[Marxism] Why It’s Worse Than You Think
lnp3 at panix.com
Mon Jun 9 07:20:06 MDT 2008
Why It’s Worse Than You Think
For months, economic Pollyannas have looked beyond the dismal headlines
and promised a quick recovery in the second half. They're dead wrong.
The forgettable first half of 2008 is stumbling to a close. On Friday,
the Labor Department reported that American employers axed 49,000 jobs
in May, the fifth straight month of job losses—an event that signals a
recession sure as the glittery ball dropping on Times Square augurs a
New Year. The report, which inspired a 394-point decline in the Dow
Jones Industrial Average Friday, was the latest in a run of bad news.
Auto sales, the largest retailing sector in the U.S., were off 10.7
percent in May from the year before. And housing? Ugh. Nationwide,
according to the Case-Shiller Index, home prices in the first quarter
fell 14 percent.
Yet hope springs eternal that the second half will be better than the
first. Economists polled by the Federal Reserve Bank of Philadelphia in
May believe the economy will grow at an annual rate of 1.7 percent and
1.8 percent in the third and fourth quarters, respectively. Lawrence
Yun, chief economist at the National Association of Realtors, tells
NEWSWEEK that "home sales and prices in most of the country will improve
during the second half of 2008." (Yun is the Little Orphan Annie of
forecasters. He's always sure the sun will come out tomorrow.) Last
month, Treasury Secretary Henry Paulson said, "We expect to see a faster
pace of economic growth before the end of the year."
The cause for optimism: the U.S. has called in the economic cavalry,
which has responded in textbook fashion. The Federal Reserve has
aggressively cut interest rates, bringing the Federal Funds rate down
from 5.25 percent last September to 2 percent. Earlier this spring,
Congress and President Bush, in a rare moment of bipartisan accord,
passed a stimulus package, which will shove nearly $100 billion into the
pockets of American consumers by mid-July.
But this downturn is likely to last longer than the eight-month-long
recession of 2001. While the U.S. financial system processes popped
stock bubbles quickly, it has always taken longer to hack through the
overhang of bad debt. The head winds that drove the economy into this
dead calm— a housing and credit crisis, and rising energy and food
prices—have strengthened rather than let up in recent months. To
aggravate matters, the twin crises that dominate the financial news—a
credit crunch and the global commodity boom—are blunting the stimulus
efforts. As a result, the consumer-driven economy may not bounce back as
rapidly as it did in the fraught months after 9/11.
As it seeks to regain its footing in the second half, the U.S. economy
faces two significant obstacles, neither of which was evident in 2001.
The first is entirely homegrown: the self-inflicted wounds of the
promiscuous extension and abuse of credit in the housing and financial
sectors. The second is a global phenomenon that has comparatively little
to do with American behavior: rampant inflation in commodities such as
oil, food, and steel. These trends have conspired to inflict genuine
economic pain and deflate consumer confidence. The Conference Board's
Consumer Confidence Index in May slumped to a 16-year low.
While the treatment of the current malaise has been essentially
identical to the reaction to the 2001 slump—aggressive Federal Reserve
rate cuts and tax rebates—the symptoms are quite different. In 2001, an
implosion in the technology sector and a slump in business investment
pushed the economy over the edge. Even though some 3 million jobs were
shed between 2001 and 2003, consumers soldiered on through the downturn.
"We had a massive reduction in both long- and short-term interest rates,
which set off the housing and consumption boom," says Ian Morris, chief
U.S. economist at HSBC. (Remember zero-percent car loans?) This time,
it's the opposite. While businesses—especially those that export—are
holding up, the economy is being dragged down by the cement shoes of a
freaked-out consumer and a punk housing market.
The difficulties today start—as they began last year—with housing and
housing-related credit. Last Thursday, the Mortgage Bankers Association
quarterly report showed that the percentage of mortgage borrowers behind
on their payments—6.35 percent—was the highest since the MBA began
tracking the number in 1979. It's not just subprime. In the first
quarter of 2008, 36 percent of all foreclosures initiated were on prime
adjustable-rate mortgages in California. Mark Zandi, chief economist of
Moody's Economy.com, says the decline in home prices has slashed $2.5
trillion from household wealth, or about $25,000 per homeowner. The fall
has also removed an important source of support for consumer spending,
as Americans who grew accustomed to borrowing against rising home equity
to finance car purchases or vacations now find themselves bereft. Banks
are extricating themselves from the home-equity-line-of-credit business
in the same way college students get themselves out of relationships
gone bad: abruptly. Judi Froning, a second-grade teacher in San Diego,
was surprised last week when she received a letter from Chase informing
her that it was terminating her untapped HELOC. "In the light of
declining home values, they said they are stopping, effective May 31,
any draw on my line of credit," she says.
Despite repeated claims that the damage has been contained, the banks
that recklessly financed the housing boom—and then traded mortgage debt
even more recklessly—are still cleaning up the mess. But it turns out
(surprise!) the same sort of clouded judgment led banks to excesses in
commercial lending, and in loans to private-equity firms. The battered
financial system, which has raised tens of billions of dollars on
onerous terms from new investors to shore up balance sheets, is still
likely to suffer more pain from the popped credit bubble, said Bruce
Wasserstein, the CEO of the investment bank Lazard, speaking at a New
York breakfast. "The harm will radiate for another year." The latest
victim: Wachovia CEO G. Thompson Kennedy, cashiered after the North
Carolina-based bank suffered a string of losses. Next up: write-offs for
bad credit-card and commercial realestate debt. After a serene period
between 2004 and '07 in which the Federal Deposit Insurance Corp. went
without a single bank failure, four have gone under so far this year.
FDIC chairperson Sheila Bair warned of the "possibility that future
failures could include institutions of greater size than we have seen in
the recent past." In preparation, the agency has brought staffers out of
The financial system is supposed to be a tube, transmitting lower
interest rates. Banks borrow from the Fed, and pass through lower costs
to customers and to the markets at large. But today banks are acting
more like dried sponges, absorbing the liquidity the Fed is providing to
shore up their balance sheets and make up for losses, rather than
releasing the cash into the economy. The Federal Reserve reports that in
April, 55 percent of commercial banks said they are tightening lending
standards on commercial loans, up from 30 percent in January. Judy
Eisenbrand, a Moorpark, Calif., real-estate agent, notes that buyers
also can't get loans as easily today, even in strong markets. "The
standards are so much stricter than they were during the boom days," she
The upshot: the Fed's adrenaline isn't really circulating through the
commercial bloodstream. According to mortgage-data firm HSH, rates on
conforming 30-year mortgages (under $417,000) have only fallen
marginally since the Fed began cutting rates, from 6.4 percent on Sept.
21 to 6.17 on May 30, while jumbo loan rates haven't budged at all.
Worse, this may be as good as it gets. Last Tuesday, Federal Reserve
chairman Ben Bernanke indicated that the Fed may be done cutting rates.
Why? "Inflation has remained high," Bernanke said, "largely reflecting
continuing sharp increases in the prices of globally traded commodities."
Economists say it generally takes nine to 12 months for Federal Reserve
interest-rate cuts to work their way into the system. By contrast,
sending checks to consumers tends to produce quick results. Some
retailers have reported a surge of business spurred by the tax rebates.
But consumers are shopping for necessities, not discretionary items.
Sales at Wal-Mart and Costco were up in May, while sales at Kohl's and
Nordstrom were down. David Rosenberg, chief economist at Merrill Lynch,
argues that higher food and gas prices are eating the rebate. Follow the
math. The rebate checks will total about $120 billion. Studies suggest
that about 40 percent of that total, or about $48 billion, will be spent
in short order; the rest will be saved or spent later. Rosenberg reckons
that higher energy costs—crude-oil prices are up 40 percent so far in
2008—are draining about $30 billion out of household cash flow per
quarter, and that food inflation, running at a 9 percent annualized
rate, drains another $20 billion per quarter. "So instead of the
stimulus being filtered into real economic activity, it's being diverted
into the checkout counter at Albertson's and the gas station," he says.
Last November, retired school principal Barbara McGeary, 75, of Camp
Hill, Pa., switched from a Toyota Rav 4 SUV to a Prius. But the savings
she realizes are eaten by a higher food bill. "When I go to the grocery
store, I see prices have doubled on some of the things I'm purchasing,"
she says. Last year she paid $3.99 for a container of about two dozen
brownies. Now that they're retailing for $8.49, she bakes her own.
McGeary and her husband are also eating at home more than ever.
"Restaurants, of course, have had to increase their prices," she says.
While the housing and credit crisis is homegrown, the higher prices for
high-octane gasoline and corn chips are effectively imports.
Historically, or at least since the end of World War II, if the U.S.
sneezed, the world caught a cold. When we used more gas, oil prices
rose, and when we used less gas, oil prices fell. As GM vice chairman
Bob Lutz points out, "Usually petroleum prices were the first to react
to a severe U.S. slowdown." In the past it would have been unthinkable
for oil to spike if Americans were cutting back.
Many factors, from a weak dollar to rising speculation, are behind the
higher commodity prices. But at root, $4-per-gallon gasoline and
$20-per-pound steaks are largely a function of the changing economic
geography, and the diminished stature of the U.S. Last January, the talk
of the World Economic Forum in Davos (aside from the locale of the
Google party) was the prospect of "decoupling"—the notion that India and
China could maintain their breakneck economic growth rates even if the
U.S. pooped out. Five months later, the global economy seems to have
decoupled faster than Jessica Simpson and John Mayer. The world is
growing without us. "My impression is that China and India both have
sufficient domestic demand-led growth to continue to have vibrant growth
even if the U.S. has a sustained period of difficulty," former Treasury
secretary Robert Rubin tells NEWSWEEK. Producers of commodities are
enjoying the fruits of higher prices. Sorry, Tom Friedman, the world is
no longer flat. "It is upside down," says Mohamed El-Erian, co-CEO of
bond mutual-fund giant PIMCO. "The growing robustness of the emerging
economies enables them to step up to the global plate at a time when the
U.S. has to take a breather in order to put its financial house in
order." This rampant global economic growth—more people eating better,
more people driving, more people using electricity—is translating into
higher prices at the Stop & Shop.
The situation we're in is nowhere near stagflation—the consumer price
index is rising at a 3 percent annual rate, compared with 13 percent in
1979. But it's still a shock to the system. Fuel surcharges have become
de rigueur from exterminators to personal trainers. On May 28, Dow
Chemical announced it would increase prices 20 percent to compensate for
higher energy prices. The realization that the U.S. no longer controls
its economic destiny is contributing to the widespread feeling of unease
and crisis of confidence. Economically speaking, the 1990s belonged to
the U.S. and New York and Silicon Valley. But as this decade motors
toward its close, it seems powered by China, and Russia, and Dubai and
Mumbai. It's as though we're home watching reruns while everybody else
is out partying. Worse, some of those benefiting the most from the new
tilt on the Risk board are hostile to the U.S., like Hugo Chávez of
Venezuela. In a recent study, Mary Egan, a partner at the Boston
Consulting Group, found that 71 percent of those polled agreed with the
following statement: "Because the world has changed so much, the U.S.
economy will not be as strong as it was—or at least not for the next
Such surveys measure sentiment, and any analyst worth his weight in
PowerPoint presentations will tell you that sentiment doesn't always
translate into cash activity in the marketplace. But there's one
marketplace where sentiment—and especially consumer confidence—matters
greatly: politics. The last time consumer confidence was this low was in
October 1992—the month before incumbent George H.W. Bush won 37 percent
of the popular vote, the worst performance of any incumbent in history.
"The economy is always the biggest issue in a general presidential
election," says Tom Mann, a senior fellow at the Brookings Institute,
because it's a referendum on the party in power. A recent CBS News poll
showed more people identified the economy as their leading concern (34
percent) than identified oil prices (16 percent) and Iraq (15 percent)
Yale economist Ray Fair has developed a formula in which particular
economic factors can foreshadow election outcomes. Crude summary: when
there's lots of good news on growth and inflation in a presidential
term, it favors the incumbent party. With growth low and inflation high,
John McCain comes out with 44 percent in November. (Before Obama-ites go
making reservations for the Inaugural, consider that the formula
misfired in 1992.)
All things being equal, the limping economy should favor Obama. While
McCain has taken pains to distance himself from the Bush administration,
he has heartily embraced the most significant component of Bush's
economic legacy: the tax cuts. But in presidential elections, all things
are never equal. Obama and McCain have staked out different economic
turf. For Obama, it's middle-class tax cuts, and creating new jobs in
environmental and tech fields; for McCain it is repealing the
Alternative Minimum Tax, expanding free trade (a winner in an age of
rising exports) and a summer gas holiday. But if the economy worsens
significantly, if oil spikes to $150 per barrel and unemployment becomes
more widespread, the campaign will likely take on a different tenor. The
typical dialogues about taxes and spending, health care and pensions
will assume a greater prominence. But a crisis atmosphere would require
both candidates to come up with big-picture narratives about America's
role in the world economy, and how the nation can re- assume financial
leadership—something neither has yet done comprehensively.
It's not all doom and gloom. Businesses that thrive on a weak dollar are
holding up nicely. "In fact many sectors are benefiting from strong
growth overseas, including high-tech, capital goods, chemical and other
raw materials, aircraft," says Nariman Behravesh, chief economist at
Global Insight. Bob Toney, president of Ft. Lau- derdale, Fla.-based
National Liquidators, which auctions repossessed boats and yachts, has
doubled his staff to 78 employees to pick up around 120 boats a month.
"Two years ago, we had 200 cases in our inventory and now we have 610,"
But it's the mainstream indicators—not countercyclical businesses—that
will point to a recovery. For signs that tomorrow really is a day away,
look to the thing that got us into this mess: housing. "Housing doesn't
have to return to the bubble era. It's just that the rate of decline has
to stop," says Lakshman Achuthan, managing director at the Economic
Cycle Research Institute. Reductions in the level of housing inventories
for sale will be a hopeful sign. Other tea leaves are the weekly reports
on jobless claims, retail chain stores, and mortgage application
activity. "This will give you an early read on potential trend shifts in
consumption," says Ian Morris, chief U.S. economist at HSBC.
Just as sharp spikes in the price of oil and commodities have dented
confidence, precipitous falls in the commodity markets could bolster
consumer confidence. But that doesn't seem likely any time soon: on
Friday, the price of a barrel of oil rose $10.75 to a record $138.54.
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