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Tough going
David Gottstein Petroleum News Contributing Columnist Editor’s note: David Gottstein is with Dynamic Research Group in Anchorage. This column was written on March 31. As we alerted our readers last month, the conquest or regime change in Iraq will take longer, inflict more American casualties and be more complicated than the expectations that had been fostered.
But the United States and its allies will rid the world of the evil tyrant Saddam Hussein and will disarm Iraq of weapons of mass destruction.
The good news is that the uncertainty with regard to the execution and timing of the beginning of the war has been resolved. The not so good news is that many challenges will remain. We don't know how long the war will last, even though the outcome is little in doubt.
The dimension of the problems associated with the formation of a new government and the reconstruction of a working and just society, along with a viable economy, is likely to be staggering — especially considering the factional fighting for power that might take place within the country.
Along with any resentment towards the west that will linger as a result of anti-western propaganda that has been disseminated both inside and outside of Iraq for many years and which continues today, we are in for a long struggle to help reshape the balance of power and reduce the level of tyranny that currently rules much of the Middle East. Costs likely comparable to Cold War At the very least, the economic costs of this struggle will likely remind us of the costs of the Cold War.
The peace dividend is a thing of the past.
All this, against a backdrop of a very anemic domestic economy and weak foreign economies will mean that at best we are looking for a modestly improving jobs and income environment.
Low demand growth will of course translate into weak profit growth.
A company can only grow its earnings in a limited fashion through cost reduction programs; still the order of the day as opposed to top line revenue growth.
Until companies start to hire and increase capital spending, a robust recovery is not in the cards.
In addition, the likelihood of expanding federal deficits, along with continued record foreign trade deficits, will put long-term pressure on interest rates.
And China will continue to be a drag on employment growth. A light at the end of the tunnel The good news is that our American economy will likely continue to make progress. Albeit by two steps forward and one step back. We have tremendous capacity to improve production methods and rationalize investments in the future.
At current stock valuations, the market is still not cheap, at about 17 times earnings. However, when compared to interest rates, assuming modest economic growth and somewhat stable market multiples, forward looking returns are potentially in the 8-10 percent range, including dividends.
Therefore, equity risk premiums should be rewarded when compared to meager bond yields.
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