Holiday Notes and Comments Jude Wanniski December 20, 2002

TRENT LOTT: It finally became clear to Lott yesterday that President Bush wanted him to quit and that he could not rally the support of his colleagues against that kind of pressure. I’m sorry to see him axed, especially for telling an old joke on himself and Strom Thurmond. His error, though, was in apologizing in the first place instead of insisting it was a joke. There may at first be no noticeable difference with his replacement by Sen. Bill Frist of Tennessee, the hand-picked choice of the White House. Lott had no “enemies,” per se, but since he became Leader in 1996 he had to play heavy-duty politics in an evenly-divided Senate and all the factions that make up the Republican Party were always grumbling he gave up too much in his negotiations with the Democrats. Frist will have to do the same and the same factions will find themselves grumbling anew. At the end of the day, the President will be his own Senate Majority Leader with Frist doing his bidding and that of Karl Rove, who is always at the President’s elbow helping him strike balances.

IRAQ & UN: The only thing that surprised me about the Bush administration reaction to the UN report assessment of Iraq’s 12,000-page declaration was its ferocity. A denunciation was to be expected on the declaration’s failure to offer anything new, although Baghdad is almost surely correct that the 600 pages in Arabic have not yet been translated and analyzed for new material in the few days since the U.S. was given the report by the inspectors. Because the administration can’t pull the war trigger until it finds a smoking gun, given its agreement to first consult with Congress and the UN Security Council, the hawks are almost certain to be thwarted. The “gaps” cited in the Iraqi declaration all involve materials that are either obsolete conventional weapons, like mustard gas canisters that have become useless over time, or “precursors” to Weapons of Mass Destruction. If you are going to make rabbit stew, the potatoes and carrots are the precursors. Without a rabbit – in the case of a nuke, the fissile material – there is no rabbit stew. The administration hawks want the war to start over an onion or potato and are still furious at Secretary of State Colin Powell for setting things up so that can’t happen. The lead editorial in the ultra-hawkish New York Post today complains about the “Slow Road to War,” says Powell’s tough talk is “more snake oil,” and concludes: “What a catastrophe for American prestige around the globe if the trap is not sprung.”

WALL STREET: The stock market has been helpful in signaling it definitely prefers the “trap”not be sprung. Financial commentary ignored the connections in August through October as the bears gobbled 1800 points with increased talk of unilateral U.S. action and then gave it back as Colin Powell worked his diplomatic magic. Now the financial press is noting the correlations practically  minute-by-minute, especially the slide over the last few weeks leading up to the UN event yesterday. The dollar/gold price has been in perfect harmony as well. My guess is that foreign buying and selling of U.S. equities and gold is exaggerating the swings, less able to fathom the delicate political maneuvers emanating from the White House. We still see “experts” on Wall Street noting that when the Gulf War began the stock market boomed, but they fail to recall that the world was practically unanimous in support of the UN action at the time – and that in the last days before the troops went in Saddam Hussein was already waving a white flag. A unilateral U.S. strike without the support of the UN and Arab League would have dire implications for global commerce, as the threat of vigilante terrorism against the U.S. economy would soar – if Baghdad is bombed and there is massive loss of civilian lives. We’d have to hope for a last-minute white flag from Saddam, which is what Secretary of State Donald Rumsfeld is already suggesting.

GREENSPAN AND THE FED: We are happy to note the continuing discussion at the Fed about the possibility of shifting gears away from the fed funds target to one that aims at price stability. In his speech last night to the New York Economic Club, Chairman Alan Greenspan was more aggressive than we have seen in years, willing to discuss not only "the concept" of monetary deflation, but also to raise the issue of gold. This was a discussion that had been absent since the first whispers of deflation began in 1996 as the dollar/gold price began its fall from $385. I urged Greenspan back then that as gold fell, he should begin preparing the political and financial markets for the idea of shifting the funds target to gold when it hit $350. Gold did not stop falling until it hit $250 last year, finally creeping back up as bad news on several fronts dried up demand for liquidity. When gold hit $348 yesterday, Greenspan could easily say that deflation is not now a problem, and I’m sure he has our old discussions in mind when he did so in NYC last night. He may not be as sure as we are that unless the dollar is stabilized when it hits $350, it may keep right on going up as the leading edge of a new inflation. This would happen either because the Middle East remains a source of uncertainty or because governments at all levels are forced to raise taxes. Fixing the dollar/gold price at $350 by itself would dramatically reduce the risks of doing business and increase demand for dollar liquidity. The new Fed Governor, Ben Bernanke, got the ball rolling on this issue early last month when he made the point that the Fed could be more aggressive in adding liquidity to move the economy along. We’ve been engaged in a promising discussion with Bernanke, who before his Fed appointment professed economics at Princeton.

NORTH KOREA: There is just about as much misinformation on the ruckus in North Korea over its decision to withdraw from the Nuclear Non-Proliferation Treaty as there has been on Iraq. The fact is, the United States made a deal with Pyongyang in 1994 – via the diplomacy of Jimmy Carter and the concurrence of President Clinton and then Senate Minority Leader Bob Dole – to stop producing and recovering weapons-useable plutonium in their one nuke power plant and two others they were building. Instead, we would help them build two free 1000-megawatt nuclear power plants and get them all the free fuel oil they needed while waiting for the new plants that would be subject to inspections by the IAEA-NPT regime to make sure fissile material would not be diverted to a nuke program. The plants were going to be paid for by China, Japan and South Korea and have been under construction. But it is a cold winter and Kim Jong-il is mad that there is no power and the fuel oil has been cut off and his people are freezing. It is not unusual for the U.S. government to welsh on deals like this. It did so a decade ago when it sold a flock of F-16s to Pakistan, banked the money, and decided not to ship the planes. North Korea is of course a much more immediate threat to the peace of the world than is Iraq, but in as much as the Pentagon already has an American legion in South Korea and wants one permanently stationed in Iraq, the Pyongyang threat is brushed aside by the Pentagon. The net effect of this mess is to have South Korea’s President-elect announce that Seoul has decided to distance itself from Uncle Sam and get closer to Pyongyang. Okay.

DOUBLE-TAXING: In case you missed it, the administration has decided to abort plans in the new Congress to end the double-taxing of dividends across-the-board. Instead it will ask that an individual taxpayer be able to get $500 or $1000 in dividends tax-free. The cost would be much lower on static analysis, given the fact there are so few dividend payouts since this practice ended a few decades ago. The measure would, though, have supply-side growth effects. It could be the New Year will bring gradual changes like this to the Bush administration, which we of course would welcome.