A while ago, I was so impressed with a post in Slate's Fray that I made a copy. I'm reposting it now; enjoy. This is by John Nowicki, and was posted on March 1, 2001, back when we had a surplus to invest. This guy needs a blog, or better, a position as a Democratic strategist.
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While I agree with 90% of what you've said here, I do have to call you on the stock market point. As a stereotype social Liberal/fiscal Conservative (I support affirmative action and NAFTA), the continued acceptance by the "New Democrat" wing of the horridly bad idea of govt. controlled stock investments bugs me.
To wit, you just have waaaay too much moral hazard involved here. First, a few basic, though probably incorrect assumptions. We'll assume the "surplus" runs as projected, and that the $3.5T holds. We'll also assume that the "Parliament of Whores (PoW)" (Thank you P.J. O'Rorke) doesn't buy votes with it, by shipping the cash back home in "Highway Improvements", etc... Pretty heroic assumptions in my book, especially the latter, but hey. One last assumption, just to weaken my position...the govt. only dumps a $1T into the market.
First, where do they dump that $1T, which is now the single largest investment fund in the market? Since this is the govt., the investments will implicitly have to follow political rules. Denny's gets nailed for racial discrimination...can you picture the headlines if the Fed. is holding huge amounts of that firm? Al Sharpton and Jesse Jackson running protests? Uh huh...so out goes the money, fast, not for economic reasons, but political/social ones. What about non-union shops? What about firms that do/don't offer gay employees partner benefits? What about the reverse under a conservative Republican admin?
What you have, no matter how much blather is made about "independence" of the fund managers (which is practically impossible, even the Fed. is only quasi free of politics), is an implicit industrial policy. The govt. running the private markets. With a $1T 800 pound gorilla bouncing around the markets, acting economically "irrational" (i.e. reacting to political pressures) no private investments are safe. Would you want to be the fool holding Apple stocks, when a heavily conservative admin takes over, and quietly places pressure on the administration agency to divest, as the have a gay friendly partnership benefits program? Or holding an anti-union firm when a new liberal admin does the same? With no investments safe from short to medium term slams when the gorilla divests, no one will invest.
Moreover, what about changes in political behavior based on the markets? Would a DoJ go after a Microsoft if the govt. held a chunk of the stock? Would we be more, or less likely to act militarily if the country in question could tank the govts. portfolio (for example, a Middle Eastern Conflict and oil stocks). Would the Fed. restrict rates while the Nasdaq is plunging? And would not every such action, as just mentioned, immediately create the impression of investment based bias, even if not. Again, using the MS example...smart money on a breakup would be in Sun, Aol/Netscape. But as an investor, would that not make the govt. an "inside trader" to its own DoJ policy?
In addition, what about PoW payola? Given the impossibility to completely exclude political considerations from investment issues, would it not behoove companies to pony up at the PoW trough? It's already necessary to buy off your Representatives and Presidents through soft money...imagine if you give those same folks implicit power over market valuations. How often would "Senator Blowhard" put pressure on the investment admin to place money into a large campaign contributor? If we think we have corruption now...just wait for this. You also create an incentive to industry to spend $ on buying politicians, rather than compete effectively...options cash based on short term market value, not long term profitability.This is getting too long, so here's a few others in shorthand...
1. Domestic vs. International investment. Will the admin be free to invest abroad, or only domestically? I can't picture the political air to allow diverse international investments, so the fund is totally at risk to one market's downturns. Also, that $1T restricted to domestic investments impacts #2, below.
2. Maximum investments. Can the govt. hold controlling interest in a company? I don't even need to explain the implications of that, but $1T invested domestically implies that happening, especially in small caps. If you accordingly lock out small caps, you now make it likely in mid caps, and so on.
3. Related to #3, above. What about foreign owned firms listed domestically? Daimler/Chrysler for example? Especially if said firm directly competes against a purely domestically held firm?
4. Sectoral Shifts. We have seen a huge sectoral shift in the economy from old line industries with low skill/high wage employment, to services and technology, with high skill/high pay employment. The result has been an erosion of unskilled labor income and an explosion in high skill income. As a computer programmer I benefit from this. But as a govt. investor, will you really take tax money from factory workers to invest in firms that will destroy their employment? You will if you want to get return from the winning sector in the shift. Conversely then, will you tax me to prop up the failing sector, and lower the returns accordingly?
5. Boomer Bye-bye. When the boomers hit majority retirement, this $1T will leave, and leave quickly. I hope you have plans set for dealing with the deep recession.
6. Too many more to even go into. I will reiterate that this is just 1/3 the total "surplus"...it gets far worse if the entire thing is used in this manner.
In summary, you blithely ignore huge amounts of political, moral, and corruption risks inherent in this model. The only way to minimize these risks would conflict with each other, and with the goal of maximizing investment returns. You create an implicit govt. industrial policy, and a potential for actual govt. ownership of firms. There is no way around these issues. You then will pull the rug out in 20 years, triggering a huge recession. Thus, the idea of surplus investment in private markets is a horrid one, and should be abandoned.