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Corporate profits are impressive!

The economy could be doing a lot better, but corporate profits are about as good as they get. Which suggests that the equity market rally still has legs.Today we received the first revision to Q2/21 GDP, which included the first estimate of corporate…

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The economy could be doing a lot better, but corporate profits are about as good as they get. Which suggests that the equity market rally still has legs.

Today we received the first revision to Q2/21 GDP, which included the first estimate of corporate profits for the period. GDP was revised upwards by a modest—though still impressive—amount, posting a 6.6% quarterly annualized growth rate. Corporate profits, on the other hand, soared at a 44% annualized rate, and are now at a new, all-time high. All of this despite the fact that the unemployment rate is still quite elevated (5.4%) and there are 6 million fewer people working than at the pre-pandemic high.

If there's a silver lining to the Covid cloud, it is here, in the form of a spectacular increase in the economy's productivity. And with many of those 6 million idle workers likely to be snapped up by desperate employers starting next month (when super-generous unemployment benefits expire), the economy has plenty of room to expand in coming quarters. 

A storm still threatens on the horizon, unfortunately, in the form of the Democrats' $3.5 trillion so-called "infrastructure" reconciliation bill that just passed the House. If the spending it entails ever sees the light of day, it will result in a massive expansion of the welfare state and an equally massive and crushing new tax burden on all of us. The economy will find it very hard to thrive with so much spending, since there is almost certainly going to be many hundreds of billions of dollars wasted due to inefficiencies, perverse incentives, corruption and graft.

So if there's a silver lining to the Afghanistan cloud, it can be found in the recent and precipitous drop in Biden's popularity, thanks to his abrupt decision to surrender to the Taliban. Our ship of state is virtually rudderless, and it strains credulity to think that a seriously weakened administration can actually push through a radical expansion of the administrative state and a massive increase in income redistribution. 

The charts that follow focus on corporate profits and GDP, both of which are looking pretty good these days. I also discuss the outlook for inflation, which is not very good. Finally, I discuss equity market valuation, which by several different measures is not at all outrageous. That's a very good thing.

Chart #1

Chart #1 gives some much-needed, long-term perspective on the economy's growth trajectory. For over 40 years, the economy followed a 3.1% annual growth track. That changed dramatically, however, in the wake of the Great Recession of 2008-2009. Since then, the economy has grown at about a 2.1% rate per year.

Chart #2

Chart #2 zooms in on Chart #1, showing just the past 20 years. Today's economy is about $4.5 trillion below what it would have been had it followed a 3.1% annualized growth track. That represents a potential loss of almost 20% in real national income. What also stands out is the economy's fairly rapid recovery to its 10+ year trend growth track in the past year. 

Chart #3

Chart #2 shows the quarterly annualized rate of inflation across the entire economy (i.e., the GDP deflator). Inflation according to this broadest of measures surged at a 6.2% annualized rate in the second quarter. That's the highest rate by far since the early 1980s. 

Keynesians look at this surge in inflation as an inevitable—but likely only transitory—consequence of the massive monetary stimulus that was necessary in order to get the economy back on its feet in short order.

I agree that this surge in inflation has a monetary source, but I don't believe that expansive monetary policy is what drives a recovery. The Fed has no power to create jobs with its printing press. The most the Fed can do is to provide extra liquidity—which they did to the tune of almost $4 trillion—to satisfy the economy's desire for safety during troubling and highly uncertain times. Without that liquidity it might have been more difficult for the economy to recover. Indeed, the economy might have suffered more without an extra injection of liquidity, because markets might have seized up. 

But looking ahead, an abundance of liquidity is not necessary. As confidence returns and jobs are added and profits increase (!), the economy doesn't need an abundance of liquidity. There's way too much liquidity these days, in fact, which is why short-term interest rates are virtually zero. Yet the Fed has not reversed course; they have not withdrawn excess reserves and they have not increased short-term interest rates. As a consequence "unwanted" money and liquidity are piling up and people are trying to get ride of it. They can only do this by spending the money on "things." But of course that doesn't make money disappear, since the person selling the thing I buy must in turn do something with the money he or she receives.

So the economy finds itself with an abundance of money and people are trying hard to spend that money by buying lots of different things. Real estate prices are up, food prices are up, hotel occupancy is up, private jet travel is surging, commodity prices are up, computer prices are up, and many more prices are up. Shortages are developing. Over time some shortages will disappear, but without the Fed taking action to drain liquidity, prices are unlikely to fall back to where they were. A new equilibrium will eventually be achieved in which most prices are higher (perhaps significantly so), the economy grows, and the current stock of money will have fallen in relative terms to a point in which people are no longer trying to reduce their money balances. 

Chart #4

Chart #4 compares the level of economy-wide corporate profits to nominal GDP. Both are at all-time highs, and it's obvious that corporate profits have increased faster than nominal GDP in the past year.

Chart #5

Chart #5 shows corporate profits as a percent of nominal GDP. Profits have never been so strong relative to nominal GDP.

It's no wonder, then, that equity prices are also at all-time highs. We're in a profits nirvana of sorts, thanks in part to expansive monetary policy, but probably in large part due to corporate efforts to cut costs and streamline their business—all necessary to survival during times of Covid. Extremely low real interest rates are also a boon, since financing costs have never been so cheap. 

Chart #6

Chart #7

Chart #6 is a long-term view of Chart #4. What stands out here is the surge in profits that began around the mid-1990s. Profits averaged about 5% of nominal GDP from 1959 through the mid-1990s, but then they surged to 8-10% of nominal GDP. Years ago I discussed the then-prevailing view among many bearish investors that profits were mean-reverting and would eventually fall back to 5-7% of GDP. I disagreed, since I saw the rise in profits as a boon triggered by globalization. China's big boom started in 1995, not coincidentally. As world markets globalized, successful firms found themselves operating in a much bigger market with seemingly endless possibilities. Chart #7 compares US corporate profits to global GDP, and by this measure not much has changed over time. (The chart only covers the period ending 12/20.) Since global GDP has grown faster than US GDP, global corporations have seen their sales rise relative to the size of the US economy.

Conclusion: it is not necessarily the case that profits have to fall back to some much lower level of nominal GDP. Profits are arguably sustainable at current levels. That further suggests that equities are not necessarily or fundamentally overvalued at current levels.

Chart #8

Chart #8 shows my calculation of the PE ratio of the S&P 500 using the National Income and Product Accounts measure of corporate profits (the source for profits shown in the above charts) as the "E" instead of the traditional 12-month trailing average of GAAP reported profits. Yes, PE ratios by this measure are high, but nowhere near as high as they were in 2000. 

Chart #9

Chart #9 compares NIPA corporate profits to reported profits (12-mo. trailing average of adjusted profits, according to Bloomberg). These two different measures tend to track each other fairly well over the years, except that NIPA profits, being based on the most recent quarter, usually point the way to trailing profits. What that means is that there is likely more good news to come for the stock market. 

Chart #10

Chart #10 shows the risk premium of the S&P 500, which I calculate by subtracting the 10-yr Treasury yields from the current earnings yield of the S&P 500 (which in turn is the inverse of the reported PE level). What we have today is a relatively attractive risk premium. Equities, in other words, are not necessarily overpriced at all. In fact, during the bull market of the 1980s and 90s, the risk premium was negative. 

Brian Wesbury, Art Laffer and I all use a similar model to value the equity market. This model assumes that the discounted present value of future profits guides current market valuations.  This is a capitalization model which essentially divides current profits by the current 10-yr Treasury yield to get a sense of where the fair value of stocks is. When discount rates are low, such as they are now (10-yr Treasury yields are only 1.3% or so!) then the fair value of equities should be high.

At this point one should be worried about what happens when interest rates revert back to a higher level (where they should be given the prevailing rate of inflation). Does the inevitable Fed tightening mean that the stock market is headed for another crash? Not necessarily.

By my calculations, equities today are priced to almost a 4% discount rate. If they were priced to a 1.3% Treasury yield, then the fair value of equities would be multiples of what it is today. In other words, the market is already assuming that rates rise, so rising rates needn't be the death knell for equity markets. 

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Chinese migration to US is nothing new – but the reasons for recent surge at Southern border are

A gloomier economic outlook in China and tightening state control have combined with the influence of social media in encouraging migration.

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Chinese migrants wait for a boat after having walked across the Darien Gap from Colombia to Panama. AP Photo/Natacha Pisarenko

The brief closure of the Darien Gap – a perilous 66-mile jungle journey linking South American and Central America – in February 2024 temporarily halted one of the Western Hemisphere’s busiest migration routes. It also highlighted its importance to a small but growing group of people that depend on that pass to make it to the U.S.: Chinese migrants.

While a record 2.5 million migrants were detained at the United States’ southwestern land border in 2023, only about 37,000 were from China.

I’m a scholar of migration and China. What I find most remarkable in these figures is the speed with which the number of Chinese migrants is growing. Nearly 10 times as many Chinese migrants crossed the southern border in 2023 as in 2022. In December 2023 alone, U.S. Border Patrol officials reported encounters with about 6,000 Chinese migrants, in contrast to the 900 they reported a year earlier in December 2022.

The dramatic uptick is the result of a confluence of factors that range from a slowing Chinese economy and tightening political control by President Xi Jinping to the easy access to online information on Chinese social media about how to make the trip.

Middle-class migrants

Journalists reporting from the border have generalized that Chinese migrants come largely from the self-employed middle class. They are not rich enough to use education or work opportunities as a means of entry, but they can afford to fly across the world.

According to a report from Reuters, in many cases those attempting to make the crossing are small-business owners who saw irreparable damage to their primary or sole source of income due to China’s “zero COVID” policies. The migrants are women, men and, in some cases, children accompanying parents from all over China.

Chinese nationals have long made the journey to the United States seeking economic opportunity or political freedom. Based on recent media interviews with migrants coming by way of South America and the U.S.’s southern border, the increase in numbers seems driven by two factors.

First, the most common path for immigration for Chinese nationals is through a student visa or H1-B visa for skilled workers. But travel restrictions during the early months of the pandemic temporarily stalled migration from China. Immigrant visas are out of reach for many Chinese nationals without family or vocation-based preferences, and tourist visas require a personal interview with a U.S. consulate to gauge the likelihood of the traveler returning to China.

Social media tutorials

Second, with the legal routes for immigration difficult to follow, social media accounts have outlined alternatives for Chinese who feel an urgent need to emigrate. Accounts on Douyin, the TikTok clone available in mainland China, document locations open for visa-free travel by Chinese passport holders. On TikTok itself, migrants could find information on where to cross the border, as well as information about transportation and smugglers, commonly known as “snakeheads,” who are experienced with bringing migrants on the journey north.

With virtual private networks, immigrants can also gather information from U.S. apps such as X, YouTube, Facebook and other sites that are otherwise blocked by Chinese censors.

Inspired by social media posts that both offer practical guides and celebrate the journey, thousands of Chinese migrants have been flying to Ecuador, which allows visa-free travel for Chinese citizens, and then making their way over land to the U.S.-Mexican border.

This journey involves trekking through the Darien Gap, which despite its notoriety as a dangerous crossing has become an increasingly common route for migrants from Venezuela, Colombia and all over the world.

In addition to information about crossing the Darien Gap, these social media posts highlight the best places to cross the border. This has led to a large share of Chinese asylum seekers following the same path to Mexico’s Baja California to cross the border near San Diego.

Chinese migration to US is nothing new

The rapid increase in numbers and the ease of accessing information via social media on their smartphones are new innovations. But there is a longer history of Chinese migration to the U.S. over the southern border – and at the hands of smugglers.

From 1882 to 1943, the United States banned all immigration by male Chinese laborers and most Chinese women. A combination of economic competition and racist concerns about Chinese culture and assimilability ensured that the Chinese would be the first ethnic group to enter the United States illegally.

With legal options for arrival eliminated, some Chinese migrants took advantage of the relative ease of movement between the U.S. and Mexico during those years. While some migrants adopted Mexican names and spoke enough Spanish to pass as migrant workers, others used borrowed identities or paperwork from Chinese people with a right of entry, like U.S.-born citizens. Similarly to what we are seeing today, it was middle- and working-class Chinese who more frequently turned to illegal means. Those with money and education were able to circumvent the law by arriving as students or members of the merchant class, both exceptions to the exclusion law.

Though these Chinese exclusion laws officially ended in 1943, restrictions on migration from Asia continued until Congress revised U.S. immigration law in the Hart-Celler Act in 1965. New priorities for immigrant visas that stressed vocational skills as well as family reunification, alongside then Chinese leader Deng Xiaoping’s policies of “reform and opening,” helped many Chinese migrants make their way legally to the U.S. in the 1980s and 1990s.

Even after the restrictive immigration laws ended, Chinese migrants without the education or family connections often needed for U.S. visas continued to take dangerous routes with the help of “snakeheads.”

One notorious incident occurred in 1993, when a ship called the Golden Venture ran aground near New York, resulting in the drowning deaths of 10 Chinese migrants and the arrest and conviction of the snakeheads attempting to smuggle hundreds of Chinese migrants into the United States.

Existing tensions

Though there is plenty of precedent for Chinese migrants arriving without documentation, Chinese asylum seekers have better odds of success than many of the other migrants making the dangerous journey north.

An estimated 55% of Chinese asylum seekers are successful in making their claims, often citing political oppression and lack of religious freedom in China as motivations. By contrast, only 29% of Venezuelans seeking asylum in the U.S. have their claim granted, and the number is even lower for Colombians, at 19%.

The new halt on the migratory highway from the south has affected thousands of new migrants seeking refuge in the U.S. But the mix of push factors from their home country and encouragement on social media means that Chinese migrants will continue to seek routes to America.

And with both migration and the perceived threat from China likely to be features of the upcoming U.S. election, there is a risk that increased Chinese migration could become politicized, leaning further into existing tensions between Washington and Beijing.

Meredith Oyen does not work for, consult, own shares in or receive funding from any company or organization that would benefit from this article, and has disclosed no relevant affiliations beyond their academic appointment.

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Is the National Guard a solution to school violence?

School board members in one Massachusetts district have called for the National Guard to address student misbehavior. Does their request have merit? A…

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Every now and then, an elected official will suggest bringing in the National Guard to deal with violence that seems out of control.

A city council member in Washington suggested doing so in 2023 to combat the city’s rising violence. So did a Pennsylvania representative concerned about violence in Philadelphia in 2022.

In February 2024, officials in Massachusetts requested the National Guard be deployed to a more unexpected location – to a high school.

Brockton High School has been struggling with student fights, drug use and disrespect toward staff. One school staffer said she was trampled by a crowd rushing to see a fight. Many teachers call in sick to work each day, leaving the school understaffed.

As a researcher who studies school discipline, I know Brockton’s situation is part of a national trend of principals and teachers who have been struggling to deal with perceived increases in student misbehavior since the pandemic.

A review of how the National Guard has been deployed to schools in the past shows the guard can provide service to schools in cases of exceptional need. Yet, doing so does not always end well.

How have schools used the National Guard before?

In 1957, the National Guard blocked nine Black students’ attempts to desegregate Central High School in Little Rock, Arkansas. While the governor claimed this was for safety, the National Guard effectively delayed desegregation of the school – as did the mobs of white individuals outside. Ironically, weeks later, the National Guard and the U.S. Army would enforce integration and the safety of the “Little Rock Nine” on orders from President Dwight Eisenhower.

Three men from the mob around Little Rock’s Central High School are driven from the area at bayonet-point by soldiers of the 101st Airborne Division on Sept. 25, 1957. The presence of the troops permitted the nine Black students to enter the school with only minor background incidents. Bettmann via Getty Images

One of the most tragic cases of the National Guard in an educational setting came in 1970 at Kent State University. The National Guard was brought to campus to respond to protests over American involvement in the Vietnam War. The guardsmen fatally shot four students.

In 2012, then-Sen. Barbara Boxer, a Democrat from California, proposed funding to use the National Guard to provide school security in the wake of the Sandy Hook school shooting. The bill was not passed.

More recently, the National Guard filled teacher shortages in New Mexico’s K-12 schools during the quarantines and sickness of the pandemic. While the idea did not catch on nationally, teachers and school personnel in New Mexico generally reported positive experiences.

Can the National Guard address school discipline?

The National Guard’s mission includes responding to domestic emergencies. Members of the guard are part-time service members who maintain civilian lives. Some are students themselves in colleges and universities. Does this mission and training position the National Guard to respond to incidents of student misbehavior and school violence?

On the one hand, New Mexico’s pandemic experience shows the National Guard could be a stopgap to staffing shortages in unusual circumstances. Similarly, the guards’ eventual role in ensuring student safety during school desegregation in Arkansas demonstrates their potential to address exceptional cases in schools, such as racially motivated mob violence. And, of course, many schools have had military personnel teaching and mentoring through Junior ROTC programs for years.

Those seeking to bring the National Guard to Brockton High School have made similar arguments. They note that staffing shortages have contributed to behavior problems.

One school board member stated: “I know that the first thought that comes to mind when you hear ‘National Guard’ is uniform and arms, and that’s not the case. They’re people like us. They’re educated. They’re trained, and we just need their assistance right now. … We need more staff to support our staff and help the students learn (and) have a safe environment.”

Yet, there are reasons to question whether calls for the National Guard are the best way to address school misconduct and behavior. First, the National Guard is a temporary measure that does little to address the underlying causes of student misbehavior and school violence.

Research has shown that students benefit from effective teaching, meaningful and sustained relationships with school personnel and positive school environments. Such educative and supportive environments have been linked to safer schools. National Guard members are not trained as educators or counselors and, as a temporary measure, would not remain in the school to establish durable relationships with students.

What is more, a military presence – particularly if uniformed or armed – may make students feel less welcome at school or escalate situations.

Schools have already seen an increase in militarization. For example, school police departments have gone so far as to acquire grenade launchers and mine-resistant armored vehicles.

Research has found that school police make students more likely to be suspended and to be arrested. Similarly, while a National Guard presence may address misbehavior temporarily, their presence could similarly result in students experiencing punitive or exclusionary responses to behavior.

Students deserve a solution other than the guard

School violence and disruptions are serious problems that can harm students. Unfortunately, schools and educators have increasingly viewed student misbehavior as a problem to be dealt with through suspensions and police involvement.

A number of people – from the NAACP to the local mayor and other members of the school board – have criticized Brockton’s request for the National Guard. Governor Maura Healey has said she will not deploy the guard to the school.

However, the case of Brockton High School points to real needs. Educators there, like in other schools nationally, are facing a tough situation and perceive a lack of support and resources.

Many schools need more teachers and staff. Students need access to mentors and counselors. With these resources, schools can better ensure educators are able to do their jobs without military intervention.

F. Chris Curran has received funding from the US Department of Justice, the Bureau of Justice Assistance, and the American Civil Liberties Union for work on school safety and discipline.

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Rand Paul Teases Senate GOP Leader Run – Musk Says “I Would Support”

Rand Paul Teases Senate GOP Leader Run – Musk Says "I Would Support"

Republican Kentucky Senator Rand Paul on Friday hinted that he may jump…

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Rand Paul Teases Senate GOP Leader Run - Musk Says "I Would Support"

Republican Kentucky Senator Rand Paul on Friday hinted that he may jump into the race to become the next Senate GOP leader, and Elon Musk was quick to support the idea. Republicans must find a successor for periodically malfunctioning Mitch McConnell, who recently announced he'll step down in November, though intending to keep his Senate seat until his term ends in January 2027, when he'd be within weeks of turning 86. 

So far, the announced field consists of two quintessential establishment types: John Cornyn of Texas and John Thune of South Dakota. While John Barrasso's name had been thrown around as one of "The Three Johns" considered top contenders, the Wyoming senator on Tuesday said he'll instead seek the number two slot as party whip. 

Paul used X to tease his potential bid for the position which -- if the GOP takes back the upper chamber in November -- could graduate from Minority Leader to Majority Leader. He started by telling his 5.1 million followers he'd had lots of people asking him about his interest in running...

...then followed up with a poll in which he predictably annihilated Cornyn and Thune, taking a 96% share as of Friday night, with the other two below 2% each. 

Elon Musk was quick to back the idea of Paul as GOP leader, while daring Cornyn and Thune to follow Paul's lead by throwing their names out for consideration by the Twitter-verse X-verse. 

Paul has been a stalwart opponent of security-state mass surveillance, foreign interventionism -- to include shoveling billions of dollars into the proxy war in Ukraine -- and out-of-control spending in general. He demonstrated the latter passion on the Senate floor this week as he ridiculed the latest kick-the-can spending package:   

In February, Paul used Senate rules to force his colleagues into a grueling Super Bowl weekend of votes, as he worked to derail a $95 billion foreign aid bill. "I think we should stay here as long as it takes,” said Paul. “If it takes a week or a month, I’ll force them to stay here to discuss why they think the border of Ukraine is more important than the US border.”

Don't expect a Majority Leader Paul to ditch the filibuster -- he's been a hardy user of the legislative delay tactic. In 2013, he spoke for 13 hours to fight the nomination of John Brennan as CIA director. In 2015, he orated for 10-and-a-half-hours to oppose extension of the Patriot Act

Rand Paul amid his 10 1/2 hour filibuster in 2015

Among the general public, Paul is probably best known as Capitol Hill's chief tormentor of Dr. Anthony Fauci, who was director of the National Institute of Allergy and Infectious Disease during the Covid-19 pandemic. Paul says the evidence indicates the virus emerged from China's Wuhan Institute of Virology. He's accused Fauci and other members of the US government public health apparatus of evading questions about their funding of the Chinese lab's "gain of function" research, which takes natural viruses and morphs them into something more dangerous. Paul has pointedly said that Fauci committed perjury in congressional hearings and that he belongs in jail "without question."   

Musk is neither the only nor the first noteworthy figure to back Paul for party leader. Just hours after McConnell announced his upcoming step-down from leadership, independent 2024 presidential candidate Robert F. Kennedy, Jr voiced his support: 

In a testament to the extent to which the establishment recoils at the libertarian-minded Paul, mainstream media outlets -- which have been quick to report on other developments in the majority leader race -- pretended not to notice that Paul had signaled his interest in the job. More than 24 hours after Paul's test-the-waters tweet-fest began, not a single major outlet had brought it to the attention of their audience. 

That may be his strongest endorsement yet. 

Tyler Durden Sun, 03/10/2024 - 20:25

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