Not to worry – as long as they keep full allocations to equity markets the coming doubling of equity prices over the next few years will bail them out.

Provided the political leadership doesn’t get too serious about federal govt deficit reduction with tax increases and spending cuts.

US Cities Face Half a Trillion Dollars of Pension Deficits

By Nicole Bullock

October 12 (FT) — Big US cities could be squeezed by unfunded public pensions as they and counties face a $574 billion funding gap, a study to be released on Tuesday shows.

The gap at the municipal level would be in addition to $3,000 billion in unfunded liabilities already estimated for state-run pensions, according to research from the Kellogg School of Management at Northwestern University and the University of Rochester.

21 Responses

  1. Not to worry – as long as they keep full allocations to equity markets the coming doubling of equity prices over the next few years will bail them out.

    Warren, your call on equities seems to assume that the GFC is past us and there are no more big financial shoes to drop that would upset the apple cart in the real economy, and no currency war brewing. I would agree that the business cycle seems to have reversed and the global economy is recovering, but it also seems to me that the financial cycle has not played out its course yet, and there still could be some unpleasant surprises. In addition, the austerians seem still seem to have the upper hand, which suggests slow growth at best. So a more conservative approach is still in order? Or do you see inflation or dollar depreciation on the horizon that would drive up equities? What’s the MMT rationale behind your seeing stocks doubling in the next few years? Seems like a bold prediction with all the wild cards out there.

    1. Tom, I agree it is a bold prediction, and I’m also hoping Warren will explain further what he sees as the driver of such an increase in equities.

      Even if no downside shocks materialize (and Warren HAS acknowledged there are downside risks), there still needs to be some explanation of the shock to the upside that would be needed for equities to double. Rapid GDP growth? If so, driven by what, given that Warren has agreed the US looks like it’s following Japan’s path? Rapid earnings growth? Margins are already near their historical peak as a percentage of GDP and of corporate revenue. Rapid export growth? Maybe that’s it, but it would have to be pretty big to double earnings. Rapid valuation growth? Sounds bubbly, but maybe Warren has good reason to expect it.

      jcmccutcheon, we’ve had large government deficits for most of the 20th century to fund a positive household savings rate that has usually been higher than the current level of around 6%. So I’m not [yet] convinced by Warren’s depiction of the household “battery” of savings as well on the way to being “recharged”. The studies I’ve seen suggest a big shortfall still in retirement savings, so I’m not sure why the savings rate should fall to a meaningful degree in the next few years (thus driving faster GDP growth), absent another asset bubble.

    2. It’s ex the wild cards, which are ‘all talk’ right now but nonetheless frighteningly close to happening. Especially the balanced budget amendment, and the possibility of the ECB letting it all go, Iran nuking someone, etc. etc. etc.

      So all that aside, the deficit is large enough to muddle through with maybe 3% top line growth, costs going down with productivity increases, and upside if private sector credit creation does kick in. Combined with a fed failing on both its mandates, interest rates are likely to remain low, meaning PE’s are too low given the term structure of rates. so what i see is more of a one time adjustment of equity valuations.

      1. “If private sector credit creation kicks in” Warren, isn’t it neccesary for for this hand-off to take place for the economy to grow meaningfully? and given the steep reduction in the financial obligation ratios it seems poised to pick-up from here.

      2. yes, but even with today’s very modest growth of gdp it’s enough for modest corporate top line growth and higher earnings growth, all measured against lower 7 year rates

      3. There’s an added bit of uncertainty due to what passes as GDP and even Federal Deficit growth nowadays. Bank reserve count as both? Nevertheless, even this only slightly detracts from Warren’s optimism on slow replenishment of private savings. My biggest worry is the distribution of whose savings? If income disparity stays so unbalanced, private savings may be slower than ever to reverse present unemployment. Hence, consumption patterns may also be very uneven.

      4. PE’s are too low given the term structure of rates. so what i see is more of a one time adjustment of equity valuations
        …..
        yes, but even with today’s very modest growth of gdp it’s enough for modest corporate top line growth and higher earnings growth, all measured against lower 7 year rates

        Why do interest rates matter in terms of valuing stocks?
        Because they are a cost parameter for firms?

    3. Warren, thanks for elaborating! I think I understand your reasoning better. Two things, FWIW… First, following on your 10:38 comment, I think Japan’s government deficit didn’t need to be as big given that households steadily reduced their savings rate from around 15% in 1990 to under 5% by the 2000s. Second, that equity valuations should go up as a function of the term structure of interest rates sounds related to the Fed Model. Some people consider John Hussman to have debunked this relationship (search for his 2007 article) but I won’t claim any special knowledge on this. Predicting valuation multiples seems partly an exercise in predicting behavioral dynamics, and I realize you do have a successful background in asset markets.

  2. I understand that deficit is creating new money. But if financial sector is still too screwed up to start lending against new money then we have a problem. The foreclosure crisis that is unfolding across the country seems to imply that the banks have more losses to take, which means new credit to build on the increase of HPM will be hard. Why is this wrong?

    Best,

    Art

    1. Hi Arthur,

      “The foreclosure crisis that is unfolding across the country seems to imply that the banks have more losses to take,..”

      Do you suspect that for instance BofA’s halt on foreclosure sales is on purpose. ie They were taking too hard a hit in too short a time (looking at a TARP 2) so they cooked up this “title insurance” red herring so that they could stop the bleeding ASAP?

      They now have diverted attention to ‘foreclosures’ vice ‘foreclosure sales’.

      Resp

  3. Warren, I just got through meeting with Dr. Julianne Malveaux, she recently had a meeting with Obama where she said he gave her a personal shoutout and also that she was 1 of 5 economists to meet personally with Biden too all in the same week. The discussions were about economic policy and she is part of the EPI (economic policy institute). I threw out your name, it didn’t seem like she had heard of you but I told her your policies about a payroll tax reduction and a gauranteed jobs program seem to have a lot of problems gaining traction in washington. Since she is able to bend the ear of Obama and Biden personally I asked had they discussed these issues and why weren’t these policies being adopted by Obama. She said they are terribly worried about deficits in the administration.

    She said your ideas should be gaining more traction, because they would help the black community and thier high unemployment rate in this country, and the black caucas was especially interested in these ideas. Maybe you should try and contact her personally, I think she could make a valuable ally in getting your ideas over to the administration and calming thier worries about deficits.

    1. Strong work SP. This part is just a pity, “I asked had they discussed these issues and why weren’t these policies being adopted by Obama. She said they are terribly worried about deficits in the administration.”

      That’s like a doctor worried about his cancer patient’s acne. The WH really needs to prioritize a little better.

      Here’s Malveaux’ website.
      http://www.juliannemalveaux.com/about.html

      SP should email Warren his “Clark Kent” alias so Warren can reference that name instead of “Strawberry Picker” (though that’d be pretty funny). I’ll note Dr. Malveaux has been an advisor to the Congressional Black Caucus (CBC) and as I mentiond last month, the CBC appears to be on board with functional finance.
      http://moslereconomics.com/2010/09/17/president-obama-missing-the-point/#comment-26366

      1. no bids out there for my boat 🙁

        give a man a fish, feed him for a day. teach a man to fish, and he sits in his boat and drinks beer the rest of his life.

        back to st. croix soon!!!

        so the boy scouts came home and the scout master asked what their good deed was for that day. The said 5 of them helped an old lady cross the street.
        the scout master asked why it took 5 of them to do that. They said because she didn’t want to go.

        might be what we are up against?

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