The End of the Business Cycle?
Henry C.K. Liu
This articlee appeared in AToL on July 22, 2010 
On December 18, 2002, I wrote a post to the on-line economics discussion list: Post Keynesian Thought (PKT), about an earlier post in the beginning of the year dated February 11, 2000 when the Dow was heading towards 12,000.  The earlier post challenged the extravagant claim by the Clinton administration Council of Economic Advisors (CEA) Annual Economic Report for 2000 that the business cycle was heading for historical relic status because of effective policies carried out by the Clinton White House. A few days after that earlier post, the equity markets started to fall. By December 2002, when I wrote the later post, US markets had lost $8 trillion in market capitalization, the entire face value of M3 money supply in 2000, and 80% of GDP. 
The e-commerce fad, which had been identified by the CEA Report as a technology-driven force for a new economy purged of business cycles, was stuck in the mud. The new millennium dawned confidently with the danger of the Y2K bug in the computer universe proving to have been overplayed by technology alarmists. Optimism about the future still seemed boundless. But there had been ominous dark clouds gathering, and by the end of 2000 the economy was consumed by full-fledged fire storm that has come to be known in history as the dot com bust.
During the five years previous to 2000, there had been occasional warnings from a few level-headed analysts that price that went up above fundamentals still inevitably had to come back down, often to levels below fundamentals. These warnings were ignored by hysterical rising market exuberance typical in a boom, silenced by stock prices that seem to defy economic gravity, by the tidal wave of new on-line companies attracting limitless venture capital and extraordinary IPO capitalization if their names carried a suffix of “dot-com.” There had been warnings that new enterprises with revolutionary business models with uncertain and unrealistic revenue streams have a high risk of failure. Such warnings were dismissed as “old economy” mentality.
A “new economy” dot-com powerhouse named AOL acquired “old economy” media giant Time-Warner on January 10, 2002. Never mind if many dot-com start-ups had no current revenue; the explosive growth of the Internet would take care of that soon enough.
Alas, the new virtual gold rush mentality could not repeal the fundamental laws of business. As 2000 progressed, more and more investors began sensing they had been caught in an irrational dot-com bubble and started to stop throwing good money after bad. A wild price volatility phase was followed by a sharp market rout. The sector identified by the Clinton White House economists as the leader to banish the business cycle was leading the economy into recession. summed up the situation at year’s end: “It was a tough year for technology. Investors fled the online shopping sector . . . leaving Web companies to go belly-up and giving traditional retailers a leg up. After starting 2000 with strong sales, computer makers were blindsided by soft demand in the second quarter and the collapse of growth during the Christmas holidays. The 451 IPOs in 2000 [posted] an average loss of 15% by mid-December, compared with an average gain of 194% in 1999. Venture capitalists are still flush with cash, but they have become highly skeptical of most business plans and don't think many start-ups are worthy of their money.” ascribed the dot-com implosion to “a combination of poor business planning, intense competition and weak advertising markets [that] pushed scores of dot-com companies to the brink, wiping out billions of dollars in market capitalization and sending share prices tumbling.”
Exemplary of the dot-com collapse was, launched as an online business selling pet supplies and accessories direct to customers. Its striking TV commercial featuring a sock-puppet dog captivated Super Bowl viewers in January 2000. The company went public in February, but never managed to attain the critical mass of customers sufficient to support an ambitious business plan. By November, with wary venture capitalists declining further funding, closed its doors. Its stock, which had sold for $11 per share in February, was worth 19 cents at the time of liquidation.
A similar fate would await Webvan, a California Foster City-based online credit-and-delivery grocery business. It also was buoyant by ambitious aspirations, but a lack of management experience in the supermarket industry hampered those efforts, as did lavish spending, which far exceeded sales growth. Webvan reportedly signed contracts for $1 billion worth of warehouses, bought 30 powerful Sun Microsystems servers, dozens of Compaq computers and several Cisco Systems routers, more than eighty 21-inch color monitors and more than 100 high-end Herman Miller chairs topping $800 each to pamper a young cool staff. With no revenue, the company ran out of working capital money by 2001 and donated its stores of unsold non-perishable foodstuffs to local food banks to sell as tax deductions.
Webvan’s collapse was not the only bad news of 2001. Even before the terrorist attacks of Septemebr 11 weakened an already shaky economy, most of the high-tech industry was caught in a slump of unprecedented severity. Revenues for the 2,400 member companies of Semiconductor Equipment and Materials International saw revenues plunge more than 30% from the previous year. Dataquest said the chip sector had suffered “the worst industry decline in the history of the market.” Even market leader Intel saw a revenue drop of more than 22%, and it was estimated that the semiconductor industry worldwide had lost $100 billion.
Personal computer sales fell for only the second time in its young history. Palm reported a 44% decline after celebrating four consecutive quarters of 100 percent revenue growth a year earlier. Cisco Systems posted its first quarterly loss in 11 years as a public company. Sun Microsystems had a yearly revenue plunge of 43%. High-flying Exodus Communications was forced into Chapter 11 bankruptcy protection.
Carnage from the dot-com meltdown left dead corporate bodies all over the virtual universe. summed up the ensuing blame game by ascribing the collapse to “day traders who gambled on obscure companies, mid-level engineers who cashed in stock options and retired at age 29 [with multimillion dollar nest eggs]. Wall Street analysts who preached ‘eyeballs, stickiness and price-to-sales ratios,’ forecasting companies that predicted exponential growth and business publications that canonized the rich and gave others hope of striking similar fortunes.”
The title of my February 11, 2000 post on PKT was:  End of the Business Cycle?
The post reads as follows:
Usually, when confidence crosses over to hubris, disaster is not far ahead.
The Clinton Administration’s Council of Economic Advisors (CEA) Annual Economic Report for 2000 claims that the longest economic expansion in US history can continue “indefinitely”, as long as "we stick to sound policy", asserts Chairman Martin Baily, according to the Wall Street Journal.  The NY Time’s report differs somewhat by quoting Baily as saying: “stick to fiscal policy”. Putting the two papers together, one get the sense that the Administration thinks its current fiscal policy is sound policy.
I trust Post Keynesian economists may have something to say about that.
Economics scholars, unlike those of us mortals who are unfortunate enough to have to float in the daily turbulence of the market, tend to focus on long-term trends and their congruence to economic theories.
Yet, long-term is increasingly being re-defined.  In the technology and communication sectors, long-term evokes periods lasting less than 5 years.
Two factors have been identified by the CEA Report as responsible for the “good” news:  technology-driven productivity and trade globalization.
Even with somewhat slower productivity and spending growth, the CEA believes the economy can continue to expand. As for the huge trade deficit, the CEA expects global recovery to boost demand for US exports.  Yet the US officially pursues a strong dollar policy [that makes US exports more expensive in local currency terms]. The optimism on e-commerce has yet to be substantiated by the results of the current federal data-gathering initiative. B to B portion of e-commerce is expected to rise to $1.3 trillion by 2003 from $43 billion in 1998.
The CEA Report does not address the question whether this is a merely a shift of commerce or a real growth.  Does the possibility exist for technology to generate negative growth?  It happened to IBM – the increased efficient (lower unit cost of calculation power) of IBM big frames actually reduced overall IBM sales.
Creative destruction leaves real bodies in its path, not just phantom concepts.  Are financial intermediaries and stock exchanges sunset industries, killed by ECN?
[Electronic communication network (ECN) is the term used in financial circles for a type of computer system that facilitates trading of financial products outside of stock exchanges. As it happened, over-the-counter derivatives trading outside of exchanges overwhelmed stock and futures exchanges all through the decade between 2000 and 2010.]
On fiscal policy, government spending declined as a share of the economy during the Clinton watch.  This in no small way contributed to a polarization of both income and wealth, with visible distortions in both the demand and supply sides of the economy.  The wealth effect tied to [rising] equity markets can be reversed suddenly.  Private debt is at an all time high and celebrated as a positive factor.  Household spending seems to be heavily based on expected rising future earnings or paper profits, both of which may vanished on short notice.
Politically, trade globalization is facing complex resistance worldwide.  Such resistence will either slow further globalization or force the terms of trade to be revised.
Now, it may be interesting to do a role-playing gaming simulation exercise:  assuming PK [Post Keynesian]  economists gain control of the CEA, what kind of report would they issue and what different policies would such a CEA propose?
I answered my own question in a later post:
I would think that a PK influenced CEA would advocate a policy towards domestic economic development with massive government credit for infrastructure, restructuring and regulating of transportation, communication, national health care, mutualization of insurance, public education and social security, rather than the Bush tax cut.  Also, internationally, the US can lead in redirecting domestic development as a preferred path of growth and put trade back in proper balance, in an auxiliary role rather than the main path for growth.  The emphasis should be to boost global aggregate demand, and not just maintaining the US as a market of last resort for Third World exports. Together with a reorientation of trade, the US is in a position to launch a new international finance architecture, re-introduce foreign exchange control, regulate international financial markets, and regulate the banking and financial system.  Above all, set full employment as a policy goal and manage monetary policy to accommodate it.  Establish a credit allocation policy based on balanced growth, rather than allowing credit allocation to be determined by the price of money - interest rates.  Reform corporate accounting standards to prevent balance sheet manipulation to produce phantom profits while destroy real production. [End of post]
Five years later, the global deregulated markets crashed in 2007 with an unprecedented financial crisis that has yet to run its course after three years. Had the above proposed measures been taken by those in power, the current crisis could have been avoided. Alas, three year into the mother of all financial crises, with a president elected by populist political forces, none of the above measures have enacted. The Obama White House is infested still with the same Clintonite neoliberals that landed the economy in crises. Unless the above policy measures are adopted, the world can face another crisis of even greater damage within a decade. The business cycle has not ended. In fact, it has been made more deadly by hubris policy.
July 19, 2010