Benson's Economic & Market Trends
"What's for dinner July 4th? Home Equity!
June 23, 2003
The 4th of July should be about celebrating freedom and independence, yet the bankers are the only people jumping for joy. Never in history have Americans owed so much in terms of their total debt, the ratio of total debt to income, and the amount of cash flow the debt needs to service it. Americans used to believe that if they were debt free, they were free. Today, Americans just want the freedom to borrow more even if it means they are on the way to becoming enslaved by their debt. Each year we see a new record broken in the number of consumers filing bankruptcy, while Congress is still looking at "bankruptcy reform" legislation which basically reserves the right to default on debts as more of a corporate right, than an individual right.
The Federal Reserve model for the economy is based not on saving and investment, but on spending that is sustained by credit creation. The current engine of spending for the US economy remains the consumer. The basic philosophy behind our economic salvation seems to be that if we can only spend enough, jobs will be created to sustain the current level of spending. The Fed Chairman has also noticed that if you give the average American access to money, they will spend it! Going to Ford, GM and Chrysler to pick up a car with "cash-back" and driving to the mall to spend the "cash-back", is not only a national right, but the primary pastime after watching the latest war or court case on TV.
Currently, American consumers spend about 12% to 14% more than they take home in disposable personal income. In the first quarter of 2003, disposable personal income was running at about an $8.1 trillion annual rate, and the increase in personal debt was running at about an $850 billion annual rate. Personal Income is hardly growing, but personal debt is growing over 10% a year!
Mortgage debt, in particular, has increased at a rate of $725 billion annually in the Quarter ending March of this year, and given the recent drop in mortgage interest rates, the total for 2003 will more likely reach $800 - $850 billion.
Let's put this increase in mortgage debt in perspective. First, the increase in debt represents money that has been spent. Second, it is supposed to be paid back. Third, it is a massive number. Total consumer debt for things like credit cards, auto loans, etc., totals about $1,800 billion ($1.8 Trillion). For many, it took 10-20 years to reach this level of credit card debt. In 2002 - 2003, the total increase in mortgage debt is likely to be equal to the entire amount of consumer credit that has ever been extended! Even a Trillion a year means a lot of trips to the mall. The Chinese, Japanese and Koreans are particularly thrilled we will mortgage our homes, send our factories to Asia, and buy from them like crazy.
Another thought provoking trend is underway. While the average housing price backing all of this mortgage lending increased by a rate of 6% in the 1st quarter of 2003 (vs. the 1st quarter of 2002), the percent of equity held in homes actually dropped to an all time record low of 55%; a 2% drop over the previous year!
Greenspan is making money "free" and encouraging consumers to borrow against their homes to keep spending alive. On this July 4th, consumers are doing their Patriotic Duty by taking their home equity out faster than the housing market bubble can accommodate. American consumers are living "high on the hog" and are spending much more than they earn. What they are really doing is "eating up" their home equity at the rate of about 8% a year!
As housing prices level off or even turn down next year, the economy is going to be in for a shock. Total mortgage debt outstanding will be over $7 trillion by the end of this year, and, combined with consumer debt, households will owe over $9 trillion, which is in excess of all disposable income they make each year!
The rate of increase in mortgage debt and consumer debt is not sustainable because it is not supported by increases in income that can service the debt. How does it all end? Obviously, we need some serious inflation, more revenues, higher wages, and another 4 million jobs to lower the debt burden, and, real fast!
By 2004 at the latest, at least $500 billion or more in spending for the economy from Americans "eating their home equity" will need to be replaced. There are only two likely sources of spending, just to keep spending from falling " a smaller trade deficit, and a larger federal deficit.
For the economy, there is the "hard road" or the "easy road". The "hard road" approach is to wait for a massive consumer recession which will encourage the US to buy less overseas and help the government spend more, as it has to, for unemployment benefits and other transfer payments.
The "easy road" approach is to get out front of the problem. First, let the dollar fall and make imports much more expensive. Stop sending all of the jobs to China! Second, let the politicians have a field day spending on things such as tax cuts, drug benefits, and building roads, bridges and tunnels, thus saving the cities and states. Besides, we need new defense contracts for critical goods such as "smart bombs" made in the USA that are perfect to blow up roads, bridges and tunnels. Third, tell the Fed Chairman that if he wants to keep his job, he should be doing regular commercials for "The Big Easy" and mention the dietary benefits to the financial markets of having "Fat Tuesday Everyday". An election is coming, and Americans need jobs!
Our bets are for the "easy road" of easy money, rising inflation, an election year federal deficit on the way to $800+ billion, and a trade deficit that needs to drop to $200 billion a year just to replace the spending that will dry up as people start eating less home equity. The economic situation dictates a dollar exchange rate with no real bottom in sight.
If you can visualize what's coming, making money by investing should be "easy". Every day should be Financial Independence Day! The best return on investment for the average American remains paying down debt. We consider this advice "golden", and even the cloud of a falling currency can have a "silver lining".