Thursday, March 29, 2007

Dirty Pictures

I have put some charts together to connect consumer behavior, credit expansion and banking conditions (click on the images to enlarge).
  • Negative Personal Saving Ratio: Americans are spending more than they are making. I bet the ratio is much worse if we exclude the top 1% of the population that makes 22% of all reported income in the US, the highest ratio since the 1920's (NYT article).
Honey, I've Shrunk Our Money
  • Record Debt: For the past fifteen years households had gone on a long, uninterrupted borrowing spree.
Me Lend You Long Time, Honey

Looking at house sales, the correlation between housing activity and household debt growth is very apparent. Housing and mortgage debt went hand in hand on a super-long cycle between 1990-2005, now finally come to an end.

Hey Mister, Wanna Buy My House?

.... but the accumulated debt means a record high share of income must still go to pay the piper.

If It's The Bank Calling, I've Gone To Baghdad
  • Retail sales are stalling: Real sales are not growing at all. It is supposedly smart to perpetually bet on the voracious appetite of Consumer Americanus, but this view was formed during the quarter century of constantly dropping saving rate (see above). Now that the rate is negative, such a bet would be imprudent. Keep in mind that consumer spending makes up 70% of GDP.
No Money, No Honey
  • Banks are not prepared: Although household financial conditions are stretched, US banks are not prepared for a deterioration in loan performance. Their loan loss reserves are at the lowest levels since 1985.
What You Mean, No Have Dolla?

Yes, seriously past due loans (90+ days) are at very low levels. But if anyone wants to bet the credit cycle is dead and buried, this is definitely not a good time.

Relax, This Won't Hurt...Much


Anonymous said...


A few charts really explain it all.

I just finished reading Empire of Debt by William Bonner. It's highly entertaining and describes the downfall of nations, including the US, once their imperial aspirations eventually lead them to incur huge debts fighting foolish and costly wars.

He points out that one of the biggest differences between the US and previous empires is the fact that the US is the only empire in history that insists on going into debt to its colonies. Usually its works the other way around.

But I guess its not really much different from the local street thug offering protection to the bar while ordering drinks and telling the bartender to just put it on his tab.

While the book offers many insights, I find its conclusion that the best recourse is to buy gold somewhat simplistic.

It seems to me that the runup in the price of gold has been attributable to the same ongoing debt induced bubble phenomena that has been inflating other asset classes and, therefore, is subject to the same potential declines once debt liquidation commences.

In a situation where debt issuance is the primary cause of inflationary pressures, as opposed to increases in wage income, the real danger lies in deflationary tendencies. In such an environment, deflationary forces must work their way through all of the asset classes vis a vis debt liquidation. Only then will the drastic measures necessary to induce hyperinflation and overcome deflation be considered let alone implemented by policymakers.

My own bet is that at least initially the demand for dollars to pay off mortgages, car loans, etc. will increase leaving very little unfettered cash laying around to spend on consumer goodies including gold bars. Furthermore, by the time it got bad enough to where gold might actually be considered once again as the basis for a monetary system, restrictions on the private ownership of gold would start to come into play, thereby, limiting its potential value.

And unless you take actual physical possession of gold and deal with the related hassles and risks that go along with such possession, what is to prevent the govt or another 3rd party from deciding not to honor your ownership claim anyway?

What are your thoughts on alternative ways to position one's portfolio once the debt crisis begins to unwind?

Hellasious said...

Thank you for your comments.

I too, think gold is somewhat of a knee-jerk reaction, a sort of panacea recommended as a cure for all financial ills. And yet when we had the recent market volatility in Feb-March gold went down fast. This to me is a sign that we are more likely to go into deflation than hyper-inflation - at least initially.

I would be very conservative right now, being completely out of debt and investing in short term trasurys. Perhaps an exposure to yen and swiss franc, too. Those could do well in a debt contraction situation as the carry trades unwind.


Anonymous said...


Thanks for the suggestion.

My own thinking is that owning US treasuries along the entire yield curve is a good place to be although the short end is obviously the safest best.

Many people cite the long term declining value of the dollar vis a vis gold. That's fine if you want to compare gold to putting cash under your mattress.

But if you stack up gold next to the return on treasuries, particularly if you take into account the fluctuations in gold's return, then gold begins to lose its lustre in a hurry.

I think the biggest factor determining whether deflation or inflation is a greater risk going forward is the likely policy responses that will be adopted by the federal govt.

Eventually there will be a huge outcry from the general public to reinflate the economy. However, my own sense is that the fed and US federal govt, like the Japanese, will initially underestimate the amount of stimulus needed to overcome the reluctance of lenders to lend and borrowers to borrow.

Already you can see the witch hunt beginning with regulators and politicos planning legislation to curb predatory lending. At some point legislators will realize that this only hastens the inevitable debt squeeze but by then I think it will be too late to backtrack.

The shift in psychology from excess lending to no lending will be so sudden that the deflationary psychology will have already set in. This change in psychology will negatively impact the velocity of money which ultimately determines economic growth not money supply.

My own opinion is that the govt and the fed are unprepared to deal with the extent to which the velocity of money will decline in the upcoming deflationary environment.

It's only after a few years of deflation that the govt and the general public are willing to go into the type of spending mode necessary to overcome deflationary pressures and, unfortunately, then only because of the requirements of war.

As costly and wasteful as the Iraqi war is, $150 billion a year in a $13 trillion dollar a year economy is chump change compared to the type of stimulus that will be needed.

I wish I had more faith that things will be different this time around but history indicates otherwise.

You can already start to see the rise of militarism and nationalism in Japan after a decade of deflation. What boggles the mind is the fact that the current administration is short-sighted enough to actually encourage the rise of Japanese militarism. Have they forgotten what was needed to snuff it out just over 60 years ago? Or is it because they feel that empire building is a worthy and noble pursuit for a freedom loving democracy?

Sally said...

May I make a far less erudite contribution to your discussion?
Would non-dollar-denominated bonds also perhaps be a safe place to perch (they also seemed to be little affected during the Feb-March 'recasting')?