The current run-up in stocks has spurred much speculation about the actions of the so-called Plunge Protection Team (PPT), real or imagined.
As we all know, the US economy is now highly dependent on the smooth functioning of financial markets. Indeed, almost all markets have now become financial in nature as commodity, real estate prices and even pollution permit prices are set via derivatives and a tangled web of securitizations. Even "communist" China has become hooked on share speculation - an obviously oxymoronic situation.
Thus, the PPT has an increasingly important role to play: market movements are manifestations of fickle human psychology - a dangerous situation at all times and more so today, given the supreme importance of markets relative to the shrinking "real" economy. Confidence must be maintained at all times. What seems to be true is infinitely more important than what is true. Perception is reality, since most of us do not have the means or ability to independently verify what we are told is true.
There is a steady stream of negative developments coming from the US economy: real estate plunge, devastated manufacturing sector, rising costs for food and energy, weakening retail sales, negative saving rate, extreme household debt, zero growth in non-financial corporate profits. Even total after tax corporate profits, when financial firms' are included, are now rising just 7.5% y/y. This means that corporate profitability growth is very narrow and contained within just the financial sector, which is now also coming under pressure from the mortgage crisis and the widening of risk spreads.
Therefore, the run-up in share prices is indeed puzzling and so the "invisible hand of the market" is being suspected of belonging to the PPT and to be manipulative in the extreme. Can this be true? Would the government of a democratic country fully committed to the principles of free markets, manipulate share prices? And if so, how?
I will answer not with speculation, but fact. I have first-hand experience of how the democratically elected government of a western, free-market country (not the US) became in the past heavily and directly involved in market manipulation. It did so for two reasons:
a) It needed to claim the economy was vibrant in order to achieve several important milestones.
b) There were elections coming up.
But, for this discussion, what is most important is not the why, but the how.
This is how it was done:
- State-controlled banks and the mutual funds they sponsored bought heavily on the opening and closing of each trading day. They smashed bid-offer spreads by lifting all offers, causing shares to gap up. They did this almost exclusively with index-heavy issues.
- Ditto for state-controlled pension funds.
- Major speculators, though formally unconnected with the state, also saw the opportunity for quick gains and jumped on the bandwagon by heavily manipulating smaller issues. This broadened the artificial rally.
- Through friendly media, government and speculators embarked on a huge PR campaign of hot tips, innuendos and general market boosterism.
- Market regulators were encouraged to avert their gaze and shut up.
- The government publicly credited the rising market on its policies and predicted much higher levels after the elections - provided they won, of course.
- Anyone that questioned these practices was immediately branded an enemy of the Nation and the People. The main opposition party tried to object at first, but quickly shut up fearing losing votes from the "investing" public.
Is something similar happening in the US today? I honestly don't know and if I did I certainly wouldn't say. One can, however, connect just the visible dots and come to some valuable conclusions.