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The Newest S&L

Rather than save the old-fashioned way, more Americans depend on Wall Street to finance their retirements. Can government allow a bear market?

November 22, 1998|David Friedman | David Friedman, a contributing editor to Opinion, writes frequently on economics and development

News that Americans spent more in September than they saved for the first time since the 1930s is the most striking sign yet of U.S. society's unprecedented dependence on the stock market. During this decade, U.S. households and pension funds bet their futures on Wall Street as never before, transforming the U.S. economy and politics in troublesome ways.

The numbers are breathtaking. According to the Federal Reserve, U.S. household assets rose by $11 trillion from 1991-97. Direct and indirect stockholdings, such as mutual-fund shares or pensions invested in stocks, accounted for 60% of that growth. A remarkable 70% of financial-asset appreciation, by far the most important part of U.S. household wealth, came from stocks. Directly held corporate equities alone produced 25% of U.S. household wealth in the 1990s, compared with just 5% in the 1970s and 9% in the 1980s.

Private and government pensions, mutual funds and bank trusts also flooded into stocks. Since 1991, equities generated 80% of the $5.4 trillion growth in such retirement-oriented U.S. investments and now account for about 60% of their total assets, versus 40% in 1991. This decade, 86% of state- and local-government pension funds' $1-trillion asset growth came from stocks, compared with 20% in the 1970s and 35% in the 1980s.

Demographics and tax policies have driven these results. Aging baby boomers, suddenly aware they saved too little for their retirements, have turned to Wall Street for returns that no certificate of deposit or bond can match. Unlike most investments, the government doesn't tax stock appreciation until shares are actually sold, and even then at lower capital-gains rates. Liberal rules governing 401k, IRA and similar accounts further feed the stock frenzy.

Wall Street is America's savings and loan.

Fund-manager and stockbroker priorities have changed accordingly. Instead of finding and funding productive companies, their traditional roles, they are increasingly concerned with liquidity, so their biggest investors can buy and sell stocks with checking-account ease. A handful of blue-chip companies, with billions of outstanding, easily traded shares, are the preferred place to park money, a strategy that also guarantees high yields as long as funds keep coming. Today, 500 of 10,000 publicly traded companies account for more than 80% of the stock markets' $12-trillion value.

Liquidity and lower interest rates, which discourage alternative investments, are now far more important than such fundamentals as earnings or growth in determining a stock's price. When the market slumped late last summer, prompting three interest-rate cuts by the Fed, big companies ignored other uses for their cheaper capital and rushed to support their share prices with $25 billion in announced stock buybacks. Despite rapidly slowing national and worldwide economies, and little evidence of new productivity breakthroughs, the Dow Jones industrial average has posted a 1,500-point gain from its late-summer lows, with loss-leading Internet companies at the head of the pack.

Just as booming real-estate prices in earlier decades spawned far-reaching reactions like California's property-tax limits, the stock market's liquidity-driven logic is beginning to scramble U.S. politics. The 1980s were Ronald Reagan's decade because his antiregulation, entrepreneurial message resonated with a country eager to reignite a flagging economy and sweep aside stagnant companies and bureaucrats. The 1990s are Bill Clinton's because reinstitutionalizing society around multinational corporations under the watchful eye of the Treasury Department now appeals more to influential, stock-rich voters seeking to protect their windfalls.

The last election, in fact, was shaped by a new stock-empowered coalition of retirees, aging baby boomers and Wall Street. Federal Election Commission data show that the investment industry gave more money to Democrats than any other sector except trial lawyers--an astonishing $2 million more than industrial, public-service and transportation unions, and nearly double Hollywood's support. According to the nonpartisan Center for Responsive Politics, investment giant Goldman, Sachs & Co. was the only nonunion or special-interest group among the Democrats' top 20 funders in 1998. Not one securities firm was among the GOP's top 50 contributors.

Stock-rich voters also are changing grass-roots politics. Federal Reserve surveys show that while stocks are this decade's overwhelming engine of wealth accumulation, only about 40% of all American families directly or indirectly hold equities. Roughly 80% of the country's stock-related assets, moreover, are held by the 35% of American families whose incomes exceed $50,000 a year.

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