Sunday :: Mar 6, 2005

The Sharecropper Society

by larre

America is being sold out to foreigners.

That's a fair conclusion to be drawn from Warren Buffett's Berkshire Hathaway report for 2004 released yesterday. Berkshire Hathaway, of course, is the flagship company the 'oracle from Omaha' built into one of the most successful investments in the history of finance. In the process, it made Buffett one of the wealthiest men in the world.

Berkshire started as a "troubled textile" firm, as Buffett likes to say, but over the years it morphed into what is, from an investor's point of view, one of the few squeeky-clean, honest, far-sighted, and consistently profitable enterprises in America. Today, it resembles in some ways a 'mutual fund,' an insurance company, and a private utility company that also happens to own substantial shares of industry leading companies like Coca-Cola, Gillette, American Express, the Washington Post, and Wells Fargo, to name just a few.

As chairman of the board, Buffett is paid a salary of only $100,000. And, unlike Bernie Ebbers, he can actually read a financial statement! (In actuality, he does much more that. Alas. If only the other predators and nincumpoops in America's corporate suites were as honest!)

In a latter section of the newest report, Buffett updates investors about last year's dramatic shift in the company's investment strategy:

"Berkshire owned about $21.4 billion of foreign exchange contracts at year end [i.e. 2004], spread among 12 currencies. As I mentioned last year, holdings of this kind are a decided change for us. Before March 2002, neither Berkshire nor I had ever traded in currencies. But the evidence grows that our trade policies will put unremitting pressure on the dollar for many years to come – so since 2002 we’ve heeded that warning in setting our investment course. (As W.C. Fields once said when asked for a handout: 'Sorry, son, all my money’s tied up in currency')
Tomorrow, the news will be out that Buffett expects the decline of the dollar to continue unabated. But what he foresees is far more serious than even the trillion dollar deficits being racked up by the Bush administration.
"A budget deficit in no way reduces the portion of the national pie that goes to Americans. As long as other countries and their citizens have no net ownership of the U.S., 100% of our country’s output belongs to our citizens under any budget scenario, even one involving a huge deficit.

As a rich “family” awash in goods, Americans will argue through their legislators as to how government should redistribute the national output -– that is who pays taxes and who receives governmental
benefits. If “entitlement” promises from an earlier day have to be reexamined, “family members” will angrily debate among themselves as to who feels the pain. Maybe taxes will go up; maybe promises will
be modified; maybe more internal debt will be issued. But when the fight is finished, all of the family’s huge pie remains available for its members, however it is divided. No slice must be sent abroad.

Large and persisting current account deficits produce an entirely different result. As time passes, and as claims against us grow, we own less and less of what we produce. In effect, the rest of the world enjoys an ever-growing royalty on American output. Here, we are like a family that consistently overspends its income. As time passes, the family finds that it is working more and more for the “finance company” and less for itself.

Of course, that analysis ignores the complex consequences of budget deficits when they are financed by overseas purchases of our debt. But Buffett addressed that problem in past annual reports when he expressed deep concerns about the Bush tax cuts. This year, he is sounding a different alarm:
"The decline in [the dollar's] value has already been substantial, but is nevertheless likely to continue. Without policy changes, currency markets could even become disorderly and generate spillover effects, both political and financial. No one knows whether these problems will materialize. But such a scenario is a far-from-remote possibility that policymakers should be considering now."

* * *
[Last year] our country... purchased an additional $618 billion in goods and services from the rest of the world that was unreciprocated. That is a staggering figure and one that has important consequences.The balancing item to this one-way pseudo-trade -- in economics there is always an offset -- is a transfer of wealth from the U.S. to the rest of the world. The transfer may materialize in the form of IOUs our private or governmental institutions give to foreigners, or by way of their assuming ownership of our assets, such as stocks and real estate. In either case, Americans end up owning a reduced portion of our country while non-Americans own a greater part.

This force-feeding of American wealth to the rest of the world is now proceeding at the rate of $1.8 billion daily, an increase of 20% since I wrote you last year. Consequently, other countries and their citizens now own a net of about $3 trillion of the U.S. A decade ago their net ownership was negligible.

* * *
Should we continue to run current account deficits comparable to those now prevailing, the net ownership of the U.S. by other countries and their citizens a decade from now will amount to roughly $11 trillion. And, if foreign investors were to earn only 5% on that net holding, we would need to send a net of $.55 trillion of goods and services abroad every year merely to service the U.S. investments then held by foreigners. At that date, a decade out, our GDP would probably total about $18 trillion (assuming low inflation, which is far from a sure thing). Therefore, our U.S. “family” would then be delivering 3% of its annual output to the rest of the world simply as tribute for the overindulgences of the past.

* * *
This annual royalty paid the world -- which would not disappear unless the U.S. massively underconsumed and began to run consistent and large trade surpluses -- would undoubtedly produce significant political unrest in the U.S. Americans would still be living very well, indeed better than now because of the growth in our economy. But they would chafe at the idea of perpetually paying tribute to their creditors and owners abroad. A country that is now aspiring to an “Ownership Society” will not find happiness in -– and I’ll use hyperbole here for emphasis -– a “Sharecropper’s Society.” But that’s precisely where our trade policies, supported by Republicans and Democrats alike, are taking us.

Many prominent U.S. financial figures, both in and out of government, have stated that our current-account deficits cannot persist. For instance, the minutes of the Federal Reserve Open Market Committee of June 29-30, 2004 say: “The staff noted that outsized external deficits could not be sustained indefinitely.” But, despite the constant handwringing by luminaries, they offer no substantive suggestions to tame the burgeoning imbalance.

Buffett will hold the company's annual meeting in Omaha April 30. Thousands are expected to attend from all over the world, in hopes of hearing more wisdom from Buffett and his alter ego, Charlie Munger.

Alan Greenspan, whose "mish-mash of contradictory theories" and "forked tongue" was punctured in today's Toledo Blade will not be in attendance.

larre :: 1:39 PM :: Comments (10) :: Digg It!