Authored by Chrstopher Caldwell, originally posted at The FT,
Why are citizens of the developed world looking a gift horse in the mouth? The Dow Jones Industrial Average rallied beyond 14,300 points this week, passing the highs it reached in 2007 just as the world economy was starting to wobble. Sure, there are reasons to be sceptical about the Dow. It is weighted, rather arbitrarily, by share price. But at least it is a quantifiable index of something. We look at 1954 – the year the Dow returned to its 1928 pre-depression high – as marking an epoch. And yet, this week, investors and pundits warned us not to read too much into it.
They have a point. In the half-decade since the western financial system almost collapsed, the relationship between stock markets and the “real” economy has seemed more tenuous. The Dow owes some of its robustness to expectations of a strong Friday employment report.
Then again, European stocks rose to a four-year high following a rise in unemployment to 11.9 per cent. Other solid-looking economic correlations are melting into air. The US property market rebounded in 2012, according to the Case-Shiller index, but the Yale economist who devised it, Robert Shiller, warned in January: “Any short-run increase in inflation-adjusted home prices has been virtually worthless as an indicator of where home prices will be going over the next five or more years.”
Part of the reason people get less giddy about the Dow than they did five years ago is because they have learnt a bit about inequality. They suspect, more than they used to, that significant developments in the economy go on over their heads. What looks like a recovery, a rally or an increase in consumer confidence may just be the effect of elites passing money among themselves.
Most western leaders hold power today because they weren’t in power during the bleakest days of September 2008. (Germany is the important exception.) They claimed a mandate for radical action, but the economy stumped them. So they have been radical on non-economic matters instead: Barack Obama with healthcare reform, David Cameron with gay marriage and Ireland’s Enda Kenny with abortion. If you were to examine their rhetoric of a few years ago, you might suspect these initiatives were hocus-pocus. Their economic policies don’t differ much from those of their predecessors.
The West’s leaders are vulnerable to the accusation that the policies they lay out on behalf of society as a whole are benefiting only a small group. Joseph Stiglitz, the Nobel Prize winning economist, accuses the Obama administration of trying to rebuild the economy from the top down, not the bottom up. The Occupy movement and the Spanish indignados filled squares with young people eager to make a similar point. Last summer the leftwing Syriza movement won a quarter of the seats in the Greek parliament. In effect, party leader Alexis Tsipras asked Greeks not to take seriously the warnings that Greece would be cut off from the European financial system if it rejected austerity, arguing that they were cut off from the fruits of the system anyway. The strong performance of Beppe Grillo in Italy’s elections is a sign other countries’ voters are willing to call the system’s bluff.
Remedying inequality is harder than it looks. Unless you want to govern like a communist, you must work with existing institutions and social customs. That means you can wind up making society less equal. In the US, the first-time homebuyer tax credit, broached by George W. Bush and continued by Mr Obama, lured more people into the housing market. Those who bought in poor states – where property was hard-hit – generally fared badly, sometimes seeing their house values fall by more than the value of the credit. People who bought in wealthier markets got their good investments subsidised.
Similarly, in the latest issue of Foreign Affairs magazine, the intellectual historian of capitalism Jerry Muller argues that the age-old Washington remedy for inequality – “investing” in education – may actually exacerbate inequality. Prof Muller quotes the late political scientist Edward Banfield in The Unheavenly City Revisited: “All education favours the middle and upper-class child, because to be middle or upper class is to have qualities that make one particularly educable.” Education is a good that benefits the already well-positioned, rather as stimulus tends to benefit the cronies of those in government.
A sense that some, but not all, are benefiting from the stock market’s rise is what has muted the response to this week’s news. The US Federal Reserve has added more than $2tn to its balance sheet since 2007. In general, that tide of liquidity ought to lift all boats in the harbour. But when the harbour is an equity market, you won’t find your yacht lifted unless you own one.