Notes on the Revolution/Notes on Mexico Jude Wanniski & David Gitlitz January 5, 1995

NOTES ON THE REVOLUTION

GINGRICH: The leader of the revolution has frightened almost everyone in the country who did not vote Republican in November -- and a majority of those who did. To most of us who know him reasonably well, he is doing just fine, a serious agent of change who knows how to achieve revolutionary goals. The errors he has made are inconsequential when set against the enormity of his success. To those who don’t know him, especially women and small children, he seems a towering, angry landlord who will clear them away for non-payment of rent to make room for paying customers. In reality, Newt has put on the visage of the stern father who lays down the law, knowing how easy it would be for his children to take advantage of him if they realized what a softy he is at heart. At that heart, Newt is a democrat, as scary as Jefferson, Hamilton, Madison or Jay. Those who see him up close -- including the handful of freshmen Democrats -- observe that he is gentle and wise, demanding of them only an intellectual honesty to themselves and the people they have come to represent. His “Contract With America” of the first hundred days of the 104th Congress is meant more as a thunderclap than as a storm, to alert the populace that great and wonderful changes are coming -- the greatest beneficiaries of which will be women and small children. Any one of you who watched his opening speech to the House yesterday must realize we have in Newt a man for all seasons. 

THE 100-DAY CHANGES: The most important thing about the “Contract” is that it will begin to re-establish the electorate’s confidence in the U.S. Congress as an honest body of citizen representatives. In the last generation, the Ruling Class -- both Democrats and Republicans -- came to view the electorate as a barrier to overcome, through deception and guile. Democracy will not work if the system that transmits political wisdom from the broad electorate to its representatives is twisted out of shape by an entrenched elite that has the power to change the rules of the game in order to remain entrenched. Gingrich and House Majority Leader Dick Armey are primarily political philosophers who know their greatest strength in being able to carry out a revolution of renewal is their confidence in the wisdom of the ordinary people. Their primary strategy is to open up and clean out the clogged channels of communication between the mass of Americans and the government in Washington. Gingrich and Armey are amassing great power by distributing power that had been bottled up by the corrupt elite and kept for itself. Don’t be misled by the sideshows involving Newt’s book deal or assertions from the disorganized Democrats that the GOP will soon be punished for inflicting pain on the population. Ordinary people love nothing more than democracy, their only bulwark against the power of economic and social elites. The Republican revolutionaries are handing it out like candy.

FINANCIAL MARKETS: The economic forecasters are all stepping forward at the first of the year to prognosticate on whither the Dow, wherefore the bond market. Even the most bullish see only incremental advances, a DJIA of 4400, a long bond of 7.5, which does not make sense to those of us who are observing revolutionary change in Washington. If the Congress manages at least the objective on capital gains set forth in the contract -- prospective indexation and a 50% exclusion, we would be surprised if the DJIA remained below 5000, with NASDAQ making even fancier percentage gains. The prospect of success should have beneficial effects on both stocks and bonds even now, as the Republicans have made it clear the effective date of legislation passed later this year will be January 1. The reduced risk to capital plays into Fed Chairman Alan Greenspan’s hands, because it shows up as an increased demand for dollar assets. The decline in gold to $375 and the rise of the dollar versus the yen suggests increased confidence that Greenspan will be able to finesse another increase in fed funds at the end of the month. It is of course to the great advantage of the GOP in both House and Senate to have the financial markets responding warmly to the unfolding reforms. At some point, as the markets become more confident that an indexed capgains can be capitalized, the stock market and bond market should be advancing in tandem, gold falling toward the $350 level we assume Greenspan would like to see as both ceiling and floor. In this scenario, we cannot imagine a long bond above 7 or a DJIA below 5000.

GOLD: You are not reading about the coming of a gold standard in the papers, but this is part of the revolution behind the scenes. The Republican control of Congress means it is now possible to discuss this issue behind the scenes, while it was impossible in the previous Congress. I have reported previously that Sen. Robert Bennett of Utah has committed himself to develop the issue from his key positions on Senate Banking and Appropriations and membership on the Joint Economic Committee. The rationale being circulated by Bennett to his colleagues is that a gold guarantee to the dollar would lower long-term interest rates by at least four percentage points, resulting in a saving on debt service of at least $125 billion per year or $1 trillion in seven years, with compounding. This is not “dynamic analysis,” but simple arithmetic. With dynamic analysis, the efficiencies to capital resulting from a gold dollar would produce a positive swing closer to $2 trillion. As the Senate and House budget committees observe the balanced budget constitutional amendment move forward in the first hundred days of the Contract, Bennett tells us he is getting respectful attention from his colleagues. It is also important to remind you that House Speaker Newt Gingrich, Senate Majority Whip Trent Lott, and Sen. Connie Mack, now chairman of the Joint Economic Committee, are the three closest allies in Congress of Jack Kemp, the chief advocate of a dollar-gold link. These “Four Amigos,” as they call themselves, will be having a broad-scale strategy dinner on January 12 that will include a discussion of gold. My guess is that we will not see a gold link until 1997, but the intervening discussion will have a positive effect on the Fed’s management of monetary policy. A straw in the wind: The Los Angeles Times on December 18 editorialized on the need to at least consider a gold standard as a means of protecting the global exchange system from “wild currency swings, risky hedging and ruthless speculators.” 

KEMP: The New York Times reported Wednesday that Jack Kemp will probably not run for President in 1996, that he enjoys private life too much. The dope story, written by Richard Berke, relied on unnamed “friends” of Kemp, widely assumed to be Ed Rollins, who was Kemp’s campaign chairman in 1988. The story may turn out to be correct, but Kemp, skiing with his family in Vail, has not made a decision, and will not until February. Conventional wisdom holds that in order to seek the GOP nomination, $20 million must be raised in the next 12 months, and that Kemp has not made any preparations for this herculean task. It is assumed that only Bob Dole, Phil Gramm and Lamar Alexander are equipped to raise this kind of money. My optimistic guess is that Kemp will run, but in an unconventional way, which will require the raising of only a fraction of the specified amount of money. I’ve spoken to him several times in the last two weeks, mostly about Mexico, which we have been anguishing over. I’ve told him I believe it is imperative that he runs, whether or not he wins, as there is no other political leader in the nation who understands the mechanisms of the world political economy better than he -- and the history of the world would be significantly poorer if he does not share his energy and vision with the electorate and the other candidates. If Kemp does run, I think he will be on the ticket, either at the top or as Dole’s running mate. 

Jude Wanniski

NOTES ON MEXICO

Publication of today’s Wall Street Journal op-ed by Mexico’s current Finance Minister Guillermo Ortiz denotes another sad turn in the incredible unraveling of the Mexican political economy since the inauguration of Ernesto Zedillo last month. It is, from start to finish, a mind-numbing recital of the classic devaluationist pretense, which Ortiz learned as Mexico’s representative to the IMF for four years early in the Salinas administration. Of course, this near-40% devaluation is a “necessary” corrective to a problem that doesn’t exist. As Jack Kemp noted in a statement issued yesterday through Empower America on the Mexican situation: “Zedillo is asking the people of Mexico to accept a permanent loss of earning and savings . . . to deal with a temporary trade imbalance. That trade imbalance was caused by an inflow of capital to Mexico -- a sign of vigor in the Mexican economy. President Zedillo proposes to deal with that by making the Mexican people too poor to afford foreign goods.” That the Mexican financial markets this week have choked on the Zedillo-Ortiz “solution” to a crisis of their own making (the devaluation) should come as no surprise to the clients of our Global 2000 Emerging Markets Research. As we noted last Friday when the outlines of the emergency plan became clear (“Fresh Ideas Lacking in Mexico City,” December 30, 1994), the program amounts to “a testament to the ludicrous notion that the way to mitigate the impact of a devaluation is to drive the economy into a ditch.” Global 2000 subscribers are also being kept abreast of the risks of competitive devaluation spreading through the other emerging markets of Latin America (“Heightened Risk in Latin American Markets,” December 23, 1994). This morning’s New York Times article suggesting that Brazil may be courting trouble because its imports have been on the rise since the second half of last year increases that risk. The implication is that somehow Brazil was better off before it tamed its hyperinflation because it was reliably running a trade surplus! This incipient devaluationist mind set is rapidly becoming a major threat to the stability of the global political economy. 

David Gitlitz