|Fate of the economy is in the stars
(February 13, 2000)
“Mob psychology had borne the bull market to irrational heights, and mob psychology would drag it down far below any theoretical barriers erected by experts.”
William K. Klingaman, 1929—The Year of the Great Crash
If you look up on a clear night you can see Betelgeuse, the red supergiant in Orion’s right shoulder—that’s his right, your left. It’s hard to miss. Betelgeuse is one of the brightest stars in the northern sky—100 times the size of the sun.
Appearances, though, don’t tell the whole story. Betelgeuse may be big, beautiful and impressive, but it’s dying. The primary fuel in its nucleus (hydrogen) was exhausted long ago, and now helium, carbon, oxygen and other heavier elements must be burned to generate energy. As these higher-order fusions take place, the nucleus grows progressively denser, and the increased radiation from the core forces the star to expand and cool, giving Betelgeuse its distinctive redness and bloated shape. In short, the star is consuming itself to stay alive.
Eventually, fusion will cease (at the element iron), and the outer shells will have nothing to support them. They will collapse upon the nucleus, creating a critical mass, and be ejected into space in a brilliant supernova that will be visible for days. Left behind will be a black hole. In fact, this may already have happened, but we’d have to wait 650 years to find out.
Why the astrophysical detour and what does it have to do with the quote at the top of this column? Well, our economy is a lot like Betelgeuse—impressive to look at, but fundamentally decadent and exhausted. You only have to pick up a newspaper to read of the latest multi-billion-dollar mergers and stock index records to know that our stock markets have lost touch with reality and the economy is set for an implosion. One thing’s for certain—it won’t take 650 years to happen.
Of course, pessimists have been wrong before. Previous warnings of the end of the bull market, now in its 107th month, have been smugly tossed aside, and life has continued as if prosperity were eternally ordained. Yet the time to worry is precisely when disaster seems furthest away. This is when your little voice tells you something is wrong, and certain disquieting signs appear. The easy way out is to ignore or discount them and maintain a stubborn optimistic outlook.
The first danger sign is the chain reaction of gargantuan mergers. In the biggest, America On-Line took over Time Warner at a cost of $160 billion. Soon thereafter, AOL/Time Warner swallowed the British record company EMI. Not to be outdone, Rogers Communications forked out $6 billion to buy Montreal-based telecommunications company Groupe Vidéotron. As Ted Rogers told the Globe and Mail: “It sunk in, at least to me, that we had better get going here because time is a-runnin’ out.”
These fusions of economic heavy elements require immense amounts of energy (stocks and money) to work, but in the end they produce little new wealth. They could actually leave the economy worse off if they create unemployment and less competition. In the language of stellar thermodynamics, these mergers consume more energy than they emit, which will eventually cool the economy and render the stratospheric stock index highs unstable.
As for the stock indices, they continue to climb into the stratosphere, albeit with a little turbulence here and there. The heavily Internet-weighted Nasdaq index closed at 4069.31 on Dec. 31, up 217 per cent from 1876.62 for the year. The Dow Jones Industrial sets new highs with banal regularity, and the Toronto Stock Exchange jumped more than 800 points in one month, much of that on the strength of two stocks, Nortel and BCE.
Internet stocks may be dominating the economy but what are they really worth? Amazon. com, the huge on-line bookstore, suffered an operating loss last year of US$175 million. In 1998 the amount was $18 million. On Wednesday, weak financial news pushed Chapters Online to a 52-week low of $11 per share. High-profile Yahoo hit a midday trading high of US$500.12 per share on Jan. 4. A week later it had lost almost 30 per cent of its value, falling to $357.56.
In the wake of the AOL/Time Warner merger the Globe and Mail reported that Yahoo stockholders were more concerned about the company’s growth and inflated valuation than in acquiring “a debt-laden Hollywood dinosaur” like Time Warner. Even AOL and Time Warner stocks fell when the merger was announced.
The bubble might not burst next month or next year, but the return of inflation or another Asian economic “flu” could be enough to affect investor confidence and collapse this tenuous equilibrium. In 1998, corporate debt in America totaled US$3.64 trillion. In Japan, the world’s most indebted country, the current public debt is US$6-7 trillion.
So long as mergers and faith in technology buttress our illusion of prosperity, our inflated economy will continue to shine—for how long, though, is the question.