Busted: 6 Economic Myths

As I follow economic developments across the globe, I am always on the lookout for novel insights that buck conventional wisdom. And I continue to be astonished at how some of the leading minds across a wide range of fields not only buy into but feed the media's current agenda and spin on the issues of the day. The facts are only a mouse click away. But with everyone reading the same headlines, you need to actively look and dig deep to find something original. Here I've collected six myths and realities that challenge the current conventional spin on the state of the global economic landscape.

1. Myth: The collapse of subprime loans has destroyed more economic wealth more quickly than any other financial event in history. Nothing even comes close.

Reality: An even greater destruction of economic wealth has been occurring right under our noses. The economic value destroyed by the collapse of China's Shanghai Stock Exchange since October is more than 3x that of the write offs from subprime loans ($1.2 trillion versus $390 billion) and already exceeds the amounts of the most pessimistic of forecasts for the subprime debacle. And this is a lot more money for China than it is for the United States. Consider that more than two-thirds of China's $1.7 trillion reserves, or an amount equivalent to well over 40% of China's GDP, has all been wiped off Chinese corporate and household balance sheets in a little more than six months. That's the equivalent of $5.6 trillion (!) in the United States. Had the Dow Jones Industrial Average sold off as much as China since Oct. 19, it would be trading at 6,390, back where it traded in November of 1996.

2. Myth: The BRIC (Brazil, Russia, India, and China) countries stand on the verge of overtaking the old global powers of the United States, Japan and Europe in terms of global economic influence.

Reality: Although they boast impressive rates of growth, and have been a much better place to make money than the U.S. stock market, the BRIC countries are still economic minnows. If you look at them in real (and not in overly flattering purchasing parity power) terms, the BRIC countries are best compared with large U.S. states in terms of economic heft. China and its population of 1.3 billion generate as much economic wealth as do the 60 million inhabitants of California and Texas. India's economy is the size of Florida. Brazil's is the size of New York. And Russia is smaller than Ohio and Illinois combined.

3. Myth: Russia's kleptocracy and gangster politics have crippled Russia's economy, leaving it in tatters. Investors in Russia have suffered from the government's willy-nilly investment and expropriation policies. That's why Warren Buffett, Jim Rogers, and George Soros refuse to touch the place

Reality: Russia presents a conundrum for the Western good guys. Yes, it is a kleptocracy and a handful of Western investors and Russian companies have been shafted in a high profile way. But thanks largely to the soaring price of oil, the Russian economy has exploded, growing at 9.5% in Q4 of last year and 8.5% in Q1 of 2008. That means that it is nipping at the heels of India, and is hot on the trails of China in the economic growth sweepstakes. Among the BRICs, Russia has been by far the best investment during the past decade or so, with investors clocking 60x returns since the Russian market bottomed in October 1998. Russia is also one of the top markets in the world this year. And here's a factoid that warms the Russian heart: Moscow now boasts a larger number of billionaires than New York or London.

4. Myth: China and India dominate the foreign investment landscape of the United States. After all, everything from Starbucks to Apple is really a "China play."

Reality: Again, don't believe your magazine covers. U.S. investment in tiny Ireland, a single European country of 4.1 million people, dominates American investment in China. While U.S. foreign investment to China hit a record $6.3 billion in 2007, U.S. investment in Ireland, a gateway to Europe, was more than double that figure. Why? That's where the money is. American companies make three times as much profit from their investments in Ireland, than they do from all of their investments in China. What about India? For all the stories of Silicon Valley moving to Bangalore, U.S. corporations invested more last year in Austria (pop. 8.2 million) and Sweden (pop. 9 million).

5. Myth: Europe is an economic has-been, slow growing, unchanging, and backward.

Reality: On a per capita basis, economic growth in slow-growth Germany, the world's #1 exporter and third-largest economy, has matched that of the United States. Why the difference in headline figures? Germany's population is stagnating, while U.S. GDP growth figures are flattered by a growing population. Europe is also home to some of the leading global multinationals that are better bets on the rise of Asia than U.S. counterparts spoiled by a large domestic market. After a mere 10 years, the value of Euros in global circulation, a made up currency just 10 years old, exceeds that of U.S. dollars. Europe's historic mixture of condescension and envy toward the United States cannot mask some of its real demographic problems. And although Americans like to boast that the United States may be an easier place to start a business, in other areas the country has some serious catching up to do. Twenty years ago, travelers from JFK Airport in New York going to London used to joke: "I'm travelling to London. Set my clock back 200 years." Today, it's travelers from London to New York's JFK who often feel they've landed in a third world country.

6. Myth: Oil companies are unfairly exploiting U.S. consumers and deserve to be taxed for excessive "windfall profits."

Reality: With gas priced at more than $4 a gallon (and more than $12 in Europe), it's no wonder oil companies have become the political whipping boy of U.S. presidential politics. But looked at through the green-eyed shades of a financial analyst, oil companies aren't extraordinarily profitable, either in relative or in absolute terms. Oil and gas companies made $86.5 billion in profits last year. It is a lot of money, yes. But high-tech companies made $103.4 billion, the retail sector $137.5 billion, and the financial services industry took in $498.5 billion. Nor are oil companies unusually profitable, making about 8.3 cents in gross profit per dollar of sales. Electronics companies make 14.5 cents per dollar and computer equipment makers take in 13.7 cents per dollar. Bill Gates' Microsoft makes 27.5 cents per dollar of sales. And with 60% of U.S. oil imported, a good chunk of those profits from high oil and gas prices are going into the pockets of governments in the Middle East, Venezuela, and Russia and not back to Texas or Exxon shareholders.

Comments

[EKP]

I don't have the numbers to calculate it. But the reduction of wealth in the US should include market equity loss and housing price reduction for all households, not the 400 billion writeoff.

[westwest888]

I calculate that $12 trillion in US real estate and $10 trillion in US equities will be wiped out.

[EdEd]

On Myth 1: One factor that we should consider is paper loss vs real loss. On the stock market, I will guess a lot is paper loss. e.g. If I buy a stock at $1 12 months ago, it was $2 6 months ago, now it is back at $1. Yes there is an opportunately loss of $1. (too bad for the guy that brought at $2). But on the subprime, I will guess someone actually lend someone $2 and now he only getting $1 back.

[User 86999]

"And with 60% of U.S. oil imported, a good chunk of those profits from high oil and gas prices are going into the pockets of governments in the Middle East, Venezuela, and Russia and not back to Texas or Exxon shareholders."

Not true.

The profits do not go back to those countries and their governments. Whatever was charged by the exporting countries is already deducted as expenses before you get the profits. That's an accounting error. Are there accounting errors in other myths as well? I didn't have time to check, but someone might.

[gdp]

I did a check with wikipedia "Comparison between U.S. states and countries nominal GDP" which is based on IMF 2007 figures and found that the countries of the BRIC have larger (nominal) gdp than the states you mention.... since it was only a click away.