Larry Summers Suggests Buying Stocks

Lawrence Summers, Director of the U.S. National Economic Council, spoke at the Brookings Institution on March 13. In his remarks he pointed out that, after adjusting for inflation, the Dow Jones Industrial Average this past week dipped to the same level it was in 1966. "While there could be many ways to question this calculation, that the market would be at essentially the same real level as it was in 1966 when there were no PCs, no Internet, no flexible manufacturing, no software industry, and when our workforce was half and our net capital stock was a third of what it is today, may be regarded by some as the sale of the century."

I'm glad Professor Summers qualified this calculation. Economists generally believe that, at least in the long run and on average, the prices of financial assets (like stocks) depend on the net present value of expected future profits. (I'm oversimplifying, but only slightly.) The past is the past: PCs, the Internet, software, etc. are all reasons why investors in, say, the early 1970s could be bullish about future earnings growth and, thus, stocks. They are not reasons now.

So what events and innovations will generate future earnings growth in the U.S. economy? It's something I worry about practically every day at work, to make sure we're focused on real, sustainable growth. From our perspective that includes gaining marketshare, as long as it is profitable. Unfortunately too many actors in the U.S. economy focused on financial gimmicks to generate false bubble "growth," and we now better understand that true growth was limited.

Out of curiosity I looked at the composition of the Dow Jones Industrial Average in 1966. Here were the 30 listed companies at that time: Allied Chemical (now part of Honeywell), Aluminum Company of America (now Alcoa), American Can (now part of Rio Tinto Alcan), AT&T, American Tobacco (divided and now owned by other tobacco companies), Anaconda Copper (now only a Superfund environmental liability for BP), Bethlehem Steel (now part of Arcelor Mittal), Chrysler (now owned by Cerberus Capital Management), Du Pont, Eastman Kodak, GE, General Foods (now part of Kraft), General Motors, Goodyear, International Harvester (now Navistar), International Nickel (now Vale Inco), International Paper, Johns-Manville (now part of Berkshire Hathaway), Owens-Illinois Glass, Procter & Gamble, Sears Roebuck, Standard Oil of California (now Chevron), Standard Oil of New Jersey (now ExxonMobil), Swift & Company (now part of JBS S.A.), Texaco (now part of Chevron), Union Carbide (now part of Dow Chemical), United Aircraft (now United Technologies), U.S. Steel, Westinghouse Electric (now split up, with broadcasting as part of CBS), and Woolworth (now Foot Locker). Notice something interesting? There's not a single financial services company on the list. It really was an "industrial" average. With the exception of Sears and Woolworth (and possibly AT&T), every company on the list made something physical. In later years the Dow would add American Express (1982), J.P. Morgan (1991), Travelers (1997, which later became part of Citigroup), AIG (2004), and Bank of America (2008).