VECTORS

---

This Political Year's Great Taboo -- America's Addiction to the Bull Market

THIS POLITICAL YEAR'S GREAT TABOO --
AMERICA'S ADDICTION TO THE BULL MARKET

By Paban Raj Pandey

Date: 10-21-96

While politicians this election year rant about Americans' addictions to drugs and tobacco, no one mentions our growing addiction to the bull markets. Yet as signs of trouble loom on the horizon, the risks of this addiction grow. Short of a war-generated upsurge in patriotism, only major saving by government itself will stimulate citizens back to thriftier habits. PNS commentator Paban Raj Pandey is a former economic research officer for the Sumitomo Bank of California.

Only in paradise can bull markets go on forever. Unfortunately the approximately 51 million Americans who hold shares seem to think they're already in paradise. And no politician -- certainly not in this election year -- is prepared to suggest otherwise.

And why worry? The bulls have dominated U.S. stock markets ever since the Dow Jones Industrial Average bottomed out in 1982 around the 800 mark. Since then it has hit a record high every year since 1989. Last week, it hit the 6000 mark.

In fact, the returns make Las Vegas look like Ebenezer Scrooge. Last year the Standard and Poor's 500 index recorded a total return of 37 percent on their stocks. The average return on all U.S. stocks was 31.5 percent.

Because of this 16-year ever-ascending roller coaster, investors have been shifting money from lower-yielding but safe vehicles such as bank CD's to riskier mutual funds. A report earlier this year by David Hale, an economist at Zurich Kemper Investments, Inc. in Chicago stated that over 30 percent of U.S. households owned shares in a mutual fund, up from six percent in 1980.

Last year investors poured a near-record $128 billion into U.S. equity mutual funds. They followed that with another $55 billion in the first four months of this year, though the pace slowed down in more recent months. Nevertheless, nothing so far this year indicates investors' search for even better returns is waning.

In other countries, people anticipate the return of the bears and cultivate the habit of personal saving as a coping mechanism for when trouble hits. For Americans, the market is just too enticing to bother with being thrifty. U.S. personal savings have dropped from nine percent in 1981 to 4.7 percent in 1995.

Instead, investors soothe their anxieties about the future by riding the seemingly never-ending bull market. They hope the "paper profits" they rake in will surpass the savings they might otherwise be accumulating.

Newspapers periodically carry stories about people who, having accumulated a "stash" by age 50 or even younger, go off into merry retirement. But what if the unthinkable were to happen and the bears were to return in force?

There are plenty of signs that already point to trouble looming on the horizon, especially once the baby-boomers start retiring. Earlier this year trustees for the Medicare trust fund reported that by 2001 the fund will be $53 billion in the red.

The 76 million Americans born between 1946 and 1964 will begin to retire in 2010. As their number outpaces the number of U.S. workers paying payroll taxes, Social Security will cease to be secure. By 2031 it is projected to go insolvent.

Corporate pension funds are not as underfunded as they were a decade ago. But more and more companies are switching from defined benefit plans under which retirees are paid a guaranteed monthly sum to plans like the 401(k)s in which employees do the bulk of the contributing letting the money managers seek good returns from the bull markets.

Moreover, as Americans are living longer, parents are consuming assets that would otherwise go to their children as inheritances. So they are trying to make up for lack of assets and savings by hoping for even higher yields than those today.

One can argue whether high tax rates do or do not induce high savings rates. But the fact is that in the 1950s, when taxes were high Americans saved twice as much as they save today. And most people trusted in Social Security. A decade later, when Medicare was introduced, few doubted that government would be there for them.

Today, amidst warnings that both institutions are heading for trouble, that confidence has eroded. Nor are people able to soothe their worries on the wage front. Last year the Economic Report of the President showed that the average hourly wage, adjusted for inflation, has steadily declined since 1973.

Short of a big war that generates World War II-type patriotism, there is only one incentive that would prompt a return to personal savings: a major demonstration project by government. Right now, the government budget deficit, though it has dropped from six percent of GDP in 1983 to about two percent now, is still a big drag on national savings. But were government to achieve bigger savings through a balanced budget, borrowing rates would drop, freeing up more capital for investment, leading to more jobs and higher wages. Thanks to a surge in profits, corporate savings are already up.

The net effect could finally encourage households to start saving again as the best way to cope with their futures. Until then, Americans will continue to ride the bull market -- and pray when they come to the brink.