Save the Investors -- and Yourselves: Some political/economic advice for the GOP.

Investors are confused and angry these days, upset that their good fortune has proved temporary. Republican congressmen are in a similar mood. They thought that the president's popularity would help them this November. They knew that investors were unhappy about the corporate scandals, but they figured that they had adequately responded to that sentiment in April, when the House passed an accounting-reform bill. But the stock market has kept falling, and so has the percentage of Americans who, in polls, say that the country is "on the right track."

So now the Republicans are nervous. Paul Ryan, a GOP House member from Wisconsin, says that his colleagues think that the scandals "could wreak a lot of damage" and are therefore in a "rush to stampede over each other to get something into law." Some Republicans are grumbling that President Bush didn't take an early lead on corporate reform and has not been able to reassure the financial markets. As to what Bush should do now, however, these folks generally don't have much advice.

Some Republicans seem not to understand the first, most obvious lesson of the corporate scandals: The investor class matters. Roy Blunt, a leading House Republican, downplayed the significance of Wall Street's slide on Crossfire: "The stock market doesn't measure the economy." Twenty years ago, when only a fifth of American households held stock, a politician could get away with shrugging off a bear market that way. When over three-fifths of voters have investments in stocks, however, the markets are politically important in their own right. When people are losing substantial portions of their retirement assets, it is no consolation to tell them that the economy is growing and unemployment is low.

In the late 1990s, Republicans became persuaded that the millions of Americans who were entering the capital markets would be a natural constituency for them. They had evidence to back this view. But Republicans neglected the task of organizing these voters or appealing to their interests. The initial Bush tax-cut plan included no provisions to expand 401(k)s, for example. (Congress added them later.) A recent briefing by top White House political aides on the constituencies the administration is courting -- a briefing that was leaked to the media -- didn't even mention investors.

When the corporate scandals broke, Democrats and the media were quick to tell investors that they ought to want more regulation and that Republicans were the party of corrupt corporate executives, not small investors. Republicans had not spent the previous years defining themselves as the party of investors or defining investors' interests in free-market terms. Nor had they created grassroots organizations to represent investors. If they had, they would have been in a better position both to fend off regulatory legislation and to mitigate the political damage from the scandals.

Pollster John Zogby says that investors are the key swing group in this year's elections. They had favored Republicans by a ten-point margin in the past, but they are now expressing only a slight preference for them. Since non-investors are heavily Democratic, that's bad news for the GOP.

Why are investors in a foul mood? It's not just the corporate scandals. It's their interaction with the bear market. When people's portfolios are rising, they find news about corporate fraud a lot less annoying; indeed, they take less interest in it. When the market is tanking, the idea that CEOs have been ripping off shareholders adds insult to injury. And when people get it into their heads that the reason the market is tanking is that the CEOs have been ripping off shareholders, they are understandably furious.

The prevailing assumption in Washington has been that the markets are waiting for Congress to enact, and the president to sign, regulations that would deter corporate fraud. These regulations would increase investor confidence and get the markets rising again. But if the markets are depressed for other reasons -- because of weak earnings, or the administration's tariffs, or its apparent weak-dollar policy, or the generally anti-business political climate -- all these regulations will fail to revive them and may even demoralize them further. In that case, voters will still see their savings shrink and still be angry.

Conversely, some policies that do not directly address corporate fraud may improve the health of the markets and reduce voters' anger. If Bush were to get behind deregulation of broadband, for example, telecommunications stocks might revive. If he were to index capital- gains taxes for inflation (a reform that some authorities believe he has the legal right to make unilaterally), stock prices could be expected to rise in all sectors.

Most Republican officials regard such an agenda as otherworldly in the current anti-business, anti-market environment. Instead, they are contributing to that environment. They are not pointing out that the stock market is being depressed not only by lack of confidence in corporate executives, but also by fear of a regulatory overreaction by Washington. They are not vowing to resist such an overreaction. They are saying, rather, that the House Republicans passed regulations faster than the Senate Democrats did, and hoping that voters will buy this counter-intuitive spin.

Republicans are trying to show voters that they are just as anti-Big Business as the Democrats. It won't work. As former congressman Vin Weber, a Republican, says, "There is a deep-seated impression that we're the party of business. The notion that we are, in the middle of a corporate crisis, going to convince people that the Republicans are going to be tough on business is just bizarre." But the political demand of the moment is not that politicians be "anti-business" anyway. It's that they be pro-investor.

Republicans must find a way to be against abusive managements but pro- investor. They should tell investors that they are for reforms that punish errant CEOs but against "reforms" that punish them. Perhaps Republicans could propose to eliminate legal restrictions on hostile takeovers. Takeovers, and the threat of takeovers, are a way of asserting investors' interests over those of possibly self-serving managements. Congressman Ryan is considering introducing a bill to bring takeovers back.

Or Republicans could suggest cutting taxes on corporate dividends. By discouraging dividends, tax policy has encouraged companies to retain too much of their profits and, sometimes, to spend this money on excessive compensation packages for executives. Dividends are an important signal that a company's earnings are real. Suppressing that signal has made fraud easier. Democrats would, of course, say a dividend tax cut was a tax cut "for the rich" -- although rich people do not, as a rule, invest for dividend streams -- but so what? Investors aren't hostile to rich people. They're mad at fraudulent CEOs.

If they do not advance distinctively conservative answers to the corporate scandals, Republicans will condemn themselves to play defense for several months. But if they are unwilling to reconsider their legislative strategy, they should at least reconsider their rhetoric. On July 15, President Bush said that America "must get rid of the hangover that we now have as a result of the binge, the economic binge we just went through." A few days before, a Treasury official had said that stocks were still overvalued.

Bush's remarks are, in part, a too-cute way of blaming the bear market on his predecessor while not saying his name. But it is not true that the entire boom of the 1990s was an illusion. Yes, some sectors of the economy seem to have floated free from reality. It also appears that Alan Greenspan, in following an easy-money policy to avoid Y2K disruptions, inflated the stock markets between late 1998 and early 2000. But these are footnotes. The 1990s saw real gains in productivity, real technological advances, and real wealth creation.

Millions of Americans started to invest in the stock market over the last decade, and started to move rightward politically as a result. Even now, more Americans favor a reform of Social Security based on individual investment than oppose it. Does it really make sense for the Republican party to tell these people that their experience of capitalism has been a fraud and a lie?