The Economy on The Brink? Part 2

Last time I wrote the markets were in difficulty because of fears founded on potential weaknesses in the Chinese growth rate. It is a measure of our situation that the Chinese economy is emerging as the engine that can push or pull much of the world’s growth. But it isn’t the only economy with that power. America has been the ‘engine’ for decades, and even though it seems to be in political and economic decline [thanks to deplorable mismanagement rather than lack of skills] it still is central to the world stage.

Which makes the current edginess about ‘sub-prime’ borrowing so important. The major sub-prime lenders, New Century and HSBC, for example, are all having extreme credit problems at the moment. The credit cycle is coming to an end with a resounding thump. I would not be surprised to see one or two bankruptcies among these kinds of lenders. They all are what we call ‘bottom feeders’ lending to people who have weak credit and little to cushion against an economic slowdown … let alone an economic downturn. They all lent at with very aggressive credit terms based upon a naive view that the US housing market was goind to march onward and upward forever.

As the recent news of rapidly rising foreclosures and delinquencies indicates the housing market is coming back to earth with a severity most had not expected. For those of you who read my column regularly you will know that I have been warning about a housing crash for well over a year. Now it’s here there is not much more to say, other than watch out!

Weakness in the ‘sub-prime’ sector has rattled Wall Street. Justifiably. But by itself a housing ‘hard landing’ would not be enough to push the economy into recession. The fear, and what we should all be watching now, is whether a housing slump ripples into personal consumption, which as I have said before is the real engine of the American economy. There are signs this week that the worst scenario is unfolding: it appears that spending is being hit by the loss in confidence that consumers feel as they see their home values sink for the first time in over a decade. Far too many people use their house as a savings account. When home values are rising they feel able to spend all their income [and more if they are really confident] becasue they expect to rely on their homes as a source of wealth to pay off other debts. But now they are stuck with those debts and their homes are depreciating in value. The odds are that consumers will be forced to cut spending harder than otherwise, thus making for a sharper slowdown. Or, dare I say it? a recession.

That is why Wall Street is running scared. The odds of a recession are rising fast. We should all watch the ‘sub-prime’ market to see whether its travails spread and bring us all down.

It would be nice right now to hear some firm leaderlike comments from the administration … don’t hold your breath for that though!