning of the Depression.

1. In 1929 and 1930, nothing was done to stop the world's currencies from deflating catastrophically. In today's crisis, everything possible was done to prevent that, and so far it appears that those efforts have been successful.

2. In the Depression, banks were allowed to fail, and they did in droves, with disastrous effect. People's life savings were wiped out. Many (but by no means all!) ended up with no money, no job and often with no place to live. In 2008, banks were not allowed to fail; they were bailed out. This was a necessary action, distasteful as it was to many people.

3. At the beginning of the Depression, taxes were raised significantly. Though there are voices calling for more taxes today, so far everyone has been sensible enough to realize that that would be a bad thing for the economy.

Stimulus spending has also been used more extensively now than during the Depression, but it depends on which economist you talk to as to whether that is a good thing or not.

In short, it appears that we have actually learned something, and we are not totally repeating the mistakes of the past. We may have done just as bad a job when it came to getting ourselves into this mess, but the people who have been handling it have been aware of the things that were done wrong during the Depression, and they have done something different. This, I guess, is progress.

The market forces that always handle and heal the causes and lingering effects of a recession are at work, and they will resolve these things in time. (Two or three more years perhaps.) Then we will have a real recovery, and it will be a good one.

Market ups and downs

2011-09-27T00:11:00.000-07:00

I usually don't like to comment on the stock market. There are plenty of people who do that, and I am not an investment advisor.

Nevertheless I would like to point out that the stock market is always a little bit disconnected from reality. The underlying value of the companies and the dividends they pay are only parts of what drives stock prices. Other factors are economic conditions, growth projections for individual companies, and various emotions such as fear, greed, etc.

When the Dow goes down 500 points like it did last Thursday (Sept 22), it gets some people worried. The comments on TV can sound a bit doomsday-ish (yes, I just made that word up). Then the following Monday (Sept 26) it goes up a couple of hundred points, and everyone feels much better.

The stock market generally doesn't cause the economy to do anything. Even in 1929 (despite the popular wisdom on the subject) it was not the stock market crash that caused the depression (in my opinion). The crash was only one of many symptoms of what was going on.

If one must invest in the stock market, one sensible way to do it is to choose companies that pay reliable dividends. In today's low interest rate environment, dividends are attractive because they give a much higher rate of return than interest on bank deposits. Of course there is a risk of losing your investment, whereas bank deposits are guaranteed by the government up to a certain amount.

Investing for capital gain is a whole different ballgame. Common investment advice for that is to invest in stocks for the long term when you are young, so that stock market ups and downs are evened out over the years. That generally yields better results than just putting your money in the bank. Then when you get near retirement age, get out of stocks and just put the money in the bank. That way you would avoid a possible downturn form which you may not have time to recover.

Investing to try to make a lot of money has a very common result: people lose a lot of money. In fact I would venture to say that the majority of people who invest with that motivation end up losing money. There are a few very smart people who make money at it. Then there is everyone else. A lot of people go in thinking they are smarter than the market, then learn otherwise. There are also a lot of methods and schemes being sold.

Not everyone can make money in the stock market. It's a game in which there are winners and losers. The small players are often losers.

Economic uncertainties such as those we have today can drive market sentiment. The trend of the stock market (up or down) can be an indicator of what the economy is going to do in the near future. But there are many other indicators, and no single one is an infallible predictor of the future.

People shouldn't get too excited about market ups and downs. Extreme moves may be worth noting. But even extreme one-day moves, in recent decades, have not had the catastrophic effects they sometimes seem to portend. The trend is more important than any single day.

More on American Way

2011-08-25T05:55:00.000-07:00

We do a lot to try to give everyone a fair start at the starting line. But once the race is underway, how much should we do to regulate its progress? We do realize that we can't guarantee that everyone finishes together, i.e., not everyone can end up with the same income and the same amount of money. Individual differences in ability, motivation, etc., account for differences in result. To the degree that there are unfair barriers for some and unfair advantages to others, we try to eliminate those. But we can't eliminate the individual differences that result in differences in economic outcome. Some people believe that we should guarantee that everyone ends up with the same result, but that has been tried, and it failed miserably. (There have been voluntary associations of people that have worked successfully that way, but not a national government.) Nor is selfishness the ultimate answer, despite Ayn Rand's assertions, because most people do want to help others.

Our system, as envisioned by economist Adam Smith a couple of centuries ago, has built in rewards and penalties. Having a well-functioning economy requires productive activity from its participants. The rewards for production and the penalties for lack of production are important factors in our system. Trying to regulate that and modify it probably slows down economic activity.

On the other hand, our fear of having excessive differences between rich and poor is probably a legitimate concern. If we could think of ways of helping those who need help without penalizing the production of the most productive, and without damaging the incentives of those being helped, that would be ideal.

(Of course, making a lot of money is sometimes not the same thing as being productive. We have laws to prevent people from making money dishonestly. Also we should not assume that everyone who makes a lot of money is somehow doing it dishonestly. Most of them are good people. It's the bad apples that give them a bad name.)

It would be nice if we could keep in mind that we are all in this together, and all help as best we can.

Regarding July 4th post

2011-08-21T17:45:00.000-07:00

A lot of ground was covered in the Fourth of July post, and some elaboration may be in order:

The question of whether any particular group (ethnic, racial, religious, etc.) may or may not have higher or lower average attributes of any kind (such as intelligence or talents of any kind) is irrelevant to the fact that individuals vary widely within the group. If there are differences in averages between groups, they are minor compared to the differences amongst individuals within the group. In other words, in the racial group of green people (if there were such a group), there would be some very stupid people, some very brilliant people and everything in between. The same is true of any major group. Our task as a modern society is to find the ones who can contribute the most and allow them to do so, despite whatever objections anyone may have to the group they belong to. Our system, our "American way" if you will, seeks to allow people to rise if they are able to do so, and attempts to eliminate barriers of prejudice, poverty, etc.

Even if it were true that there would be more brilliant people per capita in one group than another, that would not alter the fact that there are brilliant people in every group, and we need their talents.

The important thing is that we want to evaluate individuals as individuals, not as members of whatever group they belong to.

4th of July, 2011

2011-07-04T07:12:00.000-07:00

The American Way

To some, the American Way is right up there with Truth and Justice, just like in the intro to the old Superman TV show. ("...to fight...for truth, justice and the American Way!") But what is the American way anyway (and what does it have to do with business and economics)?

Probably the biggest part of the American way—and something that still drives us today--is the first self-evident truth stated in the Declaration of Independence on this date 235 years ago:

All men are created equal.

Of course we add women to that now.

And of course we all know that no matter how much of an article of faith that statement is, individuals do vary almost infinitely in their talents, abilities, motivations, honesty/dishonesty, etc.

But in the context of 1776, that statement was pointed straight at the heart of the basic social order of the Old World. In those days, an individual’s life was determined by his birth. If he was born into a lower class, he stayed in that lower class. If he was born into an upper class, he stayed there, even if he was a total idiot.

Many societies throughout history have been stratified in that way. But it overlooks what could be called an inconvenient truth: that people with talent, brains or “the right stuff” can come from any level of society and any race or ethnic group.

And what is the basic injustice? I would argue that it is summed up pretty simply as this: not treating a person the way he or she deserves to be treated.

If a person has talents and potentials that cannot be used because of an accident of birth, it is an injustice. Not only that, but it is a serious loss for the society as a whole. We need talented people, and we need to find them wherever they may be.

Inspired by the idea that all are created equal, we have tried to do all we can to give everybody a fair chance in life. Early on we instituted universal free public education. More recently we have created programs like Head Start to try to break down obstacles presented by extreme poverty in early childhood. We have also done our best to make a college education available to anyone who wants it. We have state universities, federal grants and loans and an extensive centralized system of evaluating financial aid applications. Individual colleges and universities also have scholarship programs to ensure that talented students from low-income backgrounds can attend their school.

The bottom line is that if any person has a desire for higher education and has a brain cell or two to rub together, it will not be a lack of money that will prevent it. Life issues may intervene, but probably not money for tuition.

We also have laws and rules against discrimination by superficial things like skin color, religion, etc.

And we have many other programs, policies, laws and crusades that militate towards the proposition that all men (and women) are created equal.

It could very well be that we overdo it at times—that we often ignore that reality that individuals vary from one to the other. But from the viewpoint of the society (and the economy), what do all these things do?

You might say that more than anything else, they stir the pot. The society needs talented people, and all these programs etc give them an opportunity to rise. This is good for the society, and for the most part (I say “the most part” because some of these efforts are counter-productive and have excessive costs), it is good for the economy.

The converse side of the American way is that clunkers have the opportunity to fall. Some people are born rich, but they don’t all stay that way. “A fool and his money are soon parted.” There are plenty of opportunities for people to blow their money, make foolish choices, fail at pet projects, etc. We don’t need people at the top who are dead weight.

Another part of the system is that even people who are born rich and stay that way by doing nothing except collecting interest and dividends, well, even they are contributing something. Their money is invested in banks and stocks, and therefore it is being used by entrepreneurs, corporations, etc, who know how to use it to make more money, create wealth, hire people and generally keep the economy buzzing.

The American Way is a complex and varied thing, and it is also part of what has made our economy the strongest in the world.

Did you know?

2011-06-28T13:48:00.000-07:00

Farmers (generally) are doing well. Prices are up, loans are cheap, profits are flowing.

Science continues to make advances that make better crops, lower costs, etc.

Housing rules

2011-06-19T10:37:00.000-07:00

A long-time rule of thumb for the US economy is that it follows, in large part, the direction of the housing industry. Recessions and recoveries often follow booms and busts in housing. Housing, in turn, would usually follow increases and decreases in interest rates. When interest rates went down, more people could afford mortgages. The demand for new houses would pick up, leading to increased employment in the building trades. New houses also meant that people needed stoves, refrigerators and a host of other durable and non-durable goods. Factories would need to hire more people to meet renewed demand, and the economy would go into an upswing.

Usually this upswing would follow a period of comparatively high interest rates, during which demand for housing had fallen. Home valuations would often stagnate during these times. Sometimes prices would even fall due to decreased demand. When the break in interest rates came, the combination of low rates and buyer-friendly real estate prices would usually lead to a brisk recovery.

The real estate boom that ended in about 2007 has been called the longest and most sustained such boom in living memory. In the aftermath, we are continuing to see weakness in the housing industry, despite the fact that about four years have gone by since the collapse.

The Federal Reserve has attempted to revive the economy by pouring money into it and by keeping interest rates at rock-bottom levels. Such measures usually work, but as noted above, the housing market has usually by this point come back down to an affordable level, and excess capacity has been used up. So far that has not happened this time. We could reach the bottom any time now, but at this point we do not know exactly when. In reality we will not know until we see the statistics reverse direction and start to move upward. We will only know about it after the fact, when all the numbers have come in and have been added up.

One funny thing about us as economic creatures is that we commonly tend to think that the current trend will go on forever. When housing prices are going up, we think they will always go up. When they go down, we fear that the decline will go on interminably. But trends do change.

In my opinion, the Federal Reserve has an interesting situation that it is continuing to deal with. The housing decline is a severe deflationary force in the economy. The actions the Fed has taken, which many people point to as alarmingly inflationary, have not stopped the deflation of that segment of the economy. Other segments of the economy show signs of inflation, but housing has continued to go down.

Since housing is such a major force in the economy, the Fed's actions are a little bit like spitting in the wind. The analogy is not perfect, because the Fed's actions have had an effect--mainly in preventing disaster. But the economy cannot recover fully until housing completes its shakeout.

Of course we have not covered here all the things that have gone wrong or been done wrong in the last few years. However, the trend of the housing industry still stands as a key indicator to watch.

Smack dab in the middle

2011-01-30T21:44:00.000-08:00

As mentioned in the previous post, the Roman Empire was centered around the Mediterranean Sea. It is interesting to note, in looking at a map, that Rome is literally near the middle of it, being on a strip of land (i.e., Italy) that sticks out into that sea.
Travel and trade by water have been extremely important in Western history, going back to the rise of the Greeks. The Mediterranean became a medium of communication that linked the ancient world into a community.
The Roman army had been superior on land for a long time, but it was not until it built a powerful navy that it was able to control the Mediterranean and complete its conquests. Its location near the middle of the Mediterranean would have been very fortunate for naval operations. Probably even more important would have been its location as a hub for trade.
It may or may not be appropriate to compare the United States to Rome, but it may be worth noting that the US is located in a fantastic trading position right in the middle between two gigantic trading areas: the Atlantic and the Pacific. As mentioned in the previous post, this is a powerful position.
It is interesting to note, also, that oceans tend to provide communication between the lands on their opposite shores, thus bringing them together as much as separating them. The people along the coasts of the oceans sometimes have more in common with each other than with people further inland on their own continent. For example, the culture and politics of Massachusetts sometimes seem more similar to Western Europe than to, say, Texas. California is obviously different from most of the rest of the US, and it is especially interesting that the California counties along the Pacific coast are politically the most different while the inland counties are more like the American heartland.
Similarly, the coastal areas of China are a little bit different from its inland areas. Prosperity has so far come mainly to the coastal areas, though it is spreading inland.
We tend to think of countries and civilizations as land based entities, but the roles played by ocean trade, travel and migration have really been far more important in western civilization. The United States is at the crossroads of the world in many respects, and as such it should continue to be a land of opportunity despite its problems.

Oceans: Power and Prosperity

2010-12-09T01:40:00.000-08:00

Though the United State faces many economic challenges, one thing that is unlikely to change is that America has a very advantageous geographical position in regard to world trade. It faces the North Atlantic and Europe to the east. It faces the rapidly growing Pacific Rim area to the West. For a perspective on how important this could be, let's look back in history.

Looking at maps of Western Civilization at several of its high points, one is struck by a curious fact: they seem to be centered around oceans rather than land masses. Other civilizations have grown up around great rivers: Egypt, Mesopotamia, India and China. Western civilization has grown around seas: the Aegean, the Mediterranean, the North Sea, the Baltic and the Atlantic.

One usually thinks of Greece as a land-based entity, but at the height of its power in the days of Athens and Sparta, Greek settlements spread out over the shores of Asian Minor and the shores of the northern Aegean. The Greek world was thus to a large degree centered around the Aegean Sea. (The Greeks also traded far and wide across the Mediterranean.)

Similarly, though we usually think of the Roman Empire as a land-based entity, a quick look at a map reveals a curious fact: It completely encircled the Mediterranean Sea. Indeed, until Julius Caesar conquered Gaul, there really wasn't a whole lot of land mass to the empire in comparison to all that water. In those days, the civilized world was interconnected not only by the famous Roman roads, but also by sea, and held together by trade transported on ships.

To the north, there were trading areas centering around the North Sea and the Baltic Sea.

It was much faster and easier to travel and to transport freight by water than by land. Even today, though we can now carry freight by railroad, it is still easier by ship.

In addition, it appears that as the Western World grew, power flowed to the shores of ever larger bodies of water. The Greek world of the Aegean was superceded by the Roman world of the Mediterranean. Much later, when European powers facing the Atlantic Ocean (Spain, Portugal, England, the Netherlands, France) developed trade on that ocean, those countries became the preeminent world powers. The Western world became more and more built around the Atlantic, with America taking an ever larger role.

Eventually, the United States stretched from coast to coast, and it began to trade on the Pacific, too.

Since the Pacific is by far the largest ocean on earth, by this theory it could become (if it is not already) the richest and most powerful trading area in the world.

But of course the Atlantic is still a powerful trading area. And the United States faces both these oceans. It has the most powerful navy in the world to keep trade safe. The US trades by ocean to all points on earth.

Also America's east and west coasts are linked to all points of the continent by a well-developed railroad system.

By these facts alone, the power of the US economy is likely to remain formidable for quite some time yet. Of course it can decline, and of course other powers can rise. But it is not going away just yet.

Asian growth

2010-11-18T05:36:00.001-08:00

It may be that the best long-term hope for the American economy will be the growth of China and India. Just as America was the world's engine of growth in the 1980s, these two, and other emerging economies, are projected to be engines of growth during the next couple of decades. They are already growing quickly.

Thus, even if America does not solve its own internal economic problems, it could continue to muddle through as a trading partner of economies that are actually doing well.

However, since the American economy is still about twice as big as the second largest economy in the world (China), it would still be a pretty tough job for any other combination of trading partners to pull us out of a serious ditch if we were to slide back into one. Thus it would be best if we could solve our own problems and resume a leadership role.

Long-term trends

2010-11-18T03:46:00.000-08:00

1. Asian growth rates faster than Western growth rates
2. Decline of the dollar as the defacto international currency.
3. Population trends:
The United States is the only major developed country in the world that has a birth rate plus immigration rate sufficient to generate population growth. Western Europe and Japan are faced with a growing burden of elderly and retired people and with population declines down the road. In those countries the shrinking percentage of working-age people will have to support a growing percentage of retired people. Even China is facing that problem. For many years the Chinese government has imposed a limit of one child per family. Now it looks as though that policy is working to curb population growth. In fact the projection for China is population decline.
It is strange to think, after so many decades of hearing about the dangers of population growth, that the success of efforts to curb that growth could turn out to be a problem. The United States could turn out to be lucky that its population is growing, because that growth could turn out to be a solution to the problem of supporting so many Baby Boomers on Social Security. (Probably not a real solution, but perhaps an amelioration.) If we have more people entering the work force, that's more people paying into the Social Security pot. If we have enough growth, we might not go broke quite so fast. Theoretically enough growth, coupled with some reforms, could even result in our survival.
The people who are campaigning against letting more people into our country are really not doing us any favors. We need more willing and able workers. We need them not just to fund our Social Security checks. We need more dreamers of the American Dream, or simply more people with a practical conviction that they can do better here than elsewhere.
It may feel like there are too many people in the world, but that is more of an opinion than a fact. There are benefits to a growing population, not the least of which is that the alternative to growth is decline.
The supposed negative impact of immigration on the social welfare system may be exaggerated, especially in light of the potential positive impact on the Social Security equation. But in the areas in which the social welfare system is negatively impacted, the better solution would be to cut back on government-sponsored social warfare programs, not to cut immigration. If we made the availability of work (and freedom and opportunity) the main incentives for people to come here, we would obviously still get plenty of people. These things really already are the main incentives, but we could make it more so.
Our best days could still be ahead of us, not behind us.

Cross-Currents

2010-11-11T07:00:00.000-08:00

There are a lot of things going on in the world economy these days. China on the rise, currency ups and downs, European bond crises, etc. It is tough to see a path forward through all this.

The US economy remains sluggish, and the recent decision by the Federal Reserve to do more "quantitative easing," has not met with universal approval amongst its trading partners. The Fed would probably appreciate some sensible help from Congress, but lacking that, it is probably doing the best it can.

Congress itself is in a bit of a bind. First of all, it is composed mainly of lawyers, an occupation that does not specifically prepare its members to deal with matters of economics, business or finance (except for the legal aspects of those fields).

Secondly, it is somewhat at the mercy of the various passions and fears of the general populace. E.g., we can't have too many foreign people coming into the country, because they would take jobs away from Americans.

A lot of things going on, a lot of mud to wade through...

Manifesto

2010-09-20T18:31:00.000-07:00

Preamble: There is nothing wrong with wanting to help people, but it is a mistake to think that in order to do that we have to punish people who are doing well. It is a mistake on many levels, not the least of which is the fact that people who are doing well are a vital part of the economy, and it is better for all concerned that they not be punished for doing well. Among other things, they provide natural "stimulus" to the economy.

1. The fact that some people have more money than others is just a natural fact that flows from the natural differences amongst individuals. The statement in the Declaration of Independence that "all men are created equal" is just a statement of what happened at the beginning, not a statement of how everything should turn out in the end. We should all start out the same at the starting line, and in America we have tried hard to create that condition. What happens after that is up to the individual.

2. The fact that some people have more money than others does not make those who have money automatically bad. Similarly, the fact that there have been some bad people who acquired wealth illegally does not mean that ALL people who acquire wealth are not playing "by the rules." Furthermore, there are plenty of laws that can be enforced against those who do obtain wealth illegally or actually unfairly.

3. Americans, statistically, give more money to charity than any other people in the world. They want to help. Many of the richest give huge sums.

4. The economy is not a zero sum-game. If some people get more, it DOES NOT FOLLOW that necessarily others get less. On the contrary, the EXACT OPPOSITE can happen. Because of the GROWTH factor, EVERYONE GETS MORE!!!!!!!! If a business grows, provides needed goods or services and creates jobs, everyone benefits. If "everyone" includes the owner of the business, well, that is the fulfillment of the American Dream for him.

5. To expect everyone to end up with the same amount or even remotely similar amounts is unnatural and artificial. It is a nice thought, but to try to force that outcome gums up the whole works.

6. To take money away from key people in the economy (those in positions to enhance economic growth) and from productive businesses is DESTRUCTIVE to the economy.

7. To take money away from people who make a lot because they are highly skilled and do work that is of major benefit to the society as a whole (e.g., doctors, engineers and such) is DESTRUCTIVE to the society at large.

8. Rich people are as imperfect as everyone else. They can be obnoxious or caught up in the trappings of their wealth. This is not nice, but it is not a crime. They should get religion or something, but taking money away from them is not the answer.

9. If we stop punishing productive people and businesses by taking resources away from them, the scariest thing about it would be how fast we will grow. (And of course sometimes we would go too fast and have a crash. Then we would start this debate all over again.)

10. There would be plenty of money and resources to care for those unable to care for themselves. The flow of money to charity would be immense.

11. The government is NOT the best entity to help those who need help. It just creates jobs for politicians and bureaucrats.

Cover-of-Time Theory

2010-09-20T16:37:00.000-07:00

Time Magazine's 9/6/2010 cover proclaimed "Rethinking Homeownership." Inside, the cover story speculated that homeownership may no longer makes economic sense.

Funny thing about the cover of Time. Many times over the years, trends that have appeared on the cover were just about played out and were on the verge of reversing.

They didn't miss the top of the housing bubble by very much in 2005 when they extolled the virtues of owning a home, wondering on their cover if your home would make you rich.

Many years earlier, when interest rates were the highest they've been in the memory of several generations, Time's cover featured those sky-high rates. Not long after that, interest rates were on the way down.

Maybe the editors are just very slow at recognizing a trend. Or maybe they don't put these things on their cover until the trend is on everyone's mind.

If it is the latter, it fits in with the contrarian view that when everyone is stampeding in a certain direction, the best thing to do is to head the other way. If the cover-of-Time theory is correct (i.e., the cover of Time is a contrarian indicator), your home may be about to make a comeback as a valid investment.

Let's hope that is the case.

That was then, this is now

2010-08-25T23:28:00.000-07:00

There is a line of thought that has persisted amongst some people since the financial crisis began, that because it looks similar to what happened in 1929, we must be in for another Great Depression. (Similarly, some media pundits have referred to the current recession as the Great Recession.)

First of all, the fact that something looks similar does not indicate that it is the same thing. There are definite differences between then and now.

It has long been conventional wisdom that the Depression was caused by the stock market crash of 1929. That is not correct. The crash was an early symptom of what was going on at that time, but it was not a cause. It did precipitate a banking crisis which became very serious. But where 1929 diverges from 2008 was in the response to the banking crisis.

In 1929, the Federal reserve kept on following the tight money, deflationary policy it had been following for some time before the crisis. It was a course of action that had been followed many times in the past by those who controlled banking systems, to keep the currency stable and weed out weak and overextended players. However, this time the result was worse than ever before, because the imbalances in the economy, on a long term basis, were more extreme, and the powers-that-be of that time basically read the whole situation incorrectly (to put it charitably). The result was made worse by the persistence in the deflationary policy long after the crisis developed.

Conversely, in 2008 the Federal Reserve pulled out all the stops in an effort to provide liquidity to the system and even invented new ways to keep everything afloat. There was no deflationary policy in play. One might even argue that the crisis developed partly because the Fed had been too accommodating for too long in the years leading up to the crisis. The Federal Reserve did learn something from the Great Depression. They learned what not to do, and in our present day crisis they basically did just the opposite of what they did then.

Three other factors were different then. One is that, just as the Depression was getting started, major income tax increases were put into effect. That has not happened yet in the present. However, (1) the new health care law could act like a tax increase and be a damper on the economy, and (2) the tax cuts that were enacted during the Bush administration are scheduled to expire at the end of this year. If they are allowed to expire, the result would be an automatic tax increase. It is more widely understood today, even in Congress, that tax increases are counterproductive in a weak economic environment. Therefore there is some hope that Congress will extend those tax cuts for another year. But nothing is certain at this point.

Another difference between then and now is that in the 1930's, world trade was seriously hampered by extremely high tariffs passed by all the major trading nations. There has been a little of that today, but nothing like back then.

The third major difference is that during the Depression, the whole world was affected. Today, several important countries have already resumed rapid growth, in particular China. Germany, whose economy depends to a large extent on exports, is experiencing growth through its trade with China and others. The prospects for US exports to China and India, etc., are good, and some major companies (e.g., Caterpillar) are already benefiting strongly.

Looking back, it almost seems a miracle that we survived the egregious policy mistakes of the first half of the twentieth century, and we should keep in mind that today we are doing our best not to make the same mistakes. Also, today is not yesterday. Today is today.

Mass growth

2010-08-04T08:39:00.000-07:00

Rosy payroll growth stats released by U Mass on 7/30/10 are thrown off a bit by US Census hiring. The 4.5 percent annual growth rate was the best since 1984, but government spending and hiring played a big role in it. Still, up is up, and the private sector did show some growth. The unemployment rate declined from 9.3% in March to 9.0 in June.

China and other developing countries are growing quickly again. This is good for any company that exports to them, including Massachusetts information technology firms.

Optimism

2010-07-12T13:15:00.000-07:00

Lots of gloom and doom out there, but it depends where you look. A new book has come out bucking that trend. It is called "The Rational Optimist: How Prosperity Evolves," by Matt Ridley. Mr. Ridley is a science writer. His foundation for optimism is: innovation. The long term trend of human history has been upward, he says, because humans are continually innovating. Innovations have led to vast improvements in the human condition, and it is likely that trend will continue. The problem of feeding a couple of billion more people by the year 2110 can easily be solved by the advances in agriculture and biology that are occurring as we speak. In fact, we could have more than enough food, using even less land than we do now. The book is full of statistical evidence that things have been getting better all the time, not worse.

What can you do?

2010-07-01T12:57:00.000-07:00

Realistically speaking, the state of the economy is, well, let’s just say not as good as it could be. We needn’t get into an exhaustive analysis of it here. There is plenty of that in the media, much of it conflicting. But it might not be a bad idea to look at the big picture for just a moment before we move on to things closer to home.

Usually an economy gets into trouble when there is too much debt in the system, and people can’t pay it off. The economy goes into a decline, and by various mechanisms (such as bankruptcy, or the action of creditors simply writing off hopeless debts), the excess debt gets washed out of the system. Then a recovery begins, assisted by renewed lending.
The perils of capitalism include the “business cycle,” which basically describes the action of the economy fluctuating between expansion and contraction. Many contractions over the years (and centuries) have been very painful, even catastrophic, and as time goes on, various governments have passed laws to try to prevent, modify or soften many of the conditions associated with the contractions.
However, you might as well try to legislate against old age. It just won’t work. The business cycle will have its revenge. Some things can be done to delay a contraction. But it just might be that the contraction, when it comes, will be much worse than it would have been if we hadn’t delayed it.
Currently, some debts are being washed out of the system through bankruptcy and such. The real estate bubble is slowly deflating, despite various government efforts to prop it up and ease the pain. “Troubled assets” in the banking system are being “resolved” by government action.
However, the big problem now is that government debt is growing at an alarming rate, and markets are showing investors’ concern about that. Surveys indicate most voters favor cutting the federal deficit, but many in our government want to spend more to stimulate the economy. There is little agreement amongst the so-called experts about whether that would make things better or worse.

These things are important when you vote, but what about now, in everyday life and business?
The lesson of the above considerations is that business and personal finances could be facing some headwinds in the immediate future. No one knows exactly how things will go, but it would not be the best strategy to just assume—or even just to hope--that everything will be hunk-dory by next January 1 (or some such date).
So, what is one to do?

Business strategies:
Businesses that are facing stresses can either (a) give up and go out of business; (b) try to muddle through and hope for the best; or, (c) try to do something effective to make things better.
There is plenty of advice about how to do (c), but if I may I would like to add another “big picture” suggestion:
Your most valuable weapon is communication. Communicating with existing customers and potential customers is paramount. Maintaining and using a mailing list (and/or e-mailing list) of existing customers can be of inestimable benefit to a business. There are also endless means of electronic contact available today—Twitter, You-Tube, etc, etc. (I can’t say I know how to use them all effectively myself, but they are definitely out there.)
Any and all means of contacting potential new customers should be explored: advertising, bulk mailings, etc. (Bulk mailings can be very effective, and cost effective.)
Communication also includes knowing who you are communicating to. Blind advertising and mailings are not the best idea. A little market research—in the library or online—can go a long way. Surveys are also an excellent source of information about your market.
Communicating one on one with customers and allowing them to communicate with you is also extremely important—if not vital. (And when I say vital, I mean it can be a matter of life or death to a business.)

Communication is not going to be the answer to everything, but it is certainly very high on the list of things to do to make things better.

Personal finances:
Although the government and the companies producing consumer goods would like you to resume consuming at all costs, that is not necessarily the best strategy for one’s personal finances. Sometimes one has to consider what is best for oneself and not sacrifice oneself for the common good. (Consuming is not usually thought of as a sacrifice, but in this case it could turn out to be that way.)
Some old strategies (and clichés) are still true. You should have savings. You should budget your money. Don’t put all your eggs in one basket. There’s no free lunch. Get rich quick schemes don’t work.
Making more money is also helpful, obviously. Investing in education is good for that. Or, some people start businesses on the side, get a part time job, or figure out other ways to make ends meet.
It is difficult to predict how the national and international economy will impact one’s life. Who knows if a particular investment will turn out to be good or bad? What unexpected event might happen that would throw off your calculations?
But there are things you can do to try to keep control of your situation. Having a big cushion (which is not all in one basket) to fall back on works well if one can manage it. Being able to handle problems when they come up is also a nice skill to have, if one has it.
Also remember the mustard seed, and don’t give up.

Cash Flow, Larger Organizations

2010-06-23T10:26:00.000-07:00

Cash flow control for larger companies is generally a bit different from what we discussed in our "Cash Flow--Small Business" entries. (Also keep in mind that "large" and "small" are relative terms. What seems large on Cape Cod may be small in Boston.)

This is just a bare-bones outline of how it is done.

Cash flow control for a larger organization generally begins with a sales forecast for the coming year. Such forecasts are usually based on what has happened over the last five to ten years. An average rate of year-over-year sales increase is derived and used to estimate what the coming year's sales may be.

From the sales figure, a projected profit and loss statement can be put together. Many of the expenses can be estimated using the rate of sales increase. For others there may be specific data that can be used.

Once a projected net income figure has been calculated, it can be plugged into a projected balance sheet. Some of the assets and liabilities will naturally increase at about the rate of the sales increase. Others can be determined in other ways.

When the assets, liabilities and equity have been totaled up, it may come to light that additional funds are needed, for example to acquire new capital equipment. Then decisions need to be made about how to acquire the funds, and the costs of the funds (e.g., interest) have to be added to the profit and loss statement.

With these projected financial statements in hand, they begin to construct the cash budget. Various cash flow factors are taken into account, such as the average lag in collecting receivables and the lag in paying bills. A cash budget for the coming year is calculated, then it is broken down into monthly amounts. The monthly budget is for planning. Then a more detailed daily or weekly budget is drawn up for actual cash control during the coming month.

Then they have to lay the numbers out on a spreadsheet and figure out what their cash position will be each month for the next few months. A seasonal business may have large fluctuations in cash requirements. During some months there may be shortfalls that require short-term borrowing.

This is a lot more complicated than the small-business methods outlined in earlier posts, and it would likely require extensive attention from specially trained people.

Bonanza?

2010-05-14T11:30:00.000-07:00

Possible tax-break bonanza for Cape businesses that hire a lot of students and other seasonal workers:

Employers who hire people who worked for a total of less than 40 hours in the previous 60 days can get an exemption from the 6.2% social security tax that would otherwise be due on the employee's wages. This is effective for wages paid from March 19, 2010 to December 31, 2010. The employee must start working after February 3, 2010.

People who were in school during the previous 60 days are not disqualified, and there is no minimum age.

New hires who qualify must fill out form W-11 (or equivalent) to enable the employer to take the credit. The credit will be claimed on form 941 starting with the second quarter of 2010.

The exemption is for the employer's matching 6.2% and does not affect the 6.2% withheld from the employee's pay.

Credit for employers who offer health insurance

2010-05-08T11:44:00.000-07:00

The IRS recently sent out postcards to employers who might qualify for a new credit established by the new health care law. It is a credit worth up to 35% of health insurance premiums paid by employers who have less than 25 “full time equivalent” employees and pay an average of less than $50,000 per year to each employee.

The full 35% credit will be realized only by employers with less than 10 “full time equivalent” employees who are paid an average of less than $25,000 per year. The credit is gradually reduced above that level.

“Full time equivalent” means that you have to divide the total hours worked during the year by part-timers by the number of hours they would have worked if they were full time. (The simplest example is that is you have two employees who each work 20 hours per week all year, you have one full time equivalent employee.)

The average wages are determined by dividing the total wages by the number of full time equivalent employees.

To qualify, the employer must pay at least 50% of covered employees’ health insurance premiums, if they have coverage as a single individual. If they are on a family plan, the employer only has to pay the amount equal to 50% of the single plan.

The credit has a number of other complicated rules, as you may have guessed.

The credit is taken on the employer’s annual income tax return. For example, a sole proprietor will take the credit on form 1040. For a corporation that files form 1120, the credit will be taken on that form.

Tax-exempt organizations can also claim the credit. For them, it is a refundable credit (subject to certain limitations).

For employers other than non-profits, the credit is not refundable; it can only reduce the income tax down to zero.

Times A-Changin'?

2010-05-02T18:26:00.000-07:00

According to a recent (last month) report in The Economist, the US economy is undergoing a transformational change that will make it more viable in the long run. There will be more exporting and less production targeted for domestic consumption, they say. We will change our spendthrift ways and start saving more. There are already signs of that, since the recession and last year's meltdown have scared us straight.

Apparently not all economists agree, but if true, it is big news and perhaps something for optimists to hang their hats on in their persistent belief that all is not lost for the American economy. The title of the lead editorial on the subject is: "Hope at Last."

Ethics

2010-01-29T23:52:00.000-08:00

Many people do not realize how important the subject of ethics is in business.

I had to take a university course in ethics a couple of years ago, and unfortunately the course did not cover much about ethics at all. It was more concerned with social justice--another subject entirely, but one beloved by many university faculty members. Maybe actual basic ethics is too simple for the university level.

Ethics has to do with simple things like telling the truth. In business it means not lying about one’s product or service, not trying to put one over on customers or investors and giving honest value for money received. These things are the backbone of success in business and of the health of the whole economy.

We see the consequences of rampant dishonesty in a case like Enron. A lot of people get hurt, and then Congress thinks it has to pass a raft of new laws to prevent it from ever happening again. The new laws fail to prevent it from happening again, but they take up a lot of time that could be better spent on more productive things.

It should also be pointed out to all observers that if someone commits a crime it does not mean that everyone else in his neighborhood or racial group is also committing the same crimes. Similarly, if a corporation breaks the law, it doesn’t mean that all corporations are doing the same thing. There are actually quite a few American corporations that are founded on ethical principals and who behave ethically. Some of them have been around for a century or more, quietly doing good work, producing good products. The ones that don’t behave ethically make the news, and luckily they don’t have much longevity, either. People catch on that their products are inferior or the deals their customers or investors get are unfair. Or they get into legal troubles.

People who think there are no consequences for dishonesty as long as they are not found out are kidding themselves. Such people often end up in jail or on the scrap heap of failure. And on the personal side, such thinking leads to broken marriages and family discord.

Where a sense of ethics comes from is beyond the scope of these comments. Religious education? An innate sense of right and wrong? Parents and teachers can try to pass on rules and lessons in behavior. Some take it to heart; others don’t. A successful society is built by and of those who do.

Free Enterprise

2010-01-27T06:21:00.000-08:00

ELEMENTS OF FREE ENTERPRISE
(And why it works)

I. Rewards and penalties.

If people work hard, they generally make more money. If they don’t work, they might be able to receive some public assistance, but that is usually much less than what they can have by working. Some choose not to work, but most choose to have more by working.

This arrangement is good for the society at large because it (by and large) requires production. It requires that people contribute something of value to earn their keep.

One of the basic laws of physics is that all things tend towards entropy (a physics concept that can be roughly translated as “disorder”). Energy is required to keep matter in an organized state. Similarly, a great deal of energy is required to sustain a large society, and if every person who can work does work, the job can be done.

The distinction between Free Enterprise and Capitalism.
The two are generally thought of as being the same thing, and indeed they may both be considered to be part of the same thing. But it is possible to make a distinction between them.

Free enterprise basically means that a person is free to go into any business he chooses and conduct his business in any way he sees fit, as long as it does not violate any laws. It is true that there are plenty of laws to be aware of, and some of them could be thought of as constraints on free enterprise. But within those boundaries, a businessman (or woman) has considerable freedom.

During the Cold War, the term free enterprise was often used in contrast with communism, which sought to control all aspects of the economy.

Free enterprise operates according to the strictures of Adam Smith’s “invisible hand.” That venerable economist used that term to denote the process of natural selection that rewards businesses that supply things the marketplace wants and punishes businesses that do not.

The term capitalism, however, though it is used as an umbrella term that includes the concept of free enterprise, more specifically refers to the use of capital. Capital is anything of value that can be used in business to make more money. Capital is often thought of as simply money, but it is not restricted to that. Machinery and equipment, for example, are capital assets. They can be used to manufacture goods to be sold, thereby making money.

Therefore the terms capitalism and free enterprise refer to different yet complementary aspects of our economic system.

II. Issues of capitalism.

People who object to capitalism generally think of the stereotyped fat capitalist who sits around doing nothing except making money on his money. He produces nothing, heartlessly refuses to pay his workers a decent wage and probably enjoys raping and polluting the environment.

This is a difficult stereotype to argue against if people have it fixed in their minds. But it is a ridiculous caricature. Undoubtedly such people exist here and there in the world, but that description is more likely to fit a dictator of a third world country than a capitalist.

The question of whether there are evil people in ultimate control of our capital system may be one best left to conspiracy buffs. It is not impossible that some positions of power are held by people of ill will. Nor is the opposite impossible, i.e., that competent people of good will hold many positions of power. Though the world is far from perfect (it never has been, nor is it likely to be in the near future), the fact is that the world’s economy is generally expanding and has been doing so (with momentary ups and downs) since the end of World War Two. Most of us would agree that this is a good thing. More and more people around the world are being lifted out of subsistence existences. Hunger is receding as a problem.

Could such general expansion happen under a regime whose intention is to crush and oppress people? We saw the economic stagnation and even regression that occurred under communism in the Soviet Union and in Red China under Mao. We can’t make progress if those at the top prevent it.

Given the above general shape of things, one could conclude that there are at least some people who are trying to make the system work for the benefit of all. Or, as Ayn Rand (author of Atlas Shrugged and The Fountainhead) postulated, they may be in it for their own self interest, but the way the system works, their self interest ends up benefiting all.

Could the system work better? Without a doubt. But the fact that it is working enough for growth and improvement to occur is a great thing. The history of the world is full of times when things were getting worse, not better.

A businessman (or woman) seeking to exercise his or her rights under the free enterprise system, may wish to start a business or expand or diversify an existing business. To do any of these things, he or she will need money. I.e., capital.

And where does that capital come from? It comes from banks, private lenders, venture capitalists, etc. These are the primary sources of capital.

The fact that the sources of capital—the capitalists—have the money is not the important thing. The important thing is how the capital is used. How the capital is used depends not so much on the capitalists as it does on the people who gain access to the capital through borrowing, sales of stock, etc.

The people who gain access to capital are established businesses, entrepreneurs, consumers, etc.

The question of whether borrowing and lending of capital is good or bad for the economy has long been settled. The existence of debt in the economy is good up to a certain point. It is true that the borrowing and lending of money is one of the major things that cause the booms and busts of the economic cycle. But without borrowing, entrepreneurs with brilliant business ideas would never get their ventures off the ground. The jobs they create would go missing from the economy, and important new products and services would never reach the market. Even established products would die out. There would be scarcity and massive unemployment.

OK, some might say, we need sources of capital. But does capital have to be in the hands of a rich elite? Couldn’t the government substitute itself for the rich elite and become the source of capital for all users?

The first step in answering such questions is to note that the communist experiments in China and the Soviet Union in the 20th Century did not go well. True, they were attempting to take over the whole economy. We saw that governments can never substitute for entrepreneurs, the dynamics of competition and the complex workings of the marketplace.

Secondly, the present extent of government regulation of and participation in the capital markets almost makes government takeover of capital a fait accompli. Although in reality the sources of capital are privately owned (except the biggest source, the currency itself), much of the power of capital concentrated in a few hands has been taken away, and much of the (theoretical?) ability of capitalists to harm individuals and the economy has been mitigated through anti-trust laws, securities and exchange regulations and various consumer protection laws regarding borrowing and lending.

Of course, this is not to say that the potential for abuse does not still exist. For example, energy consumers in California were badly mauled just a few years ago by market manipulators. But the fact is that there are some mechanisms in place designed keep the markets operating and to attempt to maintain a certain level of fairness in them.

If government regulation of capital markets has been such a boon, why not go all the way? Why not have government take them over completely?

First of all, banks and other sources of capital are businesses, just as are the businesses to whom they lend. They respond to the dynamics of competition and the laws of supply and demand. Government is a fundamentally different activity. Government officials have a different mindset and different purposes and goals from capitalists. Capitalists, if they are doing their jobs correctly, serve a definite function in keeping the economy working. Government officials may or may not understand and correctly performs those functions.

Capitalists who do not perform their functions in the way the market demands will eventually go out of business and be replaced by those who do. If government officials were in charge, they could go on going a bad job for a very long time without being replaced. Loans that should be made would not be made, and loans with no business or economic merit would be made. The economy as a whole would suffer, as would individuals affected directly by lack of needed loans or by debts larger than they can handle. Such things do happen in the economy as it is, but the penalty for them is that those suppliers of capital lose money. Again, that penalty would not work very well with the government as the source of capital.

An example:

A man wants to open a store in Yourtown, USA. He is skilled at operating stores and has a good plan for an efficient establishment that would supply things people in Yourtown need at better prices than the other stores in the area are able to offer. But he does not have enough money to get the store started—to lease a building, remodel it to his specifications, stock it, hire employees, advertise, etc. So he goes down to his friendly neighborhood capitalists, the local bank. The loan officer and other bank officials go over the plan with him. The bankers have some knowledge of general business operations and start-ups, and they offer some suggestions. After due consultation, they are satisfied that the plan is solid and has good money-making potential. They loan him the money. The store is started up, and it is a smashing success. The citizens of Yourtown get the benefit of paying less for things they need, leaving them with more money to spend on other things. The employees of the store have jobs. The store owner makes a profit. We won’t say “everybody is happy,” but overall it is a good thing.

And say the owner becomes very successful indeed. He expends, he opens stores in other cities. He becomes rich. What then? Is he a bad guy now? He probably does not keep his money buried in his basement. It is probably in banks and invested in stocks and bonds. As such it is in use, funding other businesses and doing its part to keep the economy going. Also, if the owner is like many people who acquire money, he is probably quite generous with it, giving to charities, perhaps even establishing a foundation for the benefit of his favorite cause.

Cash Flow, Small Business, Part 2

2010-01-06T13:19:00.000-08:00

Weekly Planning
Once you have your average budget figured out (see Cash Flow, Part 1), you can begin applying it to operations on a regular basis.
Here is one system of organizing for cash flow control.
Allocate a regular time at the end of each week when you and perhaps some selected employees can plan how to spend the money that came in that week. Any employees can submit written spending requests, which will be adjudicated at this time.
Ideally, the first thing to do is to allocate a fixed percentage of the week’s income to a reserve fund.
Then, allocate payments to the following:
• Bills. If you can’t pay them all this week, pay them in the order in which they were received, or in the date order in which they are due.
• Take a look at the weekly budget. Set aside weekly amounts for bills or payments that occur monthly, such as the rent and utilities. Keep a record of amounts set aside each week, amounts spent and balances available.
• Go through the written spending and purchase requests of employees, paying attention to where (and if) they fit into the budget. Approve the ones that fit into the budget, if there is enough money this week.
• If the week’s income was more than the budgeted amount, you can use the excess to catch up on any shortages from prior weeks, or, if everything is caught up, approve additional spending requests that otherwise might not be strictly per the budget.

Even if you have no employees, it is a good idea to have a structure such as this for the control of cash flow, so that you can keep up with the bills, eliminate the unexpected need to write a check right now for something that was forgotten, to make sure there is enough money for the rent when it comes due, etc.

Cash Flow, Part 1

2009-12-23T15:20:00.000-08:00

There are various systems that can be used to keep a grip on cash flow. Small companies may do it differently from large companies. Even for a very small company, seat-of-the-pants, or on-the-fly methods may not be adequate.

Small Business

Where does cash flow begin? If you are in a business in which customers or clients pay you on the spot, a good starting point is when they pay you the money.
If you are in a business in which you bill them and they pay later, you could say cash flow begins when you bill the customer or client. So the first point is, don’t forget to bill them! That also means keeping good records of work done so that accurate bills can be sent out.

If they don’t pay in 30 days, send out monthly statements. If customers don’t get monthly statements, a lot of times they forget about the money they owe or think you have forgotten about it. You might be surprised what a good job regular billing and monthly statements do in keeping the cash flow going.

When payments come in, keep accurate records of them. Standard accounting practice is to deposit all income received. There are many good reasons for this, such as:
• It begins the process of keeping control of your cash by making sure none of it slips away without you knowing you ever had it, or without you being able to remember the details of it.
• It enables you to keep track of what your customers still owe, so that you can continue to bill those who are late.
• It gives you accurate figures to use for budgeting.

Budgeting

Budgeting is the key to mastering cash flow.
For budgeting, in addition to the records of income just mentioned, you will also need good records of your expenditures.

The basic idea is simple. You need to predict the amounts of income and expenditure you will probably have in the coming months (or longer) and arrange things so that your income is more than your expenditures.
Easy to say; it’s a bit of work to accomplish that.

If you are just starting a business, there is a lot of guesswork involved, but if you have been in business for a while and have kept good records, you have figures you can use for these calculations.

The figure you will use for your future projected cash inflow will be based on your weekly or monthly average in the recent past. Usually the past year is a good time-period to use to get the average.

You can adjust the average figure up or down if you have fairly certain knowledge that there are factors that will be different in the coming months. But remember that it is better to be conservative in making these estimates.

Next, calculate your average monthly (or weekly) expenditures over the past year (or whatever time-period you are using). Don’t do it in a lump sum, but rather break it down into all the categories of expense that you have, such as rent, utilities, supplies, etc.
Don’t forget to include in your calculations the money that will be paid to and/or required by owner(s).
Once you have these average expenses, take a look at each one and determine if any adjustments need to be made for anything that will be different in the near future.

Add up all the projected monthly or weekly expenses and see how they compare to the projected income. If they are less than the income, you are golden.

If they are more than the income, start chopping the expenses.

Simply deciding that you need to make more money, without making any cuts in expenses, is not a safe way of doing it. Yes, you can decide to make more money and plan how to do it. But to make sure your solvency stays intact, you should also take out the meat ax and cut the budget until it falls below the level of your projected income.

However!
There are always ifs and buts and cautions.

If you have a budget shortfall that is caused by a decline in your income, cutting the budget is vital, but an even higher priority is to reverse the decline in income. So, actually that should be something you address before you slash expenses. Or, if you have employees who crunch budget numbers, have them figure out the budget while you work on fixing the income. In this situation, don’t cut any kind of advertising or promotion unless it is obviously all wrong and not working at all. If anything, more promotion needs to be done. (But it needs to be done right.) And, certainly, check out the starting point of your cash flow: collecting the money, sending out bills, etc., as discussed above.

Tune in to our next episode, coming soon.

How to succeed

2009-12-19T08:04:00.000-08:00

There are a lot of opinions about the economy, how it got the way it is, and which direction it is going. If you read the opinion pages of the Wall Street Journal and then editorials in the New York Times, you are likely to encounter diametrically opposing viewpoints. And these are both highly respected publications located a relative stone's throw away from each other. Then if you consider the fact that supposedly professional people--experts, economists, etc.--cluelessly led us down the path that led to what almost became the largest financial debacle of all time, you start to wonder if anyone really knows what is going on here.

On the other hand, some of the things they did to avert Great Depression II may have actually saved us. Well, we hope so, anyway.

It could be that the world economy has grown to a point that it has outstripped our ability to understand and manage it. My guess is, however, that there are people who understand it, but they were standing on the outside while people who did not understand it tried to manage it--unsuccessfully.

Be that as it may, the question for a business person is, where do I go from here? The question for an individual or a business is not a macroeconomic one. It is a microeconomic one. What can I do to survive and prosper in these times?

First of all, one has to assume that there will continue to be some economic life. Even during the Depression, life went on. There are many businesses in existence today that survived the Depression. Although it was bad, it was not a doomsday event. And what is happening today is, at least so far, nowhere near as bad as that.

There are still some people who are predicting silly things like hyperinflationary deflation, or some such oxymoron. We needn't pay attention to them. There is always somebody predicting the end of the world.

On the other hand, although we appear to be in a recovery now, it is not time to exhale just yet. We do not know if the recovery will be steady or rough, or if there will be a relapse.

Unfortunately, the best time to plan for times like these is before they happen.

One of the best defenses is to have reserves, and they should be built up during the good times so that you can fall back on them if necessary during bad times.

Another good defense is to have a good profit margin that can stand being squeezed a little in lean times.

Flexibility is a good thing, for example not having too many fixed costs that you can't get rid of. Any time you have a choice between adding fixed costs and doing something that can easily be scaled back, the more flexible route should always be given careful consideration.

Over-expansion is probably the basic cause of any subsequent downturn, and the same can be true at the individual business level. If you add a lot of assets and debts to try to keep up with business when times are good, those extra assets and debts can become like albatrosses around your neck if business slows down. There is a pace at which you can expand safely--a pace at which you can finance your expansion with your own profits rather than with debts.

Of course there is a time for debt, such as for a carefully evaluated project whose expected profits are greater than the cost of the debt.

One of the lessons of this experience is that it is a mistake to believe that good times will never end. No matter how hard the folks in Washington try, they cannot repeal the basic business cycle. There will always be recessions as long as there is capitalism. In fact, the harder they try, the harder the eventual reckoning to follow.