Bruce's Blog: Wiener Financial Management

News & Notes

Risks of Inflation

Many analysts state that we need to embrace the "new normal," predicting that the U.S. economy will grow at a rate of 2% for a while instead of its historical average of 3.6%.  With lackluster economic growth being a real possibility for several years, it may be surprising to hear that a big debate is going on regarding the prospect of higher inflation.  The concern over inflation arises from the dramatic increases in both the money supply and federal expenditures.  Ben Warwick of Quantitative Equity Strategies describes the situation as: "the Treasury keeps printing currency and the Fed keeps spending it in attempt to bolster the flagging economy." 

There are a number of reasons, however, to believe that high inflation is not imminent.  For one thing, according to Jerry Webman, chief economist at Oppenheimer Funds, the money being created is not being put to use - banks are not lending and consumers are not spending.  Money is sitting on the sidelines instead of creating economic activity.  Webman states that the rate at which money is flowing through the economy (velocity) is at a two-decade low.  Thus, the increased money supply is not pushing prices higher.

Another factor limiting potential inflation is the excess capacity of productivity and labor.  James Paulsen, Chief Investment Strategist at Wells Capital Management, notes that unemployment is around 10% and factory utilization rates are less than 68%.  This excess capacity can soak up a lot of economic growth before inflationary pressure occurs.  Ben Warwick opines that inflation will not exert itself until the economy turns around to its previous level of economic activity, but that we are a long way from that.  Prices are low because demand for goods and services is low.  Government spending has not picked up the slack.

On the other side, strategists at Morgan Stanley cite a number of reasons why increased inflation is likely in the coming decade.  They argue that an expansive global monetary policy (read: lots more money being pumped into the system) will inevitably cause inflation.  Productivity gains and increased globalization, which have limited inflation in past years, will slow down in the future and not act as a sufficient counter-balance. 

In the end, it is important to be vigilant.  But inflationary concerns still seem at least a couple of years away from being realized unless we see a rapid recovery in the economy.

News & Notes

The Importance of Beneficiary Designations

Once upon a time, William Kennedy married Liv Kennedy.  They divorced. In a divorce decree, Liv waived her rights to William's retirement plan benefits.  Liv eventually died. Yet, when William subsequently died, his retirement plan did not pass to his daughter per his will, but instead went to Liv's estate. 

The U.S. Supreme Court granted William's late, ex-wife's estate the loot for a simple reason -- William had signed a plan document stating that Liv (his wife at the time) was the beneficiary of his retirement account.  William never amended this beneficiary designation and it controlled the disposition of the money.  William's will and the divorce consent decree did not override it.

The moral of the story is straightforward:  Make sure your beneficiary designations are current and accurate.  This is true for all sorts of designations, including life insurance policies.  Please consult an attorney for advice regarding these matters.

There is a caveat, for the more legally inclined.  As Ed Slott, CPA and IRA expert, notes: "In footnote 10 of the case, the court did leave open the option that after the funds were distributed to the ex-spouse, there could be a case against her to recover the funds based on the divorce decree."  But for planning purposes, you do not want to rely on this to enforce your wishes.

See: Kennedy v. Plan Administrator for Dupont Savings and Investment Plan (2009).

Words of Wisdom

"Being of sound mind, I spent it all."  [A will being read by a lawyer to the decedent's family.]
-- Classic Cartoon

News & Notes

Lies, Damn Lies, and Statistics

At a presentation that I recently attended, a bright, successful hedge fund manager claimed there are two types of economies in the world today -- emerging markets (like China and India) and submerging markets (like the United States).  To bolster his claim, the manager noted how China and India are graduating significantly more engineers each year than the good, old USA.  This statement may be technically true, but it's terribly misleading.

It was widely reported that the United States had 70,000 engineering graduates in 2004 as compared to 600,000 and 350,000 for China and India, respectively.  This doesn't seem to bode well for the future of the home team.  But a subsequent study conducted by Duke University called into question the conclusions that should be drawn from these numbers.

For one thing, the per capita engineering graduation rate for the U.S. (750 per million) exceeds that of China (500 per million) and India (200 per million).

More importantly, the term "engineer" does not necessarily mean the same thing in all three countries.  The U.S. figure consists of graduates of a four year college.  The Chinese and Indian numbers include a large percentage of what would be called "technicians" at best -- including graduates of two- and three-year programs as well as vocational schools.

In a separate study, McKinsey Global Institute issued a report that questioned the competency of the vast majority of the so-called engineers in China as compared to their American counter-parts.  It appears that China is cranking out "engineers" in factory-like fashion.

The headline above refers to the 19th century British Prime Minister Benjamin Disraeli's description of three types of lies.  His observation remains true today.

Words of Wisdom

These are my principles.  If you don't like them, I have others.
-- Groucho Marx

News & Notes

The Paradox of Thrift or The Down Side of Saving

After extolling the virtues of saving (http://blog.wienerfinancial.com), it would be useful to point out why our government feels it necessary to deal with the detrimental aspects of thrift.

It is common wisdom that our current situation has arisen in no small part from our boundless spending with little thought to saving for the future.  Now that fear has struck, we are responding rationally by lowering our expenditures and shoring up our reserves.

The problem, however, is that "what is rational at the individual citizen or firm level, notably to increase savings ... becomes irrational at the community level," according to Paul McCulley, of PIMCO fame.

Why?  Because on the national level our aggregate consumption drives our income.  In other words, if people save more and buy less, then less is produced by businesses. In turn, lower production means less income paid to employees.  So if we all save at once, our incomes will decline.

McCulley points out that the federal government seeks to fill the gap by maintaining spending to keep up our level of income.  This solution has its  drawbacks -- increased federal debt and the risk of future inflation.  Yet the alternative, a depression mixed with deflation, was deemed to be far worse.  Deflation is particularly difficult to reverse once the downward cycle takes hold.

We all have differing views on the adequacy and reasonableness of the steps being taken to resolve the economic crisis.  We should not fail, however, to realize the complexity of the problems and the inter-relationship between the proposed solutions and their consequences.

Words of Wisdom

In recent decades running a business or a household with a conservative balance-sheet has been a bit like being the only person in an opium den not to inhale.
-- The Economist

News & Notes

Marshmallows and Financial Planning

Saving money can be a little like passing on a tantalizing piece of cake; you know you should, but...

In a challenging investment environment, it's important to remember that factors beyond stock market gyrations can impact financial success.  The ability to save money plays a vital role.  Unfortunately, saving can be hard.  Really hard.  A recent article in the New Yorker highlights the difficulties that we all struggle with in delaying immediate gratification.

Researchers at Stanford University conducted an experiment in the 1960s whereby they presented four year olds with a frustrating proposition.  A youngster was placed in front of a tray of marshmallows and told that she could either eat one now or receive two if she could wait a few minutes until the adult conducting the test returned after stepping out of the room.  Most of the kids could not wait -- they either ate the treat right away or succumbed to temptation after a couple of minutes.

Such a result is not surprising.  It's the follow-up study, however, that is more fascinating.  The researchers found that the young children who were able to hold out on eating the marshmallows tended to do better academically down the road.  As the professor running the study said:  "If you can deal with hot emotions, then you can study for the S.A.T. instead of watching television... And you can save money for retirement.  It's not just about marshmallows."

All is not lost.  We can develop coping skills to overcome the lure of the here-and-now.  In fact, the nursery school students able to hold off on a treat may offer a clue to success.  The young hold-outs did not become obsessed with the marshmallows -- the "hot stimulus;"  instead, they distracted themselves by covering their eyes, playing hide-and-seek under their desk, or singing songs.  They did not try to defeat their desire -- it was merely forgotten.

We will never defeat our desire to consume, nor should we.  But we can avoid the pressures of spending more than makes sense by establishing fixed methods of saving (the equivalent of taking our eyes off the marshmallows).  Hopefully a judicious pattern of spending and saving will provide for more treats in the future.

Words of Wisdom

Saving is a very fine thing, especially when your parents have done it for you.
-- Winston Churchill