Nouriel Roubini weighs in with another treatise of doom, this time focused on consumer spending. He lists 20 reasons consumer spending is headed to hell in a handbasket, taking the economy down with it. We’re short on Prozac, so we’ll summarize only a handful here, and we’ll let Nouriel take it away:
Today’s news about October retail sales (-2.8% relative to the previous month and now down in real terms for five months in a row) confirm what this forum has been arguing for a while, i.e. that the U.S. has entered its most severe consumer-led recession in decades. At this rate of free fall in consumption real GDP growth could be a whopping 5% negative or even worse in Q4 of 2008. And this is not a temporary phenomenon as almost all of the fundamentals driving consumption are heading south on a persistent and structural basis…
- Debt burden: The US consumer is debt burdened with the debt to disposable income having increased from 70% in the early 1990s to 100% in 2000 and to 140% in 2008. Not only debt ratios are high and rising but debt servicing ratios are also high and rising having gone from 11% in 2000 to almost 15% now as the interest rate on mortgages and consumer debt is resetting at higher levels.
- Wealth effect (or lack thereof): The value of housing wealth is now sharply falling by over $6 trillion as home price depreciation will soon be 30% and reach a cumulative fall of over 40% by 2010. Recent estimates of this wealth effect suggest that the effect may be closer to 12-14% rather than the historical 5-7%. And with home prices falling over 30% about 40% of all households with a mortgage (or 21 million out of 50 who have a mortgage) will be under water (negative equity in their homes) with a huge incentive to walk away from their homes… The value of the equity wealth of US households has fallen by almost 50%, another ugly wealth effect on consumption
- No more home ATMs: Mortgage equity withdrawal (MEW) is collapsing from $700 billion annualized in 2005 to less than $20 in Q2 of this year…
- Credit continues to tighten. The credit crunch is becoming more severe as the recent Q2 flow of funds data and the Fed Loan Officers’ Survey suggests: it is spreading from sub-prime to near prime to prime mortgages and home equity loans; and from mortgages to credit cards, auto loans and student loans. Both the price and the quantity of credit are sharply tightening.
- Job cuts are just getting started. Employment has been falling for 10 months in a row and the rate of job losses is now accelerating. In the last recession in 2001 that was short and shallow (8 months from March to November 2001 with a cumulative fall in GDP of only 0.4%) job losses continued all the way until August 2003 with a job loss recovery and a total cumulative loss of jobs of over 5 million from the peak
- Consumers will now need to start saving again. To bring back the household savings rate to the level of a decade ago (about 6% of GDP) consumption will have to fall – relative to current GDP levels – by almost a trillion dollars. If all of this adjustment were to occur in 12 months GDP would contract directly by 7% and indirectly (including the further collapse of residential and corporate capex spending in a severe recession) by 10%, an exemplification of the Keynesian “paradox of thrift”. If such an adjustment were to occur over 24 months rather than 12 months you would still have negative GDP growth of 5% for two years in a row with a cumulative fall in GDP from its peak of 10% (note that in the worst US recession since WWII such cumulative fall in GDP was only 3.7% in 1957-58). One can thus only hope that this adjustment of consumption and savings rates occurs only slowly over time – four years rather than two. Even in that scenario the cumulative fall of GDP could be of the order of 4-5%, i.e. the worst US recession since WWII.
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