June Outlook
Jude Wanniski and David Goldman
June 3, 1991


STOCK MARKET: The 113-point run in the Dow Jones Industrials last week, a 3.2% gain, was enough to put the United States into the No.2 spot, for the week, among stock markets of two dozen industrial nations. On the FT Actuaries World Indices, the U.S. is up 18.3% on the year. The No.1 spot was retained by Mexico, which has had the world's leading stock market for two and a half years. Mexico is up 77.8% for the year and was up 3.9% last week. Can you guess which nation had the No.3 spot last week? If you can, you will realize the market analysis you've been reading that pins the Wall Street advance on 1) the incipient recovery from recession or 2) a delayed reaction to recent Fed easing or 3) a down payment on the traditional summer rally is all baloney. The No. 3 stock market was in Canada, which added a 3.1% gain for the week, up only 8.6% for the year in U.S. dollars. The driving force behind these moves was the Bush Administration^ success in winning "fast track" agreement from Congress on a North American Free-Trade Association. If a Smoot-Hawley Tariff Act could cause the 1929 Crash, the clear victory for the potential of free trade in North America is worth the bullish market discounting we've seen here. This news, though, is now in the market. For Wall Street to continue this kind of robust advance requires fresh positive news on the policy or political front, which we do not see at the moment. Happily, neither do we see any political or policy threats to Wall Street. (JW)

ECONOMY: Yes, the recession probably hit bottom in April and will creep ahead toward feeble recovery in the quarters ahead, perhaps posting GNP gains in the 1-to-2% range in the last half. For a reasonable economic recovery in the 3% range, we think the stock market has to move another four hundred points from its current trading range of 2900/3100 to the 3300/3500 range. The expectation that recovery will be a decent one without policy change continues to dominate White House thinking, however. Today's op-ed column in The Wall Street Journal by Irving Kristol did not help one bit. Kristol argues in "The Conservatives Find a Leader" that President Bush has movement conservatives eating out of his hand because of the Budget Agreement, which puts a lid on new, liberal spending projects. In Kristol's vie\v, balancing the budget is more important than economic growth, the rationale being that balanced budgets lead to economic growth. The GOP's "growth wing" is now on the sidelines, awaiting some external shock to give it some leverage, some reason to dispute OMB Director Richard Barman's notion that even with anemic economic growth, President Bush will easily be re-elected. A stock market slide would help. So would a serious Democratic candidate with a growth message. Where are you, Mario Cuomo? (JW)

BONDS: The reappointment of Federal Reserve Chairman Alan Greenspan by President Bush would be good news for bonds, as it would remove the threat of his replacement by an easy-money chairman. The markets have to be aware that President Bush's political advisers might want "their own man" in the chair, to guarantee monetary lubrication, if necessary, in the critical re-election moments of 1992. The fact is that interest rates will be lower with Greenspan than with an easy-money chairman, but there are people around the President who do not accept that line of reasoning. Many still think Fed Governor Wayne Angell has been a barrier to lower interest rates by voting against monetary ease. As the most recent Fed minutes show, however, Angell once again is to be congratulated in correctly predicting that the discount rate cut, which Greenspan was bludgeoned into producing, would not have desirable effects on the bond market. (JW)

SOVIETS: As we predicted two weeks ago in "USSR Developments," the big push for a mega-billion Marshall Plan to help Mikhail Gorbachev reform the Soviet economy has fizzled out. The Grand Bargain, conceived at Harvard and The International Economy magazine, would have President Gorbachev turning his economy over to Harvard's finest economics professors, led by Jeffrey Sachs, in exchange for a big bag of money. In addition to getting the wisdom of Sachs, Moscow would be guaranteed access to the "economic development experts" at the IMF, the folks who have given us Peru, Ethiopia, Bangladesh and other success stories in the Third World. It was, as Undersecretary of State Robert Zoellick put it, a "dangerous impression" for anyone to think this scheme was going anywhere. Gorbachev was of course never under any such illusion, instead getting concessions out of the Bush Administration that he may not have gotten if it did not appear they were small potatoes compared to a Big Bag of Money. The net effect of these maneuvers, though, has been to elevate Grigory Yavlinsky, a Boris Yeltsin economic reformer, along with Sachs. Gorbachev's latest perestroika coordinator, Yevgeny Primakov, flew back to Moscow last week apparently persuaded the Bush Administration thinks the Harvard Boys are the font of wisdom on matters of capitalism and that eventually Sachs will produce a Big Bag of Money. The Polyconomics-WEFA Group proposal is now in Primakov's hands, we're told. From our first meetings with Soviet officials two years ago, we warned against the temptation of relying on Western Welfare schemes to make perestroika work. It's hard to resist temptation. (JW)

MEXICO: Anticipation of a fixed peso-dollar rate, or at least a halving of the current crawling-peg devaluation rate, brought the Mexican T-bill (CETES) interest rate down to 16.5% on the secondary market last week, the lowest in 25 years. CETES had paid around 22% since last December; this week's sharp drop represents a new range, determined by falling inflation expectations and the government's commitment to a strong currency. Mexico's central bank has been arguing for months that the time is right to fix the peso, and top officials expect a decision to peg the currency within the next month or two. The reduction of currency risk in the Mexican market should be worth an increase of several percentage points in the price-earnings ratio of Mexican stocks. It is not likely that the prospect of a fixed peso has been entirely discounted in the Mexican market's 78% run-up (in U.S. dollars) during the year to date. The Mexican market remains attractive, even though Mexico's dividend yield is one of the world's lowest -- below Japan's at 0.58%. Lower interest rates should produce a drastic improvement in many companies' profits. (DG)