MARKET PERSPECTIVE

By J Mulraj

May 2-8, 2021

A worrying disregard for free markets

Ayn Rand’s book “Atlas Shrugged”, published in 1957, is about depicts a dystopian United States in which private businesses suffer under increasingly burdensome laws and regulations. Five decades later, we see this happening in Biden’s America. USA is in great danger of losing its advantages, and the competitive edges it has which has made it an economic super power.

Atlas is the Greek God who held the heavens on his shoulders, and  the consequences to it, if he shrugged, would be terrible. Right now, though, it looks as if he will shudder, not merely shrug.

What are the advantages the US has?

Once a large importer of crude in the world, it used the technology of fracking of shale rock to become energy independent. And, with it, it obtained geopolitical leverage, as it was not dependent on OPEC for its energy requirement. One of the first acts of Biden was to pass an Executive order (which does not go to Congress for approval) to stop leases on Federal lands for fracking. He also stopped the Keystone pipeline, meant to carry Canadian crude via pipeline to USA. Retail price of gas in USA has risen, as a consequence, from under $ 2.40 / gallon to $ 2.98 now.

The US has inadequate public transport and people rely on private transport (cars) to commute. Retail gas prices form a good part of their monthly budget. On top of that, a lot of automakers have stopped production of automobiles due to a shortage of computer chips. This would impact GDP growth (auto industry contributes 3% of US GDP) and jobs (it provides the largest number of manufacturing jobs).

The purpose of the ban on fracking leases is to encourage a move towards renewable energy, to help in climate change efforts. This is laudable. However, as Texas discovered last winter, when its renewable-energy-dependent system failed, due to extreme weather, there are perils. No state can fully depend on renewable energy; there must be an element of fossil fuel dependency simply because it is reliable. Texans had to suffer without electricity and heating in a bitter winter.

In terms of geopolitical strategy, the decisions to discourage shale fracking also has implications. Energy independence helped craft peace deals between Israel and nations such as  UAE, Sudan, Bahrain and Morocco.

One of the biggest advantages USA has is the eco system that encourages innovation, with a vibrant, privately owned, venture capital industry that funds it. This industry supports new ideas with funding, prepared for a 90% failure rate, because the 1 out of 10 idea that succeeds, will pay for the 9 failures. The industry does not frown on failure, if the attempt has been honest, and is willing to fund the entrepreneur again. This ecosystem has led to some amazing innovation.

What is happening under Biden is that a lot of money has been printed to help fund various relief package programmes, such as the American Rescue Package for Covid relief, a bill to reinvigorate infrastructure, and another to provide cheques to unemployed Americans.  A total of $ 6 trillion. All these have driven up US Government debt to $ 27 trillion.

According to well known fund manager Jeffrey Gundlach, the unfunded liabilites are $ 163 trillion or 6 times the official debt.  Unfunded liabilities include commitments by pension funds, as well as social security. In order to even try to service this debt, tax revenues should increase.

In an attempt to garner additional tax revenue, Biden has proposed hiking corporate tax rates from 21 to 28% (Trump had brought it down from 35% to 21%), and hiking capital gains taxes to 39.6% or higher (some states charge the state capital gains tax, so in California the combined rate goes up to 56.7%). Companies like Oracle, Palantir and HP have already shifted out of California to other states, primarily  because California state taxes were too high.

Now comes the increase in capital gains tax. Let’s say that a venture cap firm gets an exit from one of its investments, and has a huge capital gain. It would now need to pay between 39.6 and 56.7% tax on that, leaving it with less money for future investment in innovative ideas. In essence, the money spent on innovation will move from private hands to bureaucratic hands.

Now high state taxes prodded some large companies to shift from California to other states. Cathie Wood, the founder CEO/CIO of Ark Invest, an investment management firm, says, in this video that she fears that the new cap gains tax may encourage innovators to move to other countries. And VC investors will move with them, as capital is fungible. This means that US will lose, to other countries, the biggest edge it has, viz. innovation.

Some innovation requires huge funding, and takes a long time to monetize. Consider Alphafold, an AI programme, part of Google’s DeepMind, which performs predictions of protein structures. This innovation can transform medicine in a major way. This may not be impacted because of Google parentage and deep pockets, but others will.

Or take manufacturing, which had been attracted by energy independence, a reduction in corporate tax rates, and a belligerent China, to expand in America. These advantages have been dissipated, and minimum labour rates have been increased. There is a strange situation now. On the one hand there is unemployment, but simultaneously, there is a shortage in some industries. One of the reasons is that people are being paid more, via welfare cheques, to not work, than what they would have earned, working! They are making a rational choice not to work!

In India, too, the narrative of Adar Poonawalla, whose company, Serum Institute, is the world’s largest maker of vaccines, that he was subtly threatened to supply vaccines (he could not, being contractually obligated and being constrained by capacity), and had, as a result, to leave India, is alarming and needs to be fully investigated. This is the diametric opposite of Ease of Doing Business and can set India back a long time. At a time when the country is desperately short of Covid vaccines, it is beyond insane to threaten the largest producer of it.

Ayn Rand said “Money is the barometer of a society’s virtue. But when you see that in order to produce it, you need permission from those who produce nothing… you will know that your society is doomed”.

All countries are showing a disdain for, and disbelief in, the forces of a free market, where efficiency drives out incompetence. Governments have interfered in far too many aspects. The mistaken belief that all ills can be cured by simply printing more money, is erroneous and will have serious consequences. Zero, or even negative, interest rates are an abomination and negate all free market corrective actions, keeping alive zombie businesses that deserve to die.

The sensex was flat last week, gaining 424 points to end at 49,206.

But if the erosion in a free enterprise philosophy continues, as it is, it will only be time till a weary Atlas shudders.

Pix source: https://medium.com/@muiruriwangari/what-if-atlas-shrugged-e5e7e9e02c0c