People these days have lots to say about the “sub-prime crisis”—usually it is very pessimistic stuff. Between October 9 and November 26 of this year, the stock market had a dip of ten percent or more, officially called a “correction.” Analysts are scared, and many predictions of economic meltdown are being broadcast over the radio and tv. But there is more to the economic situation than meets the eye.
The stock market and the economy are two different things. Many people in the U.S. don’t own stocks, not even in retirement accounts. We might see the stock market going up or down because of factors that are not going to help most folks. Profits might grow relative to wages and salaries, or there might be a speculative bubble, as in the 1990s.
But watching the stock market can help us get an idea of what investors are thinking. Recently the stock market has been rebounding, and some investors are saying we will be able to avoid a recession, though the huge housing bubble has burst and credit markets have frozen up.
We don’t necessarily want to believe the housing slump will continue or that a recession will happen; in a recession, millions more people could lose their jobs and it would be very painful. But we aren’t necessarily going to have a soft landing. The financial system, the credit markets, the falling home prices—are all in for trouble. So the recession might be inevitable.
It’s not just a sub-prime problem. We are now seeing foreclosure rates on prime mortgages hitting the level of sub-prime borrowers three years ago. These borrowers had good credit and many of them are having trouble avoiding foreclosure.
The period of 1995 through 2006 was a time when house prices rose nationally by 70 percent more than inflation. This created a huge bubble—and trouble was predicted by people who were willing to see how unrealistic and fantastic the prices were becoming. After not changing much at all in the past 45 years (when figures are adjusted for inflation) the bubble became much bigger than you might expect. Some 4 to 8 trillion dollars in bubble wealth was created. It does compare to the stock market bubble.
The bursting of the stock market bubble began in 2000 and a recession followed the next year. With the housing bubble, the bursting began just last year, and there is much more to go in terms of decline. Prices will continue to fall from their very unrealistic prices of the 1990s. And consumer spending will be constrained further as the housing prices fall.
When you consider that consumer spending accounts for over 70 percent of the economy, a recession does seem inevitable. Though there has been some economic recovery in the past six years, as consumers borrowed on the rising value of their homes and spent the money on all sorts of necessities and luxury items, at the same time there was an increase in residential construction. Now so many factors are working in reverse for people; the credit crunch is one of them. |
