How many books, articles, blogs, and news stories are out there attempting to explain why the economy can’t leave the Great Recession in the dust and start adding large numbers of jobs? The deficit is too big. The stimulus was flawed. China is crushing us. Businesses are overregulated. Wall Street is under-regulated. The list goes on.
My sense is these are all symptoms of something else, something bigger. The main culprit is a tremendous economic bust and we are still in the middle of it. It isn’t simply a housing bust. It’s a deflation of the great consumer bubble, decades in the making. (Only the very wealthy and very poor are unaffected.)
For example, the auto industry is on pace to sell 28 percent fewer new vehicles this year than it did 10 years ago — and 10 years ago was 2001, when the country was in recession! Sales of ovens and stoves are on pace to be at their lowest level since the early 90’s. Home sales over the past year have fallen back to their lowest point since the crisis began. And big-ticket items are hardly the only problem.
The Federal Reserve Bank of New York recently published a report on what it calls discretionary service spending, a category that excludes housing, food and health care and includes restaurant meals, entertainment, education and insurance among others. Going back decades, such spending had never fallen more than 3 percent per capita in a recession. In this slump, it is down almost 7 percent, and still has not really begun to recover.
Retail sales were weaker than expected, and consumer confidence fell, causing economists to downgrade their estimates for economic growth yet again. It’s a familiar routine. Forecasters in Washington and on Wall Street keep saying the recovery’s problems are temporary — 10 years is temporary if your time horizon is 500 years, mine is not.
If you’re looking a reasonable explanation for the terrible job market, it is this great consumer bust. Business executives are only rational to hold back on hiring if they do not know when customers will fully return. Consumers, for the most part, are coping with a loss of wealth and an uncertain future (pushing back durable goods purchases). Both consumers and executives are panicky given the latest economic problems.
We are feeling the deferred pain from 25 years of excess, as people try to rebuild their depleted savings. This pattern is a classic one. The definitive book about financial crises has become “This Time Is Different: Eight Centuries of Financial Folly,” Surveying hundreds of years of crises around the world the authors conclude that debt is the primary cause and that the aftermath is “deep and prolonged,” with “profound declines in output and employment.” On average, a modern financial crisis has caused the unemployment rate to rise for more than four years and by 7 percentage points. (We’re now at almost four years and 5 percentage points.) The recovery takes many years more.
The notion that the United States needs to begin moving away from its consumer economy — toward more of an investment and production economy, with rising exports, expanding factories and more good-paying service jobs — has become so commonplace that it’s a cliché. It’s also true. And the consumer bust shows why. The old consumer economy is gone, and it’s not coming back anytime soon.
Sure, house and car sales will eventually rebound, as the economy slowly recovers and the population continues expanding. But consumer spending will not soon return to the growth rates of the 1980s and ’90s. They depended on income people didn’t have. (I might suggest underweighting the consumer discretionary sector for the near term and not for the reasons you would think, with a P/E over 19X for the sector it’s a too expensive and may be overdue for a correction considering where we are in the business cycle.)
The choice, then, is between starting to make the transition to a different economy and enduring years of fits and starts in the economy.
The easy thing now might be to proclaim that debt is the devil and ask everyone to get thrifty. History, however, has a different verdict. If governments stop spending at the same time that consumers do, the economy can enter a vicious downward cycle (see the Great Depression for details).
But the debt-ceiling debate doesn’t have to be yet another problem for the economy. The right kind of agreement could help soften the consumer bust and also speed the transition to a different kind of economy.
Politics, of course, makes many of the current ideas being discussed unlikely to happen anytime soon. Unfortunately, though, these debt-ceiling talks won’t be the final chance for Washington to help the country recover from the great consumer bust. That’s the thing about consumer busts - they can last for a long time.
CBlakely CFP®, CTFA, CMFC 07-2011
Sources: New York Times, Federal Reserve Bank of New York, “This Time Is Different: Eight Centuries of Financial Folly” - Carmen M. Reinhart, and Kenneth S. Rogoff
