If a railbird tout gives you a tip on a horse, and you learn that three of the nag’s legs are so fragile they will likely break during the race, you will keep your money in your wallet. Similarly, if you’re told that some relay team is a sure thing, but you find out that three of the four runners weigh 375 pounds each, you won’t count on those tracksters to win a gold medal.
It’s the same way with the American economy. At least once a week, you hear some Wall Streeter exulting that manufacturing is showing signs of recovery. What he doesn’t tell you is that manufacturing is less than 10 percent of the economy. He won’t mention that sickly consumer-related activity is 75 percent.
The TV talking heads will rejoice that profits are doing extremely well and that productivity, or output per worker hour, is setting records. But the commentators won’t give the reason: companies are still laying off workers and not hiring back ones who were earlier laid off.
The unemployment rate in both the U.S. and San Diego hovers around 10 percent, give or take a hair on each side. But consumer spending is 70 percent of the economy, nationally and locally, and housing is another 5 percent. That’s three very wobbly legs under the stool. As long as unemployment remains so high, how can consumer spending, which dominates the economy, pick up?
I interviewed two analysts with excellent track records. One is local: E. James Welsh of Carlsbad’s Welsh Money Management and publisher of The Financial Commentator. He has been warning of excessive debt and speculation for a decade. The other is A. Gary Shilling of Springfield, New Jersey, an economist who has been pointing out for almost five decades that American consumers have been stretched too thin and are too deeply in debt. He predicted the 1970s megrims and the 2000 tech crash, warning of “internet nuttiness” as investors bought into the craze. Three years ago, he was belittled on TV when he predicted the current recession: “There weren’t any of those people who had the guts to apologize and say, ‘You were right,’” he says.
His economics Ph.D. from Stanford in the early 1960s focused on private-sector debt — consumers, corporations, financial institutions — and not on government debt. “Back then, if anybody worried about debt, they worried about federal government debt. I was much more concerned with the private sector,” says Shilling.
Basically, American consumers are wallowing too deeply in debt at the time that their job prospects are looking bad, Welsh and Shilling agree. Shilling notes that the average number of weeks on unemployment is 29 — almost double what it was when the recession began in late 2007. Almost 40 percent of the unemployed have been out of work for more than half a year. The number of unemployed per job opening has jumped from 1.5 before the recession began to 6.4. The University of Michigan consumer sentiment index is below 74. On January 1 of 2000, it was at 112. The government has extended unemployment benefits. More and more Americans are using food stamps.
Welsh points out that household debt amounts to around 97 percent of the total U.S. economy, up from only 44 percent as recently as 1982. And unlike in the early 1980s, when interest rates were 15 to 20 percent, the burden of this consumer debt can’t be lessened with lower rates, because today’s rates are about as low as they can go.
Americans have been on a spending binge. In the mid-1970s, they saved, briefly, 14 percent of their disposable personal income, but by 2007, the saving rate was below 1 percent. Now it’s around 4 percent, notes Welsh, and he believes it will go back to 8 or 9 percent.
In the U.S., 22.6 percent of homes are underwater — that is, the value of the home is lower than the mortgage. In Nevada the ratio is 65 percent, in Arizona 47.9 percent, in Florida 44.7, Michigan 37.3, and California 34.7. Home values are down sharply (almost 38 percent in San Diego from the 2005 peak). “The 1995-2005 housing bubble was driven by low mortgage rates, extremely loose underwriting standards by lenders, lax regulation, securitization of mortgages and, most of all, by the conviction that house prices could never fall,” says Shilling. He is not bullish on housing.
Both Welsh and Shilling believe that the current stock market recovery is not a portent of a stoutly recovering economy.
In China, consumer spending is 36 percent of the economy — a tiny bit more than half the ratio in the United States. Shilling notes that the Chinese savings rate is 29 percent, or about 7 times the U.S. savings rate. After taking out essential living expenses, 42 percent of Chinese want to put their spare cash into the future education of their children, according to Reuters. In the U.S., according to PriceGrabber.com, 84 percent of people consider their personal computer or laptop a necessity, with clothes dryers coming in a close second at 83 percent and cell phones next at 72. Global economists, aware that U.S. consumer spending can no longer support the whole world, want the Chinese to spend more and save less and Americans to save more and spend less, but we are too accustomed to those luxuries. It may be a tough slog.
In U.S. consumers’ “25-year borrowing-and-spending binge,” Americans were trained by retailers, advertisers, and the media that “instant material gratification was good,” says Shilling.
He believes it will take us 10 years to shed the past’s legacy of gluttony. Growth may be just 2 percent a year — far below the 3.3 percent needed to keep employment stable. “It took 30 years for the financial sector and the household sector to leverage up [get too deeply in debt], and now it will take 10 years to work off all that excess. If we did it in a year or two, we would have a depression, so it is lucky it will be 10 years,” says Shilling.
Welsh foresees woes for three to five years but says they may stretch out to ten. Excessive government debt will be unwinding along with excessive consumer debt. “Governments will be raising taxes and cutting back on services. It’s a debt pandemic,” he says. That will be a double-whammy on ailing households. Politicians won’t level with the public: “If you get out of the foxhole, you have your head blown off.” Says Welsh grimly, “There could be riots. There could be violence when politicians start telling people the truth.”