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Overstocked Assumptions
Tuesday, July 30, 2002
By Alan Reynolds
senior fellow with the Cato Institute and a nationally syndicated columnist

In reality, stock prices are dependent on just two things: growth of earnings and the P-E ratio (the ratio of prices to earnings). To get stock prices rising, either earnings or the P-E ratio has to rise.

When the stock market suddenly showed signs of life on July 24, there was enough news to support everyone's pet theory. JP Morgan aptly defended itself against efforts to tar the company with the Enron brush and offered to buy its own stock. The House and Senate compromised on an accounting bill that would not let auditing overseers become so independent they could compete with the Securities and Exchange Commission.

The government finally arrested a few corporate execs rather than punish entire companies, which mainly hurts innocent stockholders. And, least noticed but potentially most potent, The Washington Post reported that the White House is considering using the August recess to push for relief from the double taxation of dividends.

The last big accounting scandal was old news by late June, and WorldCom stock was already below a dollar when that story broke. Yet the broad stock market rout began after July 5, when the government offered to help, mainly by criminalizing risk. We were repeatedly promised that stocks would rise if the president preached against avarice and Congress passed any bill described as "tough." Yet Sen. Joseph Biden, Delaware Democrat, soon noted that the market fell every time President Bush gave another speech against "endless profits." And Sen. Paul Sarbanes, Maryland Democrat, praised Alan Greenspan's testimony for calming the markets, but failed to apply that same test to his own bill. On the day the Sarbanes bill passed, the S&P 500 fell 3.4 percent.

Since the government's crusade to restore confidence had the opposite effect, those who refuse to learn by experience claimed we needed a stronger dose of the same poison -- something tougher on corporations and therefore tougher on those who own corporate shares. Markets could not calm down until Congress did.
(More: Cato.org News Source)
2002 © The Cato Institute.

Meanwhile, the best way for Congress to "restore investor confidence" might be to extend the August recess through November.
-- Alan Reynolds

I like that...
Dan