American Debt and Economic Free Fall

Far from being a personal problem, Americans' personal debt is increasingly being fingered as the source of the next great global economic collapse.

New York Magazine, 10/28/2007:
The U.S. economy, for all its worldly sophistication, is driven by mall shoppers and late-night Amazon addicts—70 percent of the gross domestic product is accounted for by consumer spending, which is buttressed by debt. According to the Federal Reserve, total U.S. household debt was, as of August, $2.5 trillion—a 24 percent increase in the past five years. Total credit-card debt, including gas cards and the like, was $915 billion.

The willingness of consumers to keep spending and piling on debt in the midst of a slowing real-estate market is hailed on Wall Street as an act of patriotism, which Schiff considers perverse. Imagine, he suggests, that you ran into a good friend and asked him how he was doing. His reply: "I took out a third mortgage, maxed out my credit cards, and emptied out my kids' college savings account so I could buy a bigger TV and a new car, and we're going to Greece on vacation over the holidays. Things are great!" Schiff lets the idea sink in and then finishes the thought: "And we're celebrating the fact that we're doing this as a nation?"

In a recent interview, John Santer, a district director of NeighborWorks America, a community-based nonprofit, pointed out that 43 percent of American households spend more than they earn each year, and fewer than six in ten have enough savings to last them three months if they were suddenly out of a job. So where's the money coming from? From 1991 to 2005, Americans borrowed $530 billion against the value of their homes each year.

James Glassman, a senior economist at JPMorgan Chase, told a Tulsa, Oklahoma, luncheon crowd in early October that before 1985, consumer spending grew in line with income, but since that time, it's grown half a percent faster on an annual basis. As a result, household savings, which once reached 10 percent of income, is now literally negative. "My guess is that in five years we'll look back and realize … that the consumer we knew for twenty years is coming to an end," he said.

Roger Ehrenberg, an ex–Wall Streeter and author of the financial blog Information Arbitrage, forecasts extreme financial pain. "You've got a weaker dollar, declining economic fundamentals, and a debt-strapped consumer—I'd call that a bad fact set," he says. "Lay on top of that the mortgage problem and declining home values, and you can paint a pretty ugly picture."

New York Times, 11/25/2007:
How bad could things get? Pretty bad, say many economists. Not so bad that your grandfather’s prescriptions for enduring the Great Depression need dusting off, but nasty enough to force many Americans to get reacquainted with living within their means. That could make life uncomfortable. It may also be an unavoidable step toward purging the United States and the global economy of a major source of instability — an unhealthy dependence on the willingness of American consumers to keep buying even as debt mounts. Concerns that Americans must eventually grow thrifty, leaving factories from Guangzhou to Guatemala City scrambling for buyers, now sows unease around the world.

As home values rose much the way dot-com stocks had a decade earlier, banks offered loans and no-fuss refinancing that allowed homeowners to turn increased value into money. From 2004 to 2006, Americans took more than $800 billion a year out of their homes, according to most estimates. With prices now plummeting and banks savaged by mortgage losses, this artery of credit is drying up. The American consumer, a crucial engine of growth for the global economy, may finally be tapped out.

Reality Sandwich, 11/23/2007:
In some ways, the US has reverse-engineered itself into a Third World country, with its nomadic elite no longer tied to nationalist obligations - the financial meltdown should make this clear. Today, our primary export to China is soy beans, a raw material, while we receive electronic devices and finished goods from them.

During this process, the US rulers were confronted with the difficult question of what to do with the huge pool of nonspecialist surplus labor no longer required for the functioning of the system. One solution was to warehouse them in prisons (the US is 5% of the world population with 25% of the world’s prison population), another was to put them in the military (but popular resistance to the draft has made this difficult); another option was to create new bureaucracies and expand unnecessary aspects of the service sector. Another idea – a short-term solution but one that created the temporary illusion of abundance – was to encourage the amassing of personal debt, and then to turn that debt into a financial product, through securities, and sell those bundled debts up the financial pyramid.