Experienced money managers are puzzled by the stock market's untypical behavior. Normally, stock prices rise in anticipation of recovery and profits from Fed easing. This time it did not happen. Months into the recovery, it still has not happened.

Investors Business Daily, the Los Angeles financial newspaper that studies the market, noted last week ["The Waiting Game," IBD, 6/25/02 pay archive] that the stock market is usually led by newer issues, "stocks that have come public in the last eight years" and that bring "new products, new services, new technologies and new ways of doing business."

One problem is the dearth of initial public offerings. For the past 18 months, IPOs have been averaging eight per month. When entrepreneurs are afoot, IPOs run 8 per week or per day.

Where are the entrepreneurs? What is holding them back? Are they deserting the U.S. because of class action lawsuits, high taxes, regulatory restrictions, and global considerations? Are entrepreneurs stymied by the anti-business climate attributed to accounting scandals?

The Fed's magic has not worked. Policymakers should focus on finding a way to incentivize entrepreneurs.

The missing stock market recovery could turn out to be a bigger crisis than terrorism for the Bush administration. Bridgewater Associates points out that foreign investors are heavily overweighted with U.S. assets at a time when financing the massive U.S. trade deficit requires about 75 percent of the capital exports of the entire world.

In recent months the dollar's value has fallen. The new European currency has risen about 10 percent against the U.S. dollar. Even the Japanese yen has risen against the dollar. Why should foreigners remain heavily invested in nonperforming U.S. assets when the dollar is also declining, thus magnifying their losses?

The most immediate effect of a weaker dollar is a hike in the cost of imports, thus enlarging the already swollen trade deficit. The adverse implications of a growing U.S. trade deficit could cause foreign investors to reduce their holding of U.S. assets, thus sending both the stock market and the dollar lower. The possibility exists for a major downward spiral, driven in part by self-serving aggressive prosecutors capitalizing on an anti-business environment and blaming falling stock prices on accounting fraud.

According to Bridgewater Associates, the mark to market losses for foreigners on their U.S. investments and mergers and acquisitions range between $400 billion and $600 billion. Corporate bond defaults are adding to their woes. The default of WorldCom alone means $30 billion in defaulted bonds and $2.6 billion in bad bank loans.

Most of WorldCom's largest bank lenders are European. Will such badly burned foreigners advance the U.S. approximately a half trillion dollars to finance this year's current account deficit?

An economic crisis would distract the U.S. government, weaken its influence abroad, and create a field day for terrorists, further shattering confidence and setting off a new downward spiral.

It is absurd for the Bush administration to spend so much time on Afghanistan, Palestine and Iraq when its position in the world rests much more on its stock market than on its armaments.

The combination of high U.S. economic growth and low inflation during the past two decades created ideal conditions for attracting foreign investment. The foreign money helped to keep the stock market and U.S. dollar high, interest rates low, and to finance the U.S. trade deficit, which is running at more than $1 billion per day. This successful period in U.S. economic history was engineered by President Reagan's tax rate reductions, which increased the property rights of income earners.

Twenty years of boom have created a political class that takes the economy for granted. Today Washington is focused on wasting resources on wars and on reducing the property rights of income earners by boosting medical welfare benefits to immigrants, foreigners, and Medicare recipients.

A cut in the capital gains tax would save Washington's bacon. But ignorant Democrats prefer to demagogue "the rich," and Republicans fear the charge of "favoring the rich" more than they fear war with the Muslim world.

There are enough fools in Washington to destroy the country without any help from Muslim terrorists.

Paul Craig Roberts is the author of The Tyranny of Good Intentions : How Prosecutors and Bureaucrats Are Trampling the Constitution in the Name of Justice.

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