Resident Fellow David Frum

I'm not being facetious here. One of the iron laws of U.S. news reporting is that the economy gets positive reviews under Democratic presidents and negative reviews under Republican presidents.

In 2004, the Virginia-based Media Research Center (MRC) produced a stark summary of the disparity.

In 1996, Bill Clinton ran for reelection as president. The U.S. economy was doing well at the time: unemployment down to 5.2%, inflation under control at 3%, and overall growth at 2.2%. And the press reported all this good news: According to the 2004 MRC study, 85% of all major economic stories on the economy in the summer of 1996 were positive.

Eight years later, George W. Bush was running for re-election as president. The U.S. economy in 2004 did much better than in 1996: The economy grew at a 3.9% pace, while unemployment and inflation roughly matched their 1996 levels (5.4% and 2.7% respectively). Yet this time, 77% of all major media economic coverage was negative. (For the full report, see www.mediaresearch.org/realitycheck/2004/fax2004
1020.asp.) And since the 2004 election, the barrage of bad news has continued: reports of housing bubbles, warnings of an imminent collapse in the U.S. dollar, and so on.

The economist John Makin has done some interesting calculations on the consequences of the euphoria of the '90s and the persistent gloom of the '00s. As the economist who most accurately predicted the Japanese stock market crash of the late 1980s, Makin deserves attention when he assesses valuations.

Makin points out that the usual determinants of stock prices are a function of expected corporate profits and interest rates. The more we expect companies to earn, the lower we expect interest rates to be, the more we will pay for a share in a company. Based on this formula, economists calculate a "fair market value" for stocks--a base line around which they expect stocks to trade.

Between 1998 and 2000, the S&P 500 traded at a premium of some 60- 80% above fair market value: Investors, it seems, were making the mistake of believing Bill Clinton's PR--and of course it ended in tears. In the single year 2000, the S&P dropped from almost 1,600 in March to 1,300 by year end. The S&P finally hit bottom at under 800 in the fall of 2002.

Then the recovery began. Investors who disregarded the gloomy Bush-era reports from CBS and The New York Times noticed the rise in corporate profits and the reductions in interest rates. They began to buy and buy and buy--pushing the S&P past 1,400 at year end 2006.

Makin, however, points out that even at 1,400, the S&P remains some 20% below its "fair market value": "If the stocks in the S&P 500 were currently valued as they have been on average over the past 20 years, the index would be at 1,775 instead of 1,420."

Don't take that as a buy signal however. Because now, after the elections of 2006, some very genuine reasons for concern have materialized.

The new Democratic Congress takes office committed to a series of measures intended to attack corporate profits. They have already voted to raise the minimum wage--a measure that affects the entire U.S. labour market, because many union contracts are tied to multiples of the statutory minimum. Leading Democrats talk of changing labour rules to eliminate secret ballots for unionization elections.

Even more ominously, Democrats are proposing higher taxation of energy companies--and making it clear that they will not vote to renew President Bush's cut in taxes on dividends and capital gains. Leading members of the new Congress have expressed strong protectionist views.

Democrats hope to push labour costs up faster than productivity--and to curb corporate profits they regard as inflated. If they succeed, profitability must suffer, and stock prices must decline.

And yet, bizarrely, at this very moment of maximum worry, the press reports--so negative, for so long--are suddenly turning positive again. On Jan. 31, Associated Press reporter Andrew Taylor filed a story from Washington that opened cheerily: "The House passed a [US] $463.5-billion spending bill Wednesday that covers about one-sixth of the federal budget as Democrats cleared away the financial mess they inherited from Republicans."

In this case, "clearing away the financial mess" means adding tens of billions of dollars in new federal spending to the budget--while destroying hundreds of billions of dollars of national financial wealth along with it. The economic results may be dreadful. But count on it: The economic reporting will be glowing!

David Frum is a resident fellow at AEI.