A Weekly Dose of Hazlitt: More Inflation Ahead?

More Inflation Ahead?” is the title of Henry Hazlitt’s Newsweek column from August 18, 1958. Inflation, a booming stock market despite falling profits, sky high price to earnings ratios, large budget deficits: the present may not be an exact repeat of the past but it is eerily similar.

The signs are becoming unmistakable that the recent
rise in the stock market is more a reflection of the belief
in further inflation (i.e., in a further shrinkage in the
dollar) than a reflection of business recovery.

Certainly stock prices are not reflecting current
earnings reports. The First National City Bank of New
York reports that net profits after taxes of 809 corporations
in the first half of this year were 30 percent under
those for the corresponding period last year. The automobile
industry suffered a 56 percent drop in profits;
the railroads, a 61 percent drop.

No one would suspect anything about this by looking
at the recent stock market. The Dow-Jones industrial
average went up from 420 on Oct. 22 last year to
513 on Aug. 8. This has created some surprising relationships
between prices of stocks and the earnings
and dividends of the companies. Barron’s, the financial
weekly, has pointed out that the stocks in the Dow-
Jones industrial average, as of Aug. 1, were selling at a
rate of about 17.3 [times] net earnings. This is higher
than any “earnings multiplier” rate in the entire 1949–
57 upswing. And The New York Times has called attention
to some extraordinary examples, such as Universal
Cyclops Steel selling at 100 times its current annual
earnings rate and Crucible Steel at 110 times.

Stock vs. Bond Yields

No less significant is the relationship recently established
between the dividend yield of stocks and the
interest yield of bonds. Normally the yield on common
stocks, because of higher risk and uncertainty, is substantially
above the yield on high-grade bonds. But as
of July 30 the yield on Standard & Poor’s index of 500
common stocks was 3.87 percent, or only .13 percentage
point above the 3.742 percent yield on its Al+ bond
average. This is the closest the two yields have come
together since July 1957, when for a short time stocks
were actually yielding less than Al+ bonds. It was the
first time this had happened in more than twenty years.

This situation is usually thought to be paradoxical.
In fact, the near-approach of the yields on common
shares and bonds is often followed either by a fall
in the price of common shares or a rise in the price of
bonds. But there is one situation in which the convergence
or crossing of stock yields and bond yields is a
logical response. This is when investors and speculators
believe that still further monetary inflation is threatened. In
that case stocks are valued abnormally high in relation
to current earnings or dividends. Bonds, on the other
hand, are valued abnormally low, because the purchasing
power of the principal is expected to decline, and
lenders insist on a higher interest rate as an “insurance
premium” against this.

Ever-Mounting Debt

If there is a fear of further depreciation of the dollar,
the blame rests squarely in Washington. Congress and
the Administration, between them, are responsible for
the prospect of a $12 billion deficit in the current fiscal
year. Even if we admit that the Federal Reserve authorities
either can or should try to “stabilize the economy,”
they made an extravagant overresponse to a mild recession,
slashing the rediscount rate from 3. to 1. percent,
reducing required reserves of member banks, and
engaging in massive support-buying of government
securities. Whatever the immediate effects may be of
the restoration of stock-margin requirements from 50
percent to 70 percent, it is unsound and ultimately futile
to encourage a general inflationary flood and then try to
dam off its effects in one or two directions.

And now the Treasury wants a further $8 billion
boost in the national-debt ceiling to $288 billion. It
is time to ask some blunt questions of Congress and
the Administration. Do you ever expect the debt to be
paid off? Do you ever intend even to reduce it? If so, at
what rate? Under what conditions? Are the conditions
likely to be realized? Do you intend to pay off either
principal or interest in dollars of even present (48 cent)
purchasing power, or do you mean to keep short-changing
the government’s creditors by further depreciation?

President Eisenhower has expressed great concern
which, however, must still be translated into policy.

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