A Post business columnist implicitly assumed that price to earnings ratios for the stock market will go far above the bubble peaks of 2000, at least if we take seriously the Congressional Budget Office's estimates of corporate profits. The column assumed that 401(k) accounts would provide a nominal return averaging 10 percent annually over the next decade. Well, CBO is projecting that nominal profit growth will average just over 1 percent annually over the next decade (see the most recent Budget and Economic Outlook, Table 2-3). If the CBO projections prove correct, then the only way that a 401(k) will be able to produce returns averaging 10 percent over the next decade will be if the price to earnings ratio in the stock market rises to 36 to 1, about 10 percent higher than its bubble peak in 2000. Of course, this assumes that the account is invested entirely in stock. If an investor holds some lower yielding assets, such as bonds and money market accounts, then the PE ratio in the stock market would have to rise even higher to give a 10 percent average return, if CBO's projections prove accurate. The CBO projections are treated as the gold standard in budget debates. However, if the economic projections that provide the basis for these budget projections are accurate, then the people controlling trillions of dollars in financial assets are idiots for putting it in the stock market at a time when real profits are about to plunge. In terms of who is right, my money is with CBO (they were right in the late nineties), but the question for the media is why doesn't anyone pay attention to this? Either the CBO economic projections are hugely off, and therefore their budget projections are hugely off as well, or we are about to see stock investors nailed yet again. I know that it's only $5 to $10 trillion at stake, but some people still care about this kind of money.
--Dean Baker
