Playing the Productivity Plunge with ETFs

September 12, 2008

By Max Rottersman

HANOVER, NH (ETFguide.com) - Why are we obsessed with credit, debt and interest rates? If your car dies you don’t check the speedometer, you take apart the engine. We need to examine the root causes of economic growth over the past few decades.

Our three main business lines are materials, manufacturing or services.

Materials can be wheat, corn, oil, gas, uranium, timber, etc. Manufacturing is any occupation that changes materials into something useful: cars, computers, clothes, housing.  Services are everything else, from restaurant help to investment bankers.

There is no secret to wealth creation. An increase in materials makes us wealthier; a shortage of materials makes us poorer. Improved manufacturing makes us richer and but stagnant manufacturing doesn’t. Inexpensive services put more money in our pocket, but rising labor costs don’t. 

Real growth is the total effect of changes in farming, manufacturing and services. If the price of materials jumps, but our productivity increases faster, we become wealthier. For example, if gas rises to $10, but we get 200 miles per gallon, the net effect is wealth. 

Our growing debt is not a financial imbalance; it’s our speedometer’s way of saying that the nation’s economic engine has died.

It’s no wonder we’ve forgotten these first principles and have become obsessed with financial gauges. For decades our engine has been reliable and ever-improving. By myself, in my office, I can do the work that four people would have done 25 years ago. At a nation, we became rich because we can do the work of four people, which our parents could not.

For almost 30 years, we have enjoyed more innovation, more productivity. The increases in productivity have allowed us, in aggregate, to buy bigger houses, cars, vacation homes, and amazing electronic gadgets. 

So the question now is, if productivity increases are waning, how can we become richer? We can’t. The government can pump only so much money into the system. Certainly, it will fix some liquidity problems. But without increases in productivity money piles up as inflation.

Now that productivity is slowing, shortages in materials, oil especially, are acutely felt. When I was born, 47 years ago, there were 2 billion people on the planet. There are now seven billion people and they all want to drive somewhere.

Inexpensive services that we indirectly acquired from Asia are getting more expensive. Asia was able to produce cheap goods by using a combination of excess human labor and our innovations in productivity. We traded back technology, know-how, and a great place to send their children to school. But Asia has not bought dollars to do us a favor or to keep their goods cheap. They buy dollars because they want the things dollars can buy, just like everyone else.

If productivity is truly entering a long-term slump how do we invest?

Let’s start with Iraq. Our national security depends on our military. Our military runs on fuel, not democracy. Our military power allows us to bully other countries into military submissiveness. No one has ever overrun the U.S. That isn’t the same for Europe or Asian. The dollar is strong because anyone who has a bunch of them can gain citizenship. 

For the next 5 years we can go long military weapons (AMEX: PPA), commodities (NYSEArca: GSG), and energy (AMEX: XLE).

What about banks? Are they a good investment? In my view, not yet.

Again, it’s all about our ability to increase productivity. What’s the value of a fuel line into a dead engine? The current price of banking stocks relative to the past is irrelevant. If someone invents productivity-boosting robots that do all our menial work, buy banks. If someone develops corn that grows on asphalt, buy banks. Otherwise, banks, contrary to what they say through billions of dollars of marketing, can’t make money out of money. Only productivity creates real wealth. Banks make money by siphoning off the monetary fuel consumed by productivity. 

For the next 5 years short financials (AMEX: SKF).

What is the next big thing? Until it comes, you can fiddle with interest rates and talk credit and debt forever, to little effect.  Regulations, laws, bailout plans--they just re-arrange the furniture.

The 1930’s depression may not have been caused by lack of regulations or bad fiscal policy.

Like today, the U.S. thought productivity increases (at the time, automobiles, electricity, air travel, telephone) would go on forever at the same rate. They didn’t. Then Germany got fed up with working as slave labor to the rest of Europe. 

If history repeats, housing pricing will become the least of our worries. If that’s too much doom and gloom then global investments might be a good idea. Think international growth (AMEX: CWI) and (AMEX: VEU).

Max Rottersman is a partner of Hanover Technology Group, LLC. His opinions don’t necessarily represent the views of ETFguide.com or Yahoo Finance.