Inflation and the Fall of the Roman Empire

Mises Daily by Joseph R. Peden

[This is a transcript of Professor Joseph Peden's 50-minute lecture "Inflation and the Fall of the Roman Empire," given at the Seminar on Money and Government in Houston, Texas, on October 27, 1984. The original audio recording is available as a free MP3 download.]

Two centuries ago, in 1776, there were two books published in England, both of which are read avidly today. One of them was Adam Smith's The Wealth of Nations and the other was Edward Gibbon's Decline and Fall of the Roman Empire. Gibbon's multivolume work is the tale of a state that survived for twelve centuries in the West and for another thousand years in the East, at Constantinople.

Gibbon, in looking at this phenomenon, commented that the wonder was not that the Roman Empire had fallen, but rather that it had lasted so long. And scholars since Gibbon have devoted a great deal of energy to examining that problem: How was it that the Roman Empire lasted so long? And did it decline, or was it simply transformed into something else (that something else being the European civilization of which we are the heirs)?

I've been asked to speak on the theme of Roman history, particularly the problem of inflation and its impact. My analysis is based on the premise that monetary policy cannot be studied, or understood, in isolation from the overall policies of the state.

Monetary, fiscal, military, political, and economic issues are all very much intertwined. And they are all so intertwined because any state normally seeks to monopolize the supply of money within its own territory.

Monetary policy therefore always serves, even if it serves badly, the perceived needs of the rulers of the state. If it also happens to enhance the prosperity and progress of the masses of the people, that is a secondary benefit; but its first aim is to serve the needs of the rulers, not the ruled. This point is central, I believe, to an understanding of the course of monetary policy in the late Roman Empire.

We may begin by looking at the mentality of the rulers of the Roman Empire, beginning at the end of the 2nd century AD and looking through to the end of the 3rd century AD. Roman historians refer to this period as the "Crisis of the 3rd Century." And the reason is that the problems of the Roman society in that period were so profound, so enormous, that Roman society emerged from the 3rd century very different in almost all ways from what it had been in the 1st and 2nd centuries.

To look at the mentality of the Roman emperors, we can look just at the advice that the Emperor Septimius Severus gave to his two sons, Caracalla and Geta. This is supposed to be his final words to his heirs. He said, "live in harmony; enrich the troops; ignore everyone else." Now, there is a monetary policy to be marveled at!

Caracalla did not adhere to the first part of that advice; in fact, one of his first acts was to murder his brother. But as for enriching the troops, he took that so seriously to heart that his mother remonstrated with him and urged him to be more moderate and to restrain his increasing military expenditures and burdensome new taxes. He responded by saying there was no longer any revenue, just or unjust, to be found. But not to worry, "for as long as we have this," he insisted, pointing to his sword, "we shall not run short of money."

His sense of priorities was made more explicit when he remarked, "nobody should have any money but I, so that I may bestow it upon the soldiers." And he was as good as his word. He raised the pay of the soldiers by 50 percent, and to achieve this he doubled the inheritance taxes paid by Roman citizens. When this was not sufficient to meet his needs, he admitted almost every inhabitant of the empire to Roman citizenship. What had formerly been a privilege now became simply a means of expanding the tax base.

He then went further by proceeding to debase the coinage. The basic coinage of the Roman Empire to this time — we're speaking now about 211 AD — was the silver denarius introduced by Augustus at about 95 percent silver at the end of the 1st century BC. The denarius continued for the better part of two centuries as the basic medium of exchange in the empire.

By the time of Trajan in 117 AD, the denarius was only about 85 percent silver, down from Augustus's 95 percent. By the age of Marcus Aurelius, in 180, it was down to about 75 percent silver. In Septimius's time it had dropped to 60 percent, and Caracalla evened it off at 50/50.

Caracalla was assassinated in 217. There then followed an age that historians refer to as the Age of the Barrack Emperors, because throughout the 3rd century all the emperors were soldiers and all of them came to their power by military coups of one sort or another.

There were about 26 legitimate emperors in this century and only one of them died a natural death. The rest either died in battle or were assassinated, which was totally unprecedented in Roman history — with two exceptions: Nero, a suicide, and Caligula, assassinated earlier.

Caracalla had also debased the gold coinage. Under Augustus this circulated at 45 coins to a pound of gold. Caracalla made it 50 to a pound of gold. Within 20 years after him it was circulating at 72 to a pound of gold, reduced to 60 at the end of the century by Diocletian, only to be raised again to 72 by Constantine. So even the gold coinage was in fact inflated — debased.

But the real crisis came after Caracalla, between 258 and 275, in a period of intense civil war and foreign invasions. The emperors simply abandoned, for all practical purposes, a silver coinage. By 268 there was only 0.5 percent silver in the denarius.

Prices in this period rose in most parts of the empire by nearly 1,000 percent. The only people who were getting paid in gold were the barbarian troops hired by the emperors. The barbarians were so barbarous that they would only accept gold in payment for their services.

The situation did not change until the accession of Diocletian in the year 284. Shortly after his accession he raised the weight of the gold coinage, the aureus, to 60 to the pound — this was from a low of 72.

But ten years later, he finally abandoned the silvered coinage, which by this time was simply a bronze coin dipped in silver rather quickly. He abandoned that completely and tried to issue a new silver coin, called the argenteus, struck at 96 coins to the pound of silver. The argenteus was fixed as equal to 50 of the denarii (the old coinage). It was designed to respond to the need for higher-tariffed coins in the marketplace, to reflect the inflation.

Diocletian also issued a new bronze coin tariffed at ten denarii, called the nummus. But less than a decade later, the nummus had gone from being tariffed at ten denarii to now equaling 20 denarii, and the argenteus had gone from 50 denarii to 100. In other words, despite Diocletian's efforts, the Empire suffered 100 percent inflation.

The next emperor who interfered with the coinage in a meaningful way was Constantine, the first Christian emperor of Rome. In the year 312, which is also the year he issued the Edict of Toleration for Christianity, Constantine issued a new gold piece, which he called by a new name, the solidus — solid gold. This was struck at 72 to the pound, so it was in fact debased more than Diocletian's.

These were very large issues of coin and historians have puzzled over where Constantine got all the gold; but I think the puzzle is not so difficult once you begin to look at his legislation.

First of all, Constantine issued two new taxes. One was on the estates of the senators. This was rather new because senators were usually free of most taxes on their land. He also issued a tax on the capital of merchants; not their earnings, but their capital. This was to be levied every five years and it was to be paid in gold. He also required that the rents from the imperial estates, which were rented out to tenants, were to be paid only in gold.

Constantine took on the bullion reserves of his former partner Licinius, who had extracted, by force, bullion from the treasuries of the cities of the Eastern Empire. In other words, any city that had any gold bullion or silver bullion left in its treasury was simply requisitioned by Licinius. This gold passed on now into the hands of Constantine who had gotten rid of Licinius in a civil war.

We're also told that he stripped the pagan temples of their treasuries. This he did rather late in his reign. In the early days he was apparently still somewhat afraid of angering the gods of Rome. As his Christianity became more fixed, he felt greater ease at robbing the temples.

Now, in one sense, Constantine's reform began the reversal of the process: the gold coinage was sufficiently large that it began to take hold and to circulate more freely. However, the silver coinage failed and, what was worse, at no time in this period did the central government try to control the token coinage. The result was that token coinage was being minted not only by the imperial mints, but also by the mints of cities. In other words, if a city couldn't pay its costs or pay the salaries of its employees, it simply struck up some token coinage and issued that.

By the late 3rd century we also begin to have the massive appearance of what numismatists call counterfeits. I would say it would be called credit money today. People need small change, and they simply go and manufacture it. All of this of course meant that the amount of token coinage in circulation was uncontrolled and increasingly massive.

Now, one of the things that had happened in the course of this 3rd-century inflation was that the government found that when it paid its troops in token coinage, or even in debased silver coins, prices immediately rose. Every time the silver value of the denarius dropped, prices naturally rose.

The result was that the government, in order to try to protect its civil servants and its soldiers from the effects of inflation, began to demand payment of taxes in kind and in services rather than in coin. They wound up, in effect, repudiating their own issued coins, not accepting them for tax collection purposes.

With Constantine's reform, this situation changed somewhat and, slowly but surely, the government began to move away from collecting taxes and paying salaries in kind, and began to substitute collecting taxes and paying salaries in gold. Over the long run, this meant that the gold standard was strengthened and gold remained the real money of the Roman Empire.

However, the inflation did not end for the masses of the people. In other words, gold was a hedge against inflation for those who had it, and these were principally the troops and the civil servants.

The taxpayers had to buy these gold coins in order to pay their taxes. If they were wealthy enough, they could afford to buy these gold coins, which were increasingly expensive in terms of token money. If they were poorer they simply couldn't pay the taxes; they lost their lands in one form or another or became delinquents. We hear constant references to people abandoning their land, disappearing.

"If a city couldn't pay its costs or pay the salaries of its employees, it simply struck up some token coinage and issued that."

As a matter of fact in the 3rd century this was a constant problem in Rome: all sorts of people were trying to escape the increased taxes that the military needed. The army itself had grown from the time of Augustus, when they had about a 250,000 troops, to the time of Diocletian, when they had somewhat over 600,000. So the army itself had doubled in size in the course of this inflationary spiral, and obviously that contributed greatly to the inflation.

In addition, the administration of the state had grown enormously. Under Augustus, essentially, you had the imperial administration at Rome, the secondary level of administration in the governors of different provinces, and then the primary governmental units in the Roman Empire in this time were the cities.

By the time of Diocletian this pattern had broken apart. You had not one emperor, but four emperors, which meant four imperial courts, four Praetorian Guards, four palaces, four staffs, etc.

Under them were four Praetorian prefectures, regional administrative units with their staffs and their budgets. Under these four prefectures, there were then 12 dioceses, each diocese having its administrative staff and so on.

Under the diocesan rulers, the vicars of the dioceses, we have the provinces. In Augustus's time there were approximately 20 provinces. Three hundred years later, with no substantial increase in territory, there were over a hundred provinces. The Romans had simply divided and subdivided provinces for the purposes of maintaining internal military control of the regions. In other words, the cost of policing and administrating the Roman state became increasingly enormous.

All these costs, then, are some of the reasons why the inflation took place; I'll get to others in a moment. To give you some idea of the situation after Constantine's reform of the gold, let me just briefly give you the figures for what it cost in terms of the denarius, the silver coinage, or token coinage now, to buy a pound of gold.

In Diocletian's time, in the year 301, he fixed the price at 50,000 denarii for one pound of gold. Ten years later it had risen to 120,000. In 324, 23 years after it was 50,000, it was now 300,000. In 337, the year of Constantine's death, a pound of gold brought 20,000,000 denarii.

And by the way, just as we are all familiar with the German currency of the 1920s with the bigger stamp on it, the Roman coinage also has stamps over stamps on the metal, indicating multiples of value.

At one point, one of the Roman emperors had a marvelous idea: instead of issuing coins he devised a method to handle the inflation. He took brass slugs, put them in a leather pouch, and called it a follis; and people began passing these pouches back and forth as value. I guess it was the Roman equivalent to those baskets of paper we see in the pictures of Germany in the 1920s.

Interestingly enough, within ten years or so after that began, the word follis — which had meant this bag of coins — had now drifted to mean just one of those brass slugs. One of those slugs was now the follis. They couldn't even keep the bags stable, they too were inflated.

Now one interesting thing with all this inflation should be a great comfort to us: historians of prices in the Roman Empire have come to the conclusion that despite all of this inflation — or perhaps we should say, because of all of this inflation — the price of gold, in terms of its purchasing power, remained stable from the first through the fourth century. In other words, gold remained, in terms of its purchasing power, a stable value whereas all this other coinage just became increasingly worthless.

What were the causes of this inflation? First of all, war. The soldiers' pay rose from 225 denarii during the time of Augustus to 300 denarii in the time of Domitian, about a hundred years later. A century after Domitian, in the time of Septimius, it had gone from 300 to 500 denarii; and in the time of Caracalla, about 10 years later, it had gone to 750 denarii. In other words, the cost of the army was also rising in terms of the coinage; so, as the coinage became more worthless, the cost of the army had to be increased.

The advance in the soldiers' pay in the rest of the 3rd century and into the 4th century is not known; we don't have figures. One reason is that the soldiers were increasingly paid in terms of requisitions of supplies and goods in kind. They were literally given food, clothing, shelter, and other commodities in lieu of pay. This applied also to the civil service.

When one Roman emperor refused to pay a donative on his accession — this was a bonus given to the soldiers on the accession of the emperor — he was simply murdered by his troops. The Romans had had this kind of problem even in the days of the Republic: if the soldiers don't get paid they rather resent it.

What we find is that the donatives had been given on the accession of a new emperor from the time of Augustus on. In the 3rd century, they began to be given every five years. By the time of Diocletian, donatives were given every year, so that the soldiers' donatives had in fact become part of their basic salary.

The size of the army, I indicated already, had also increased. It had doubled from the time of Augustus to that of Diocletian. And the size of the civil service also increased. Now, all these events strained the fiscal resources of the state beyond its ability to sustain itself; and the ship of state was kept going, frequently by debasing, then by taxing, and then often simply by accusing people of treason and confiscating their estates.

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One of the Christian fathers, Saint Gregory Nazianzus, commented that war is the mother of taxes. I think that's a wonderful thing to keep in mind: war is the mother of taxes. And it's also, of course, the mother of inflation.

Now, what were the consequences of inflation? One of the odd things about inflation is, in the Roman Empire, that while the state survived — the Roman state was not destroyed by inflation — what was destroyed by inflation was the freedom of the Roman people. Particularly, the first victim was their economic freedom.

Rome had basically a laissez-faire concept of state/economy relations. Except in emergencies, which were usually related to war, the Roman government generally followed a policy of free trade and minimal restriction on the economic activities of its population. But now under the pressure of this need to pay the troops and under the pressure of inflation, the liberty of the people began to be seriously eroded — and very rapidly.

We could start with the class known as the decurions. This was your prosperous, small- and middle-landowning class who were the dominant elements of the cities of the Roman Empire. They were the class from whom the municipal counsels, magistrates, and officials were chosen.

Traditionally, they had viewed service in the governments of their towns as an honor and they had donated, not merely their time, but also their wealth to the betterment of the urban environment. Building stadiums and bathhouses, and repairing the streets and providing for pure water were considered benefactions. It was a kind of philanthropic act and their reward was, of course, public recognition and esteem.

This class, in the mid-3rd century, was assigned the task of collecting the taxes in the municipality. The central government could no longer collect its taxes effectively, so they made the decurion class collectively responsible for getting revenues and passing them on to the imperial government.

The decurions, of course, had as much difficulty as anyone else in doing this, and the returns were, again, frequently inadequate. So the government solved that problem by simply passing a law that any taxes that decurions could not collect from others, they would have to pay out of their own pockets. That's known as the incentive method for the tax collector. [laughter]

As you can well imagine, as the crises became greater and the economy was disrupted by civil conflicts and invasions and the effects of inflation, the decurions, strangely enough, no longer wanted to be decurions. They began to abandon their lands, abandon their cities, and escape to wherever they could find refuge in other larger cities or other provinces. But they were not to be allowed to do that with impunity, and a law was then passed that any decurion discovered somewhere else was to be arrested, bound like a slave, and carted back to his hometown where he would be restored to his dignity as a decurion. [laughter]

The 3rd century is also the period of the persecution of the church. We find that at least some of the emperors must have had a sense of humor because they passed a regulation that if a Christian was arrested and found guilty of a capital crime, namely believing in Christ, he was not to be executed but offered the option of becoming a decurion. [laughter]

Now, the merchants and the artisans were traditionally organized into guilds and chambers of commerce and that sort of thing. They now, too, came under government pressure because the government could not obtain enough material for the war machine through regular channels — people didn't want all that token coinage. So merchants and artisans were now compelled to make deliveries of goods.

So that if you had a factory for making garments, you now had to deliver so many garments to the government requisitions. If you had ships, you had to carry government goods in your ships. In other words, what we have here is a kind of nationalization of private enterprises, and this nationalization means that the people who use their money and their talent are now compelled to serve the state whether they like it or not.

When people tried to get out of this they were then, by law, compelled to remain in the occupation that they were in. In other words, you couldn't change your job or your business.

This was not sufficient because, after all, death is a relief from taxes. So the occupations were now made hereditary. When you died, your son had to take up your profession. If your father was a shoemaker, you had to be a shoemaker. These laws started by being restricted to the defense-oriented industries but, of course, gradually it was realized that everything is defense-oriented.

The peasantry, known as the coloni, were leaseholders on both imperial and private estates. They too were formerly a free class. Now under the same kinds of pressures that all smallholders were in in this situation, they began to drift away, trying to find better opportunities, better leases, or better occupations. So under Diocletian the coloni were now bound to the soil.

Anyone who had a lease on a particular piece of land could not give that lease up. More than that, they had to stay on the land and work it. In effect, this is the beginning of what in the Middle Ages is called serfdom, but it actually has its origins here in late Roman society.

"War is the mother of taxes."

We know for example from studies of Palestine, particularly in the Rabbinical writings, that in the course of the 3rd and early 4th century the structure of landholding in Palestine changed very dramatically. Palestine in the 2nd century was mostly composed of peasant landholders with very small acreage, perhaps an average of two and a half acres.

By the 4th century those smallholders had virtually disappeared and been replaced by vast estates controlled by a few large landowners. The peasants working the estates were the same people, but in the meantime they had lost their land to the larger landowners. In other words, landholding became a kind of massive agribusiness.

In the course of this, the population of Palestine, still principally Jewish, also changed in that the ownership of land passed from Jews to Gentiles. The reason for that undoubtedly was that the only people with large amounts of cash who could buy out these smallholders who were in distress were, of course, the government officials. And we hear of them being called potentates, powerful ones. In effect there is a shift in the distribution of wealth in Palestine; and obviously, from other evidence, similar things were happening in other places.

With regard to taxes, they naturally increased across the board, but Diocletian decided that it was a very inefficient system that he had inherited. Every province more or less had its own system of taxation going back to pre-Roman times. And so he, with his military mind, demanded standardization.

And what he did was to have all wealth, which was of course landed wealth, assessed by a standard unit of productivity, the iugum. In other words, every person who had land was either singly, if he was a large landowner, or collectively, for those who were smaller landowners, put into a iugum.

This meant that the emperor for the first time had the basis of a national budget, something the Romans never had before. Therefore, he knew at any given time how many taxable units of wealth there were in any province. He could simply levy an assessment and expect to get a fixed amount of money.

Unfortunately, this took no account of the fact that in agriculture productivity varies considerably from season to season, and that if an army has passed through your district it may take years to recover. The result is that we hear of massive petitions from whole regions asking the emperor to forgive them their taxes, to remit five years of past dues, or to reduce the number of units of productivity to reflect the loss of population or materials.

As a matter of fact, when people began to say "it used to be I had five people paying this unit of taxation, but two of them have fled and it's only half the land in production," the response of the government was, "that doesn't matter, you still have to pay for the land that is now out of production." So, I mean, there was no relationship between taxes and actual productivity.

How did people protect themselves from this? Well, first of all, long-term mortgages virtually ceased to be given. Long-term loans of any kind disappeared. No one would lend unless they were guaranteed payment in gold or silver bullion.

In fact the government itself, under Diocletian and Constantine, refused to accept gold coins in payment of taxes, but insisted instead on gold bullion. So that the coins that you bought in the marketplace had to then be melted down and presented in the form of bullion. The reason was that the government was never sure how adulterated its own gold coinage really was.

Pledges and securities for crops and for loans were always in gold, silver, or indeed in crops themselves. In Egypt we have a document in which it seems that the banks had been refusing to accept coins with the divine image of the emperor; in other words, state issues. The government's reaction to that, of course, was to force the banks to accept the coinage. This led to wholesale corruption in Roman society, as people refused to exchange coinage at the officially fixed tariffs but instead used the black market to exchange coinage on a market principle.

There was, obviously, flight from the land, massive evasion of taxes, people left their jobs, they left their homes, they left their social status. Now, Diocletian's final contribution to this continuing disaster was to issue his famous Edict on Maximum Prices, in 301 AD. This is a very famous instance of a massive effort by the government to limit inflation by price controls.

You have to realize that there was a little problem: the Roman Empire was a vast region running from Britain in the West to Iraq in the East; from the Rhine and the Danube to the Sahara.

It included areas of very sophisticated and very primitive economies, and thus the cost of living varied considerably from province to province: Egypt seems to have had the lowest cost of living; Palestine had a cost of living twice that of Egypt, and Roman Italy had a cost of living twice that of Palestine.

"The Roman people, the mass of the population, had but one wish after being captured by the barbarians: to never again fall under the rule of the Roman bureaucracy."

Diocletian ignored that; he just issued a single standard price for the entire empire. The result was that in Egypt, the Edict probably had no effect, because the maximum price fixed in the Edict was very rarely reached in Egypt. It was the people in Rome, of course, who found the maximum price lower than the market price.

The result of that, of course, was riots in the street, and the disappearance of goods. The penalty for violating this law was death, a very common penalty in Rome for almost anything.

The mentality of Diocletian, and the cause of the maximum price edict, comes out in the preface to the law. I'll just quote briefly some of it. When you hear these first words I'd like you to pay attention, because you may have a different interpretation of them than what Diocletian meant.

He says, "if the excesses perpetrated by persons of unlimited and frenzied avarice could be checked" — he doesn't mean himself [laughter] — "if the general welfare could endure without harm this riotous license, if these uncontrolled madmen, the unscrupulous, the immoderate, the avaricious, could be persuaded to desist from plundering the wealth of all, then all would be well." Now who are these people? They are the merchants; they are the avaricious greedy types who cause inflation as we all know.

Then he speaks about himself and his three partners. "[We, the protectors of the] human race" — sounds familiar, doesn't it? [laughter] "We are agreed that decisive legislation is necessary, so that the long-hoped-for solutions, which mankind itself could not provide" — you know, it's the same stuff [laughter]; we can't do anything ourselves, we need the legislator.

"By the remedies provided by our foresight [laughter], these things may be remedied for the general betterment of all."

In fact, as you read through the rest of the thing it becomes clear that the reason the Edict on Prices was issued was that the soldiers were the principal victims of the inflation. Diocletian was afraid he was losing control of his army. And so the people who are to be protected are the soldiers and the other servants of the state.

Now Diocletian's monetary reforms were tentative steps in the right direction; except for the Edict on Prices, which, by the way, simply didn't work and was gradually dropped. But his steps were not radical enough.

Because of his inability to create a sufficient supply of gold and silver coinage, combined with his continued reliance on payments in kind for taxes and salaries, and his continued issuance of fiat bronze coinage in endless amounts, he failed to make a significant dent in the problem.

Constantine's reforms were also partial, but of sufficient vigor and radical character to make a difference. Through his willingness to extract by compulsion the gold reserves of the taxpayers, forcing them to disgorge their bullion, he placed an ever-increasing supply of gold in the hands of government officials.

This was increasingly used to pay military bonuses, salaries for bureaucrats, and even payments for certain public works. Increasingly, then, a two-tier monetary system emerged in which the government, the soldiers, and the bureaucrats enjoyed the benefits of a gold standard while the nongovernmental portion of the economy continued to struggle with a rapidly inflating fiat currency.

The new gold solidus — circulated widely by its possessors, the government-salaried employees — sold at various market rates to customers who desperately needed it to pay their taxes. Thus the state had found a way to protect itself and its servants from the unwholesome effects of its own earlier inflationary cycle, while slowly withdrawing from the cumbersome and wasteful system of accepting taxes and paying salaries in kind. Meanwhile, the masses suffered from a massive injection of fiat money, which they had to accept in payment for government requisitions of gold, silver, or other commodities.

Now, we may wish to find some lessons in this tale of the monetary policies of the late Roman Empire. The first lesson, I think, must be that if war is the health of the state, as Randolph Bourne said, it is poison to a stable and sound money. The Roman monetary crisis therefore was closely connected with the Roman military problem.

Another lesson is that problems become solvable when a ruler decides that something can be done and must be done. Diocletian and Constantine clearly were willing to act to protect their own ruling-class interests, the military and the civil service.

Monetary reforms were necessary to win the support of the troops and the bureaucrats, who composed the only real constituency of the Roman state, and the two-tier system was designed to this end. It brought about a stable monetary standard for the ruling group, who did not hesitate to secure it at the expense of the mass of the population.

The Roman state survived. The liberty of the Roman people did not. When freedom became possible in the West in the 5th century, with the barbarian invasions, people took advantage of the possibility of change. The peasantry had become totally alienated from the Roman state because they were no longer free. The business community likewise was no longer free. And the middle class of the cities was no longer free.

The economy of the West was perhaps more fatally weakened than that of the East. The early 5th century Christian priest Salvian of Marseille wrote an account of why the Roman state was collapsing in the West — he was writing from France (Gaul). Salvian says that the Roman state is collapsing because it deserves collapse; because it had denied the first premise of good government, which is justice to the people.

By justice he meant a just system of taxation. Salvian tells us, and I don't think he's exaggerating, that one of the reasons why the Roman state collapsed in the 5th century was that the Roman people, the mass of the population, had but one wish after being captured by the barbarians: to never again fall under the rule of the Roman bureaucracy.

In other words, the Roman state was the enemy; the barbarians were the liberators. And this undoubtedly was due to the inflation of the 3rd century. While the state had solved the monetary problem for its own constituents, it had failed to solve it for the masses. Rome continued to use an oppressive system of taxation in order to fill the coffers of the ruling bureaucrats and soldiers. Thank you. [applause]

U.S. Stocks Fall After China's Drop

U.S. investors shied from risk Monday, unloading stocks and oil following a big stock-market selloff in China.

The Dow Jones Industrial Average was recently down 82 points at 9462.20, hurt in part by a 1.6% decline in component Chevron. Aluminum maker Alcoa was also weak, off 2.9%.

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The Nasdaq Composite Index was down 1.1%. The S&P 500 was off 1%. All its sectors traded lower, led by declines of nearly 2% each in energy and basic materials.

Crude-oil futures were recently down $3 to $69.73 a barrel at the New York Mercantile Exchange.

China's benchmark stock index, the Shanghai Composite, fell 6.7% to 2667.75, its lowest finish since May. It has given back nearly a quarter of its value since it peaked on Aug 4.

The latest round of China jitters comes at a time when many traders think that speculation had pushed oil's price ahead of what might be justified by supply and demand. Hopes in China's ability to provide new demand for oil to run factories, an expanding fleet of personal cars, and other machinery are fading.

"The energy markets have probably become the leading market for pricing in [an economic] recovery in China," said energy analyst John Kilduff, of MF Global. "Now it looks like we're likely to consolidate for awhile."

Oil prices traded between $70 and $75 last week, but now seem likely to break below that, perhaps as low as $66, Mr. Kilduff said.

Blue-chip industrial stocks were also big losers as traders fretted about China's economy. Caterpillar and Boeing each fell nearly 3%. United Technologies was down more than 1%.

Dow component Walt Disney also declined, falling 2.4% after announcing it would acquire Marvel Entertainment for about $4 billion. Marvel, which is not a Dow stock, soared 26% on the news.

Investors are increasingly hungry to see data showing actual improvement in the global economy, not just a slowing contraction. Those hopes will be tested again this week by a flurry of key releases, including a widely anticipated U.S. jobs data due Friday.

"The key thing right now is that the consumer probably isn't dead, but he is severely injured," said strategist Stephen P. Wood, of Russell Investments. "In that environment, the global economy is going to be growing at a much less brisk pace for some time."

Analysts expect that U.S. nonfarm payrolls shed 200,000 jobs in August. The unemployment rate is expected to tick up to 9.6%, compared to 9.4% in July.

The dollar rose against the euro but declined against the yen, which rose after a historic electoral victory by the upstart Democratic Party of Japan. Treasury prices were higher.

U.S. Markets Wrap: Stocks Drop on Economic Data; Bonds Fall

By Matt Townsend and Fabio Alves

Aug. 5 (Bloomberg) -- U.S. stocks fell, dragging the Standard & Poor’s 500 Index down from a nine-month high, after reports on job losses and service industries were worse than economists estimated. Treasuries and the dollar also declined.

Procter & Gamble Co. slid 2.8 percent after profit fell on lower sales of higher-priced skin care products and detergents. Electronic Arts Inc. sank 6.8 percent after reporting a quarterly loss. Declines were limited as financial shares rallied after mortgage insurer Radian Group Inc. posted better- than-estimated results and commodity producers gained as aluminum and copper rose to the highest in at least nine months.

The S&P 500 fell for the first time in five days, slipping 0.3 percent to 1,002.72 at 4:07 p.m. in New York. The gauge climbed yesterday to 0.1 point below its close on Nov. 4, the day President Barack Obama was elected. The Dow Jones Industrial Average dropped 39.22 points, or 0.4 percent, to 9,280.97.

“Data is less bad, but it’s still going to be weak,” said Tim Hartzell, who manages $300 million as chief investment officer for Houston-based Sequent Asset Management. “The talk is all about the smaller companies that are now into that next phase of downsizing. That’s what we have to go through. There’s going to be some smaller and midsize companies that have to go out of business to reduce capacity.”

Yesterday’s advance pushed the valuation of the S&P 500 to about 17.5 times its companies’ earnings over the past 12 months, the highest level since May 2008, according to daily data compiled by Bloomberg.

Historic Rally

Since reaching a 12-year low of 676.53 on March 9, the S&P 500 has rebounded 48 percent, the steepest rally over the same number of days since the Great Depression. The S&P 500’s 14-day relative strength index, a measure of momentum, rose to almost 76 yesterday for its highest level since October 2006. An RSI above 70 is typically a sell signal to technical analysts.

Benchmark indexes opened lower after data from ADP Employer Services showed companies cut 371,000 workers from payrolls in July, more than the average estimate of 350,000 in a Bloomberg survey of economists. The figures from the world’s largest payroll processor have shown declines in employment since February 2008. The number of lost jobs has dropped each month since April and fell in July from 463,000 in June.

“I don’t think the lessening of the recession will carry weight much longer,” said Ron Kiddoo, who oversees $500 million as chief investment officer for Cozad Asset Management Inc., based in Champaign, Illinois. “It helped for the past few months, but it’s not going help forever.”

Equities extended losses as the Institute for Supply Management’s index of non-manufacturing businesses, which make up almost 90 percent of the economy, fell to 46.4 from 47 in June. Fifty is the dividing line between growth and contraction.

P&G Slumps

Procter & Gamble lost 2.8 percent to $53.91, leading a measure of consumer-staples companies in the S&P 500 down 1 percent for its biggest decline in a month, after saying fourth- quarter net income dropped 18 percent to $2.47 billion.

Electronic Arts, the world’s second-largest video-game publisher, sank 6.8 percent to $20.40. EBay Inc. dropped 1.1 percent to $21.61 as gauge of S&P 500 technology companies lost 0.9 percent.

Emerson Electric Co. fell 3.6 percent to $34.83 as industrial shares in the S&P 500 snapped a four day streak of gains. The maker of electronic products was cut to “neutral” from “buy” at FTN Equity Capital Markets Corp., which said fiscal year 2010 earnings may continue to be hurt by lower volumes.

Bond Drop

Treasuries declined for a third day after the U.S. announced it will sell a record $75 billion of notes and bonds at next week’s auctions and Goldman Sachs Group Inc. boosted its forecast for U.S. economic growth.

The yield on the 10-year note rose seven basis points, or 0.07 percentage point, to 3.76 percent at 4:16 p.m. in New York, according to BGCantor Market Data. The 3.125 percent security maturing in May 2019 fell 18/32, or $5.63 per $1,000 face amount, to 94 27/32.

Thirty-year bond yields touched their highest levels in a week as the government signaled it’s considering the introduction of 30-year Treasury Inflation Protected Securities and ending 20-year TIPS as it finances unprecedented budget deficits. Goldman Sachs, one of the 18 primary dealers that trade with the Federal Reserve, said GDP will grow at an annual rate of 3 percent in the second half of 2009, an increase over its previous forecast of 1 percent growth.

The dollar traded at $1.4423 per euro, compared with $1.4408. It touched $1.4447, the weakest level since Dec. 18.

The Dollar Index, which tracks the U.S. currency against six major counterparts, fell 0.3 percent to 77.745.

Crude oil futures expiring next month rose 0.8 percent to $71.97 a barrel on the New York Mercantile Exchange, the highest settlement since June 27.

A U.S. government report showed that fuel demand climbed 3.1 percent to 19.3 million barrels a day last week, the highest since the week ended Feb. 27. Supplies of distillate fuel, a category that includes heating oil and diesel, fell 1.14 million barrels to 161.5 million.

U.S. Markets Wrap: Stocks Gain, Bond Fall as Economy Rebounds

June 18 (Bloomberg) -- U.S. stocks snapped a three-day losing streak and Treasuries fell as reports on jobless claims and manufacturing added to evidence the recession may be near a bottom. The dollar and oil rose.

Bank of America Corp. and JPMorgan Chase & Co. climbed at least 4.4 percent as the number of people collecting unemployment insurance fell by the most in almost eight years. Alcoa Inc. and DuPont Co. added more than 1.7 percent as gauges of leading economic indicators and Philadelphia’s economy topped economists’ estimates. Discover Financial Services rallied as the credit-card company’s loan losses grew less than forecast.

“The market has run out of fantastic reasons to sell,” said Stephen Wood, who helps manage $136 billion as chief market strategist for North America at Russell Investments in New York. “Those Armageddon, Great Depression, worst-case scenarios being priced in a few months ago are now a low probability, and the recovery reflects that.”

The Standard & Poor’s 500 Index rallied 0.8 percent to 918.34 at 4 p.m. in New York. The Dow Jones Industrial Average advanced 57.59 points, or 0.7 percent, to 8,554.77. The Nasdaq Composite lagged other indexes, slipping less than 0.1 percent as SanDisk Corp. tumbled on an analyst downgrade.

Treasuries fell for a second day as the reports showed the deepest recession in 50 years may be ending and the U.S. said note sales will increase to a record $104 billion next week. The dollar gained 0.4 percent against the euro and oil rose 0.3 percent to $71.37 a barrel.

Ten-Year Yields

Ten-year yields touched the highest in almost a week amid concern President Barack Obama’s record borrowing will overwhelm demand. The difference in yield between 2- and 10-year notes widened to 2.56 percentage points, the most in over a week.

“There’s so much focus on the borrowing amounts Treasury will face over the next couple of years,” said Carl Riccadonna, a senior economist at Deutsche Bank Securities Inc., in New York. Deutsche is one of 17 primary dealers that trade with the Federal Reserve. “There’s evidence that the economy may be turning the corner. That’s pushing yields up.”

The 10-year note yield rose 13 basis points, or 0.13 percentage point, to 3.82 percent, according to BGCantor Market Data. It touched 3.84 percent, the highest since June 12. The 3.125 percent security maturing in May 2019 fell 1, or $10 per $1,000 face amount, to 94 9/32.

The U.S. Dollar Index, a six-currency gauge of the greenback’s value, gained 0.5 percent to 80.590.

Auctions

Stocks opened higher as the Labor Department said continuing jobless claims decreased by 148,000 to 6.69 million, the first drop since January, even after weekly initial claims increased 3,000 to 608,000. Gains accelerated after the Conference Board’s index of leading economic indicators climbed 1.2 percent and a Federal Reserve report showed Philadelphia- area manufacturing shrank at the slowest pace in nine months.

The Treasury said it will auction $40 billion in two-year notes on June 23, $37 billion of five-year debt the following day, and $27 billion of seven-year securities on June 25. The total is $3 billion more than when the government last sold notes of similar maturities and the most since the U.S. began sales of this combination of maturities in February.

Daniel Fuss, the Loomis Sayles bond fund manager who has matched the returns of Pacific Investment Management Co.’s Bill Gross for the past decade, isn’t tempted by Treasuries even after yields on the 10-year note have climbed more than 64 percent this year.

The Greenback

The dollar strengthened against the euro for the first time in three days on speculation changes in how the London interbank offered rate is set may increase the borrowing costs for the greenback outside the U.S.

Investors also abandoned bets that the euro would appreciate further after the common European currency failed to strengthen beyond $1.40. The British Bankers’ Association said it may allow more institutions to take part in the daily survey that sets Libor, the benchmark for more than $360 trillion of financial products around the world.

The dollar gained 0.4 percent to $1.3890 per euro at 3:34 p.m. in New York, from $1.3942 yesterday. It touched $1.4001. The dollar rose 1 percent to 96.66 yen.

Gold fell on speculation that a stronger dollar and an improving U.S. economy will reduce the metal’s investment appeal. Silver also declined.

Crude oil rose after the reports signaled that the U.S. economy will rebound later this year, prompting an increase in energy demand.

“The market is stubbornly holding up,” said Peter Beutel, president of Cameron Hanover Inc., an energy consulting company in New Canaan, Connecticut. “Prices are up on expectations that the economy is recovering and demand will strengthen.”

Crude oil for July delivery rose 27 cents, or 0.4 percent, to $71.30 a barrel at the 2:30 p.m. close of floor trading on the New York Mercantile Exchange. Futures dropped as much as 81 cents, or 1.1 percent, earlier today. Prices are up 60 percent this year and reached a seven-month high of $73.23 on June 11.

Financials Fall After Promise of Tougher Rules

U.S. Stocks Fall as Banks Drop on Credit Downgrades, Oil Slips

June 17 (Bloomberg) -- U.S. stocks fell for a third day after Standard & Poor’s downgraded the credit ratings of 22 banks and a drop in oil prices dragged down energy shares.

Wells Fargo & Co., BB&T Corp. and Capital One Financial Corp. retreated at least 3.9 percent after S&P said operating conditions for banks will become “less favorable.” Exxon Mobil Corp. and Chevron Corp. slid as a bigger-than- estimated increase in gasoline supplies dragged crude below $70 a barrel. FedEx Corp. tumbled 2.8 percent after forecasting earnings that may be less than half analysts’ estimates.

The S&P 500 declined 0.7 percent to 905.27 at 10:39 a.m. in New York after the index sank 3.6 percent in the previous two days, its worst two-day slump since April. The Dow Jones Industrial Average lost 29.63 points, 0.4 percent, to 8,475.04.

While President Barack Obama said “you’re starting to see the engines of the economy turn,” in an interview with Bloomberg News, he also said a full recovery will “take a long time.” The jobless rate will continue to climb from its current 25-year high of 9.4 percent to 10 percent, he said.

Obama stressed the need for reforms, including overhauling the health-care system, to generate the growth needed to reduce the budget deficit. The president in January inherited the worst financial calamity since the 1930s as the collapse of the subprime-mortgage market spurred almost $1.5 trillion in losses and writedowns at banks worldwide.

Fed Bets

Equity futures rose before the start of trading on growing speculation the Federal Reserve will hold off raising interest rates. Fed officials are considering whether to use next week’s policy statement to suppress speculation they will lift borrowing costs as soon as this year. While policy makers have signaled they accept an increase in longer-term Treasury yields as the economy improves, some are concerned at premature expectations of rate rises.

The cost of living in the U.S. rose less than forecast in May, culminating in the biggest 12-month drop in prices in almost 60 years. The consumer price index increased 0.1 percent after no change a month earlier, the Labor Department said. In the 12 months ended in May, costs dropped 1.3 percent, the biggest decline since 1950.

FedEx Corp. fell 3 percent to $49.88 after citing an “extremely difficult” economy for a disappointing earnings forecast. Earnings for the period ending in August will be 30 to 45 cents a share, FedEx said today, compared the 70-cent average of 11 estimates compiled by Bloomberg. The company didn’t provide a full-year outlook.

‘Raising Questions’

“Transportation is a good leading indicator for the economy because it gives us a sense of the level of orders that were just placed,” said Diane Garnick, who helps oversee $391.3 billion as investment strategist at Invesco Ltd. in New York. “If transportation continues to be as negative as it is now, valuations in the equity market might be looking pricier.”

The Media Fall for Phony 'Jobs' Claims

The Obama Numbers Are Pure Fiction.

• By WILLIAM MCGURN

Tony Fratto is envious.

Mr. Fratto was a colleague of mine in the Bush administration, and as a senior member of the White House communications shop, he knows just how difficult it can be to deal with a press corps skeptical about presidential economic claims. It now appears, however, that Mr. Fratto's problem was that he simply lacked the magic words -- jobs "saved or created."

"Saved or created" has become the signature phrase for Barack Obama as he describes what his stimulus is doing for American jobs. His latest invocation came yesterday, when the president declared that the stimulus had already saved or created at least 150,000 American jobs -- and announced he was ramping up some of the stimulus spending so he could "save or create" an additional 600,000 jobs this summer. These numbers come in the context of an earlier Obama promise that his recovery plan will "save or create three to four million jobs over the next two years."

Associated Press

The president should 'save or create' more jobs in Cleveland.

Mr. Fratto sees a double standard at play. "We would never have used a formula like 'save or create,'" he tells me. "To begin with, the number is pure fiction -- the administration has no way to measure how many jobs are actually being 'saved.' And if we had tried to use something this flimsy, the press would never have let us get away with it."

Of course, the inability to measure Mr. Obama's jobs formula is part of its attraction. Never mind that no one -- not the Labor Department, not the Treasury, not the Bureau of Labor Statistics -- actually measures "jobs saved." As the New York Times delicately reports, Mr. Obama's jobs claims are "based on macroeconomic estimates, not an actual counting of jobs." Nice work if you can get away with it.

And get away with it he has. However dubious it may be as an economic measure, as a political formula "save or create" allows the president to invoke numbers that convey an illusion of precision. Harvard economist and former Bush economic adviser Greg Mankiw calls it a "non-measurable metric." And on his blog, he acknowledges the political attraction.

"The expression 'create or save,' which has been used regularly by the President and his economic team, is an act of political genius," writes Mr. Mankiw. "You can measure how many jobs are created between two points in time. But there is no way to measure how many jobs are saved. Even if things get much, much worse, the President can say that there would have been 4 million fewer jobs without the stimulus."

Mr. Obama's comments yesterday are a perfect illustration of just such a claim. In the months since Congress approved the stimulus, our economy has lost nearly 1.6 million jobs and unemployment has hit 9.4%. Invoke the magic words, however, and -- presto! -- you have the president claiming he has "saved or created" 150,000 jobs. It all makes for a much nicer spin, and helps you forget this is the same team that only a few months ago promised us that passing the stimulus would prevent unemployment from rising over 8%.

It's not only former Bush staffers such as Messrs. Fratto and Mankiw who have noted the political convenience here. During a March hearing of the Senate Finance Committee, Chairman Max Baucus challenged Treasury Secretary Timothy Geithner on the formula.

"You created a situation where you cannot be wrong," said the Montana Democrat. "If the economy loses two million jobs over the next few years, you can say yes, but it would've lost 5.5 million jobs. If we create a million jobs, you can say, well, it would have lost 2.5 million jobs. You've given yourself complete leverage where you cannot be wrong, because you can take any scenario and make yourself look correct."

Now, something's wrong when the president invokes a formula that makes it impossible for him to be wrong and it goes largely unchallenged. It's true that almost any government spending will create some jobs and save others. But as Milton Friedman once pointed out, that doesn't tell you much: The government, after all, can create jobs by hiring people to dig holes and fill them in.

If the "saved or created" formula looks brilliant, it's only because Mr. Obama and his team are not being called on their claims. And don't expect much to change. So long as the news continues to repeat the administration's line that the stimulus has already "saved or created" 150,000 jobs over a time period when the U.S. economy suffered an overall job loss 10 times that number, the White House would be insane to give up a formula that allows them to spin job losses into jobs saved.

"You would think that any self-respecting White House press corps would show some of the same skepticism toward President Obama's jobs claims that they did toward President Bush's tax cuts," says Mr. Fratto. "But I'm still waiting."

The decline and fall of General Motors

Detroitosaurus wrecks

The lessons for America and the car industry from the biggest industrial collapse ever

THE demise of GM had been expected for so long that when it finally died there was barely a whimper. Wall Street was unmoved. Congress did not draw breath. America shrugged. Yet the indifference with which the news was received should not obscure its importance. A company which once sold half the cars in America, employed in its various guises as many people as the combined populations of Nevada and Delaware and was regarded as a model for managers all over the world has just gone under; and its collapse holds important lessons about management, about government and about the future of the car industry (see article, article).

Government and GM: a fatal mixture

GM’s architect, Alfred Sloan, never had Henry Ford’s entrepreneurial or technical genius, but he had organisation. He designed his company around the needs of his customers (“a car for every purse and purpose”). The divisional structure he created in the 1920s, with professional managers reporting to a head office through strict financial monitoring, was adopted by other titans of American business, such as GE, Dupont and IBM before the model spread across the rich world.

Although this model was brilliantly designed for domination, when the environment changed it proved disastrously inflexible. The problem in the 1970s was not really the arrival of better, smaller, lighter Japanese cars; it was GM’s failure to respond in kind. Rather than hitting back with superior products, the company hid behind politicians who appeared to help it in the short term. Rules on fuel economy distorted the market because they had a loophole for pickups and other light trucks—a sop to farmers and tool-toting artisans. The American carmakers exploited that by producing squadrons of SUVs, while the government restricted the import of small, efficient Japanese cars. If Detroit had spent less time lobbying for government protection and more on improving its products it might have fared better. Sensible fuel taxes would have hurt for a while, but unlike market-distorting fuel-efficiency rules, they would have forced GM to evolve.

As for the health and pension costs which have helped sink GM, the company and the government bear joint responsibility for those too. After the war GM rejected a mutual scheme that the unions wanted because it smacked of socialism; and around the same time, the company agreed to give retired workers full pensions and health care for life. But if successive administrations had dealt with America’s expensive and inadequate health care—a problem with which Barack Obama is now wrestling (see article)—the cost of those union demands would have been far lower. None of GM’s competitors has had to shoulder costs per worker anything like as heavy: until an agreement in 2007 with the union, each car in Detroit carried about $1,400 in extra pension and health-care costs compared with the foreign-owned competitors in America.

GM, Ford and Chrysler tried to improve: by 2006 they had almost caught up with Japanese standards of efficiency and even quality. But by then GM’s share of the American market had fallen to below a quarter. Rounds of closures and job cuts were difficult to negotiate with unions, and were always too little too late. Gradually the cars got better, but Americans had moved on. The younger generation of carbuyers stayed faithful to their Toyotas, Hondas or Mercedes assembled in the new cheaper car factories below the Mason-Dixon line. GM and the other American firms were left with the older buyers who were, literally, dying out.

GM’s demise should not be read as a harbinger of doom for the car industry. All around the world people want wheels: a car tends to be the first big purchase a family makes once its income rises much above $5,000 a year, in purchasing-power terms. At the same time as people in developing countries are getting richer, more efficient factories and better designs are making cars more affordable. That is why the IMF forecasts that the world will have nearly 3 billion cars in 2050, compared with around 700m cars today. In the next five or six years the Chinese will overtake the Americans in terms of annual car sales: in 40 years’ time the Chinese will have almost as many cars as exist in the whole of the world now. Indeed, GM’s own experience abroad shows the promise of emerging markets. Brazil has long been a source of profits, and GM has a leading position in China.

Yet although the long-term prospects for sales growth look excellent overall, the car industry has a problem: it needs to shrink dramatically. At present, there’s enough capacity globally to make 90m vehicles a year, but demand is little more than 60m in good economic times. Even as the big global manufacturers have been building new factories in emerging markets, governments in slow-growing rich-world markets have been bribing them to keep capacity open there.

Because the industry employs so many people and is a repository of high technology, governments are easily lured into the belief that car firms must be supported when times are tough. Hence Mr Obama’s $50 billion rescue of GM; and hence, too, the German government’s financial backing for the sale of Opel, GM’s European arm, to Magna, a Canadian parts-maker backed by a Russian state-owned bank. German politicians have made it clear that they plan to keep German factories open even if others elsewhere in Europe have to close. At least the American rescue recognises the need to remove capacity from the market: GM will, as a result of the deal, lose 14 factories, 29,000 workers and 2,400 dealers.

It could still be a great business

For all its peculiarities, the car industry is no dinosaur—Toyota, for instance, is a byword for manufacturing excellence. But the unevolved GM deserved extinction. Detroit employed so many people and figured so large in American culture that governments felt they had to protect it; but in doing so, they made it vulnerable to less-coddled competitors from abroad. By trying to keep their car industry big, America’s leaders ended up preventing it from becoming good. There is a lesson in that which all governments would do well to learn.

Indexes Edge Up, but Banks Fall in Bumpy Session

PETER A. MCKAY GEOFFREY ROGOW

Stocks built on Monday's rally in a broad push higher on Tuesday as investors digested encouraging housing data, though a rising supply of shares in several Wall Street bellwethers damped financials.

Major indexes have seesawed between gains and losses all day. The Dow Jones Industrial Average rose 19.43 points, or 0.2%, to 8740.87, leaving it down just 0.4% for the year to date. At its morning high, the blue-chip measure rose about 66 points, almost 11 points above its 2008 close of 8776.39.

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The Dow was boosted by a gain of 7% in Alcoa, which rose amid an uptick in metals prices as the dollar fell. August gold rose $4.40 to $984.40 an ounce on the Comex division of the New York Mercantile Exchange. July silver rose 22 cents to $15.955 and peaked at $16.02, its highest mark since August. The U.S. Dollar Index sank 1%.

The S&P 500 rose 1.87 points, or 0.2%, to 944.74. Its materials sector gained 1%. The S&P moved above its 200-day moving average of about 920 early on Monday, a development that many investors see as a bullish sign. Technicians are looking for the index to stay above that level for at least three days before confirming a broad uptrend.

"This is a total technical rally," said Dave Rovelli, managing director for U.S. equity trading at Canaccord Adams. "I wouldn't buy stocks here unless you had a real long-term horizon."

The Nasdaq Composite Index climbed 8.12 points, or 0.4%, to 1836.80.

Financial stocks, which have lagged the market in its most recent leg up, were a drag on major indexes after a number of large banks said they would sell shares to raise capital to pay back government bailout funds. Regulators said that large banks must prove they can raise money from private investors before exiting the Troubled Asset Relief Program.

American Express sank 4.9% and J.P. Morgan Chase dropped 4.5% after both surprised investors by saying they'd sell stock. Morgan Stanley rose 0.7% after it said that it's planning a $2.2 billion stock offering.

Phil Roth, a market analyst at Miller Tabak & Co. in New York, said that it's somewhat troublesome that the S&P's financial sector has underperformed the broader market lately.

"We're not seeing a lot of divergences on the charts right now, but that one is interesting, considering how much of a leader the financials had been on the upside before," said Mr. Roth. He added: "I think the market could have a little farther to go, but we've probably seen the majority of the gains."

On a more welcome note for investors, the National Association of Realtors said pending sales of existing homes in April rose 6.7% -- the biggest monthly jump in eight years. The data built on a flurry of other recent reports suggesting that the housing market and the broader economy are stabilizing.

Jerry Kallas, a managing director at Terra Nova Financial in Chicago, said it's been promising to see reports come in better than expected in recent weeks, including measures of personal income, consumer confidence, jobless claims, and manufacturing activity in the U.S.

Investors bid markets modestly higher, following a bumpy trading session. Auto makers continue to hog the spotlight, as auto sales were reported on the heels of GM's bankruptcy news. Dave Kansas reports.

However, he said the one nagging concern is that the government's monthly jobs reports have remained lackluster, a trend that will again be put to the test Friday when the Labor Department is due to issue May's tally of U.S. payrolls. Analysts expect to see a decline of about 525,000 jobs, roughly in line with the big losses that have become the norm since last fall's credit crisis.

"If we were to get even a 200,000 number at some point, the market would go screaming higher," said Mr. Kallas. "But it's too early yet for that."

Treasury prices, which have been under heavy pressure lately, stabilized. The 10-year note rose 20/32, yielding 3.638%. The 30-year bond, which is closely tied to the mortgage market, gained 23/32 to yield 4.492%.

Harold Lavender, an independent futures trader in Chicago active in contracts on Treasurys and the Dow, said that traders there were heartened by both the housing data and the possibility that some banks might pay off their loans from the government's bailout fund after the latest round of capital raising.

"The real question now is whether the [stock] market has the ability to sustain an up move," said Mr. Lavender. "What's tempering things are concerns about commercial real estate and consumer debt. We know those things are lurking out there with the potential to cause problems over the next few months."

Stocks Up on ISM

Stocks Up on ISM; Treasurys Fall

PETER A. MCKAY GEOFFREY ROGOW

Better-than-expected data on personal income, manufacturing and construction propelled the S&P 500 to a new 2009 high on Monday, but renewed inflation fears continued to chill the bond market.

Stock investors' sentiment was also lifted by a landmark bankruptcy filing by General Motors. The filing had been expected for months, with market veterans hoping to move on quickly.

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"There is a positive, relief reaction to this filing. It's been hanging over all of our heads and pulling the trigger on this bankruptcy just eliminates one major cloud of question," said Elizabeth Miller, president of Summit Place Financial Advisors.

The S&P jumped 23.73 points, or 2.6%, to 942.87, the highest close for the index since Nov. 5, 2008. The measure has now risen 4.4% for 2009 to date.

The Dow Jones Industrial Average gained 221.11 points, or 2.6%, to 8721.44. It was the highest close for the benchmark, which is now down by just 0.6% for the year, since January 8. Exxon Mobil and Chevron jumped 3.5% and 3.8%, boosted by strong gains in oil and other commodities. Other big winners among the blue chips included Caterpillar, up 5.9%, and Alcoa, up 6.6%.

The market opened higher as a government report on personal income came in above analysts' views, with the market also lifted by a positive report on April construction. Gains accelerate after the Institute of Supply Management said its index of U.S. manufacturing activity rose to 42.8 in May from 40.1 in April. The increase was bigger than analysts expected, though the latest reading was still low enough to signal that the manufacturing sector remains in contraction.

The Nasdaq Composite Index gained 54.35 points, or 3.1%, to 1828.68. It is up 16% for the year. The Russell 2000 jumped 19.75, or 3.9%, to 521.33, leaving it up 4.4% for the year so far.

The market also seemed to benefit on Monday from early-month buying by money managers putting cash to work in June's first trading session. But the market could soon be due for a pullback, especially since bond yields are creeping high enough that they may soon draw buyers' attention away from stocks, said Roger Volz, director of equities at BGC Partners in New York.

"This market move has some real power that could take the S&P to the 1000 area," said Mr. Volz. But he added, referring to the yield on benchmark 10-year Treasury notes: "Once you get to the 3.90% area, you could start to get rate jitters in the stock market."

The 10-year note dropped 1-24/32 to yield 3.675%. The two year note was down 2/32 to yield 0.954%.

Ed Yardeni, president of Yardeni Research, said in a note to clients on Monday that several hedge funds he's been in contact with have begun to short Treasurys more aggressively.

"They've joined other bond vigilantes in recent weeks to push yields higher," said Yardeni. "The ones I met in Connecticut believe that fiscal and monetary policies are out of control. They see huge federal deficits putting a great deal of pressure on the Fed to monetize the debt," by effectively printing money to pay off the Treasury's obligations.

The dollar was mixed, strengthening versus the Japanese yen but falling to $1.4144 versus the euro.

Bloomberg News/Landov

A television monitor broadcasts a live speech by Fritz Henderson, CEO of General Motors, as traders work at the New York Stock Exchange June 1.

Crude futures settled at $68.58 a barrel, up $2.27 or 3.4% on the New York Mercantile Exchange. Traders' hopes for a turnaround in global fuel demand were bolstered by both the ISM report and data showing that China's manufacturing sector grew moderately last month. Other raw materials also rose. The Dow Jones-UBS Commodity Index was up 3.4%.

GM filed for Chapter 11 protection early Monday. The Obama administration is promising that the company can move quickly through reorganization, much like Chrysler, which could exit bankruptcy as soon as Monday. A judge approved the sale of most of Chrysler's assets to alliance partner Fiat.

The car maker will be removed from the Dow along with ailing Citigroup. The companies will be replaced by Cisco Systems and Travelers Co. effective June 8, according to Dow Jones & Co., which owns the average and is also publisher of The Wall Street Journal. Cisco rose 5.4%, while Travelers shares rose 3.1%.

Though Monday's gains in major averages were impressive, they took place on relatively light volume. Strategist Carmine J. Grigoli, of Mizuho Securities in New York, said that the muted activity reflected lingering skepticism among investors that corporate profits will rebound sufficiently in the months ahead to warrant buying stock to hold onto for the long term.

"There are some promising signs in the economy, but don't fool yourself," said Mr. Grigoli. "A lot of what we're seeing here is the correction of extreme risk aversion," after a period in which stocks and bonds were priced as if the U.S. were headed into a depression.

In a recent research note, Mr. Grigoli was bullish on stocks but also warned clients: "Concern about interest rates could set the stage for the first meaningful correction of this bull market" in the near future.

U.S. Stocks Fall as Banks, Commodity Shares Drop

U.S. Stocks Fall as Banks, Commodity Shares Drop

April 20 (Bloomberg) -- U.S. stocks declined, indicating the market may retreat following six weeks of gains, as concern grew that credit losses are worsening and lower commodity prices dragged down energy and material producers.

Bank of America Corp., the lender that’s fallen 72 percent in the past year, tumbled 11 percent as rising charge-offs for uncollectible loans overshadowed better-than-estimated earnings. Citigroup Inc. dropped 12 percent as Goldman Sachs Group Inc. said the bank’s credit losses are growing at a “rapid rate.” U.S. Steel Corp. and Halliburton Co. declined as oil and industrial metal prices decreased.

The Standard & Poor’s 500 Index slid 1.9 percent to 853.48 at 9:35 a.m. in New York. The Dow Jones Industrial Average lost 130.47 points, or 1.6 percent, to 8,000.86. The Russell 2000 Index of small companies fell 2.1 percent.

“We’ve had a big rally for six weeks and I wouldn’t be surprised to a see consolidation phase that could last anywhere from two to four weeks,” said Bruce Bittles, the Nashville-based chief investment strategist at Robert W. Baird & Co., which oversees $16 billion. “Financials had a bigger run than the market and certainly they are not out of the woods as well as the rest of the economy.”

The S&P 500 wrapped up its steepest six-week gain since 1938 on April 17, as profits at Goldman Sachs and JPMorgan Chase & Co. ignited gains in bank shares. The rally may falter as a prolonged recession dents corporate earnings, George Hoguet, global investment strategist at Boston-based State Street Global Advisors Inc., said in an April 18 interview.

Leading Indicators

The S&P 500 surged 29 percent from a 12-year low on March 9 through last week as banks including Citigroup said they were profitable at the start of the year and expectations grew that the worst of a global recession is past. The index of U.S. leading indicators for March may today show the longest economic slowdown in the post-World War II era will start loosening its grip in coming months.

The gauge of the outlook over the next three to six months dropped 0.2 percent following a 0.4 percent February decrease, according to the median estimate of 40 economists surveyed by Bloomberg News. The New York-based Conference Board’s index is due at 10 a.m. Washington time.

Analysts estimate that profits at S&P 500 companies decreased for the seventh straight quarter in the January to March period, the longest stretch of declines since at least the Great Depression.

‘Pullback’

“We’re likely to see a pullback in stock markets as earnings disappoint,” Hoguet said in an interview in Shanghai. “We are undergoing a severe shock and the global economy will take several quarters to get back to trend growth.” State Street Global Advisors oversees $1.4 trillion.

Bank of America fell 11 percent to $9.43 even after saying first-quarter net income more than tripled on gains from home refinancing and trading.

Citigroup declined 45 cents, or 12 percent, to $3.20. The bank’s credit losses are growing at a “rapid rate,” undermining Chief Executive Officer Vikram Pandit’s efforts to stabilize the company, according to Goldman Sachs.

While Citigroup posted first-quarter net income of $1.6 billion last week, the New York-based bank suffered an “underlying” loss of 38 cents a share, Richard Ramsden, a Goldman Sachs analyst, wrote in a research note dated yesterday. He repeated a “sell” rating on the stock.

American International Group Inc. fell 7.4 percent to $1.50. The insurer bailed out by the U.S. agreed to sell preferred stock and warrants for common shares to the government in return for access to $29.8 billion.

Stress Tests

Obama administration officials signaled there may be no need to request more financial-rescue funds from Congress as several banks plan to return taxpayer money and others are pushed to tap private markets first.

The White House chief of staff, Rahm Emanuel, said while he had not seen results of stress tests on the 19 biggest banks, he believed the White House won’t have to request more bailout funds.

“The first resort for more capital is going to the private markets,” by issuing new equity or swapping some liabilities into stock that dilutes other stakeholders, National Economic Council Director Lawrence Summers said.