Debt Load
Is Possible
Problem For Economy
by Sy Harding, editor
Street Smart Report Online
Hidden
behind the euphoria over the booming economy and impressive bull
market of recent years, there's been growing concern among economists
and regulatory agencies about the record growth of consumer and
corporate debt.
Consumer spending accounts
for more than half of the U.S. economy, and has done more than
its share to produce the longest economic recovery in history.
(It's been more than ten years since the last recession, in 1990).
The driving force has been full employment, lots of overtime,
and stock market profits, which resulted in household income
rising at a very healthy pace. However, consumers were not moved
to save more, or even spend only the additional income, but set
off on a ravenous spending spree in which increased spending
more than offset the additional income, and resulted in household
debt surging to record levels.
Much of the spending
went into credit-card type debt and auto loans. Many more billions
of debt financed stock purchases, driving margin-debt to record
levels. A lot of it went into real estate, particularly second
homes and high-end properties, as indicated by the 35% rise in
sales of homes priced above $200,000 (while sales of homes priced
under $200,000 declined 2%).
The result is household
debt at a record level. This week's economic numbers show consumer
confidence remains very high. But the problem is that, already
maxed out with debt, do consumers have enough spending power
left to continue their support of economic growth, particularly
if stock market profits continue to disappear? It's a worry already
on the minds of retailers as the holiday buying season gets underway.
The picture is no better
when we look at corporate debt. After all, those who run corporations
are influenced by the same euphoria over a booming economy that
convinces consumers it's okay to spend more than they earn.
So corporate debt,
used for everything from new buildings and new equipment, to
acquiring competitors, is also at an all-time record high.
The record debt load
has had concern rising not only about where buying power will
come from to fuel the economy going forward, but about the vulnerability
of the banking industry should the economy slow excessively.
In their own frenzy for growth, many banks lowered their lending
standards for both consumers and corporations, in an effort to
take market share from competitors. With loan defaults already
on the rise, the Federal Reserve, responsible for maintaining
a strong banking system, warned the banking industry several
months ago of its laxness, and the need to tighten credit requirements.
That could also make it more difficult for both consumers and
corporations to pile up more debt to fuel the economy.
The FDIC calculates scores for the banking industry using a model called the Real Estate Stress Test. Its November report states, "Between 1987 and 1995, even though it was a period that included the New England and California real estate crises, the percentage of very vulnerable banks never exceeded 5% of the total. But by December 1999 that percentage was at 8%, and it now exceeds 9%. An additional 15% of the industry is identified as somewhat vulnerable should an economic downturn take place."
Teague likened the report to that of an economic weatherman. "A hurricane watch does not mean severe weather is inevitable. A number of cities at risk of overbuilding does not necessarily mean those cities are headed inevitably for the kind of real estate crises we experienced in the late 1980s. However all of us ñ bank-regulators, bank risk-managers, and real-estate developers ñ need to remain alert when signs begin to indicate our industries might be vulnerable."
It is interesting that the New England region, which suffered more than the rest of the country in the real estate crises of the late 1980s, is not on the FDIC's watch list. In its latest report the FDIC says that so far real estate demand in the New England region remains stable, thanks primarily to its technology-based economy.
However, the report also points out that real estate prices, as they did in the late 1980s, are again rising faster in California and New England than in the rest of the country, due primarily to their concentration of technology-based industry, and the demand for real estate by those well paid employees, which could make risk higher again in those regions if an economic slowdown hits the high-tech industry.
Put it all together and there's a lot riding on the record debt loads of consumers and corporations, and whether they can muster enough additional buying power to keep the economy on its positive course.
Editor's Note: Sy Harding is president of Asset Management Research Corp., 169 Daniel Webster Hwy., Meredith, NH 03253, publisher of The Street Smart Report, 1 year, 17 issues, $225 (now in its 13th year of exceptional market research for professionals and serious investors) and The Street Smart Report Online at www.StreetSmartReport.com. Mr. Harding has been consistently ranked in the Top Ten Timers for years. He recently authored the book, Riding the BearHow to Prosper in the Coming Bear Market, $12.95. The book introduces The Seasonal Timing System© which tripled the return of the S&P 500 over the last 35 years with 50% of market risk and just two trades a year. Available at most book stores, amazon.com, barnesandnoble.com or StreetSmartReport.com.
