w w w . t i c o n l i n e . c o m

INFLATION, BUFFETT-STYLE

According to Robert Hagstrom (author of The Warren Buffett Way), Buffett believes that if America becomes overly prosperous it inevitably becomes a net global consumer. Once Americans exhaust over 100% of American production (as they did in the 80s), they will begin to seek foreign products to devour.

"Erich Heinemann, an economist at Heinemann Economic Research, told CNNfn the deficit is largely due to the fact that U.S. consumer spending is high." - July 1998, CNNfn

"Buffett maintains that inflation is a political, not economic, phenomenon. Because there is, as yet, no permanent restraint on government spending, the constant printing of money will push inflation higher."
- Robert Hagstrom, The Warren Buffett Way

To pay for these goods the government issues various 'claim checks', an 'IOU' of sorts. According to Hagstrom, these claim checks usually take the form of government and corporate bonds. Due to America's reputation as an economic powerhouse, foreigners have no problem accepting this kind of payment. This may be a mistake according to Buffett. Once Americans begin to consume more than it's foreign trade partners, a trade deficit develops.

As a result of today's booming economy, the American trade deficit has been quietly building up. In fact, the trade deficit exploded to almost $20 billion in March.

Trade Gap Jumps to $12.1B in Feb. 1998 - CNNfn

Trade Gap Widens to $13B in Mar. 1998 - CNNfn

Trade Gap Hits New High of $15.7B in May 1998 - CNNfn

U.S. Trade Deficit Sets Record in March 1999

Trade Deficit hits $25 Billion in June 1999

"Because we are a wealthy country, this trade deficit can go unnoticed for some time, but eventually these claim checks will be exchanged for our assets."
- Robert Hagstrom, The Warren Buffett Way

What will happen next? Well, remember those 'claim checks' that the government issued to foreigners? Buffett and the government both know that they will be redeemed sometime in the future for American assets. American land, equity in American companies, everything will be up for grabs.

As foreign claims increase, the government starts to get spooked and will attempt to devalue claims by killing the buying power of the American dollar by inflating. Fortunately this hasn't happened yet, but it's only a matter of time now.

With Asian markets in turmoil, the flood of foreign capital will probably be coming in at rates faster than normal, as foreigners, distrusting local markets, rush into more 'secure' American and Canadian investments. Indeed, on Moneyline at 11:30pm EST on July 16, 1998 it was reported that foreign investment into American assets was one of the largest factors in hoisting the market to it's highest levels in years.

It has been widely reported that the average P/E of a company on the S&P500 hovers around the 28 mark. This means that if an investor was to purchase an entire company on the S&P500 it would take, on average, 28 years before that investor would get the investment back from earnings. Could businesses be worth that much?

Cheers,
Jim Chuong