I want to use this diary to put some perspective on panic. You know, "the sky is falling" mentality that many of us sometimes fall into. For those of you who worry about recent market turmoil and whether it might affect you or your loved ones, I am going to differentiate between what is going on in the markets, the economy, and note a few very needed political reforms.
I. The Financial Markets
If you are an average member of the middle or working class, you shouldn't pay too much attention to what is happening in the markets. Historically only the wealthy and the upper middle class invested in financial markets. Other middle class families might have owned a small bit of stock or a few municipal or corporate bonds. At the time of the crash of 1929, only 3% of Americans owned stocks.
It is true that the stock market, specifically the S & P 500, is a "leading economic indicator", meaning it can tell you what might be happening in the economy 3-9 months later.
So in the last few weeks, financiers and some other very wealthy people and institutions have been burned. Last night Larry Kudlow imitated Jim Cramer and BEGGED the Fed to lower interest rates, and to buy subprime mortgage drek as collateral. (if someone has a video clip of that, please please post it).
But if I were a stock trader, I'd be licking my chops today, hoping for a panicky -3% or 400 point loss on the Dow Jones average, because I'd be thinking of what bargains I might pick up tomorrow. These is a lot of "panic" in the markets now, and to me, that smells of making a bottom real soon, maybe even today.
II. The economy
The economy is what ordinary folks want to focus on the most. The markets might clip your 401K, but the only other issue is if your company gets caught up in some financial hurt and starts laying people off.
The economy to me smells like it is on the cusp of a recession. But that's not Armaggeddon either. You know, we had one in 1990-1, and another in 2001, and it wasn't the end of the world. People muddled through.
Over the last 6 months, the "leading economic indicators" are down (-1.4). Typically by the time they are down (-2.0) (but not always, as in 1994) the economy is in recession.
Those indicators are likely to worsen. Housing starts are a "leading economic indicator" and this morning we found out:
Housing starts fell 6.1% in July to a seasonally adjusted annual rate of 1.381 million, the lowest since January 1997. The decline was larger than the expected fall to 1.40 million
This month's poor S & P 500 action is also not going to help.
So it seems likely that within a couple of months, "leading economic indicators" will signal we are in a recession.
Also, the "yield curve" (comparing the rates of short and long term bonds, another indicator) is positively screaming onset of recession. It looks almost exactly the way it did at the outset of the 2001 recession.
The great American consumer hasn't rolled over yet, though. Retail sales are still nominally up Year over Year, although less than the rate of inflation. Jobless claims went up last week to 322,000, but until they hit about 400,000 a week, recession isn't here.
Longer term, as in the next 5 years, I believe we are in a fundamental transition period. Since 1981, interest rates have fallen from 20% to 4%. While wages stagnated, every few years consumers could refinance their debt at lower rates, thus freeing up more cash to spend. This is not going to happen any more. Also, as shown on this graph, for 25 years American consumers have experienced either rising stock prices or house prices, or both (the only exception being the 1990 recession).
So now, for the first time in 25 years, American consumers can't count on lower interest rates or higher asset prices to bail them out. This is a fundamental change. It is bad for debt. I expect reckless debt to be crushed out of the system in the next few years, and it will be painful.
And don't count on the Fed to help. Here's a little data on inflation this year:
3, 6, and 9 month inflation increases in the PPI and CPI (note, these are not annualized rates):
3 month .8 (CPI) 1.3 (PPI)
6 month 2.8(CPI) 4.3 (PPI)
9 month 3.1(CPI) 6.0 (PPI)
12 month increases are being held down by the collpase in oil prices after the Goldman Sachs commodity index "rebalancing," as shown on the chart here. Unless another big downdraft arrives this fall, inflation at the producer level is becoming a serious drag, and we should expect one or more of the following: decreased corporate profits, more costcutting (layoffs), and/or consumer price increases (unlikely except at the higher end).
If as I expect, year over year CPI exceeds 3% by this autumn, the Fed is not going to be able to cut rates. And why should they, just to bail out Wall Street financiers? A rate cut would seriously further erode the value of the dollars that we use to buy our necessities and pleasures.
So, ignoring the daily fluctuations in the markets, I nevertheless do expect some tough times ahead.
III. Politics to help the middle class
At the end of the day, the democratic New Deal coalition lasted so long because it assisted the middle class even more than it alleviated the misery of the poor.
There are 2 reforms that we democrats, in my opinion, must constantly press upon our elected officials. One is true bankruptcy reform. A housing bailout is no solution. It would only artificially keep housing prices too high for average folks, and it would reward the spendthrift while punishing average middle class savers who didn't get sucked into the bubble. Bankruptcy reform, however, allowing subprime borrowers to walk away from houses they can't afford any more anyway, and begin a fresh start as renters, assists them, inflicts pain on predatory or reckless lenders, and does not punish the fiscally prudent middle class.
Secondly, we need a
Federal Usury Law, capping consumer interest rates. When I first published this diary, I was taken to task by some commenters with a libertarian bent, and I pointed out that, after the crash, the Big Boyz always want to be bailed out. So we should act to prevent the mania in the first place, so we don't have to pay for the bailout later. I hope these last couple of weeks prove the wisdom of my point.