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to to over 350%; more than doubling in that same period. The build-up
of personal debt follows the exact same trend-line as the aggregate
profits of the financial sector; they're opposite sides of the same
coin. Financial institutions increase profitability by expanding credit
and inflating asset bubbles, not by allocating capital to productive
enterprises. Their business model is inherently flawed. Speculative
bubblemaking is Wall Street's method of shifting wealth from workers to
the investor class. It never fails. It's the reason why 42 states are
now facing budget shortfalls, unemployment has risen to 9.5 percent,
and $45 trillion has vanished from global equity markets.
Financialization has created a global crisis, crushed consumer demand,
increased systemic instability, and put the economy into a nosedive.

In the last decade, the shifting of wealth from one class to another
has greatly accelerated due to deregulation and the Fed's low interest
rates. Stagnant wages have forced reluctant participants into the
market seeking a better return on their savings, while lax lending
standards and easy credit have seduced workers into increasing their
personal debt-load. All of this has been done by design to ensure the
profits for the few over the well-being of the many.

Wall Street has conjured up myriad complex debt-instruments
(derivatives and securitization) which have been used to enhance
leverage by many trillions of dollars so that financial mandarins and
hedge fund managers can skim lavish bonuses and salaries on the front
end before the Ponzi scam implodes. In the present crisis, the
situation came to a head when two Bear Stearns hedge funds defaulted in
July 2007, creating pandemonium in the stock markets while credit
markets froze over. As housing prices fell and unemployment rose,
households were left with little choice but to slash spending to
pay-down debts. The sharp downturn has dramatically changed consumer
behavior and lifted the savings rate to 6.9% in the last month, a
fifteen-year high. Savings are expected to continue to increase despite
the Fed's attempts to restart the economy with zero-percent interest
rates. A recent "Economic Letter: US Household Deleveraging and Future
Consumption Growth" by the Federal Reserve Bank of San Francisco
outlines the conditions which have triggered this dramatic change in
consumer behavior. Here's an extended excerpt:

US household leverage, as measured by the ratio of debt to personal
disposable income, increased modestly from 55% in 1960 to 65% by the
mid-1980s. Then, over the next two decades, leverage proceeded to more
than double, reaching an all-time high of 133% in 2007. That dramatic
rise in debt was accompanied by a steady decline in the personal saving
rate. The combination of higher debt and lower saving enabled personal
consumption expenditures to grow faster than disposable income,
providing a significant boost to US economic growth over the period.

In the long-run, however, consumption cannot grow faster than income
because there is an upper limit to how much debt households can
service, based on their incomes. For many US households, current debt
levels appear too high, as evidenced by the sharp rise in delinquencies
and foreclosures in recent years. To achieve a sustainable level of
debt relative to income, households may need to undergo a prolonged
period of deleveraging, whereby debt is reduced and saving is increased.

Beginning in 2000, however, the pace of debt accumulation accelerated
dramatically ... Rising debt levels were accompanied by rising wealth.
An influx of new and often speculative homebuyers with access to easy
credit helped bid up prices to unprecedented levels relative to
fundamentals, as measured by rents or disposable income. Equity
extracted from rapidly appreciating home values provided hundreds of
billions of dollars per year in spendable cash for households that was
used to pay for a variety of goods and services ... Rapid debt growth
allowed consumption to grow faster than income.

Since the start of the US recession in December 2007, household
leverage has declined. It currently stands at about 130% of disposable
income. How much further will the deleveraging process go?

Going forward, it seems probable that many US households will reduce
their debt. If accomplished through increased saving, the deleveraging
process could result in a substantial and prolonged slowdown in
consumer spending relative to pre-recession growth rates. {1}

Household wealth has dipped $14 trillion since the crisis began. Wages
are slowly retreating and unemployment is at 9.5% a 25 year high. Also,
the percentage of home equity has fallen below fifty percent for the
first time on record. And - since one-third of homes have no mortgages
(100% ownership) - the remaining homes have only twelve percent equity.
If prices continue to drop in 2010, the vast majority of homeowners
will be underwater presaging a sharp rise in the number of foreclosures.

In the last eighteen months, the ratio of debt to disposable income has
only eased to 128%, which means that it will take at least a decade to
rebuild balance sheets enough to resume spending at pre-crisis levels.
It's going to be a long hard slog even if the stimulus works according
to plan, especially since unemployment is headed for ten percent by the
end of September and higher by 2010. Household deleveraging will
continue regardless of positive developments in the markets, which
means that the economy will reset at a lower level of activity. This
precludes any chance of a strong recovery. According to David
Rosenberg, chief economist for Gluskin Sheff :

By our estimates, there is up to another $5 trillion of household debt
that has to be eliminated in coming years and that process is going to
require that consumers go on a semi-permanent spending diet. Companies
see this, which is why they are not just downsizing their payroll, but
have also cut the workweek to a record low of 33.1 hours. Fewer people
are working and those that are still working have seen their hours
dramatically cut this cycle ...

The op-ed column by Bob Herbert in the Saturday New York Times really
hit the nail on the head on this whole 'green shoot' issue - how can
there be 'green shoots' when the labour market is deteriorating at such
a rapid clip fully nine months after the Lehman collapse. The full
brunt of the credit collapse may be behind us, but please, the other
two shocks, namely deflating labour markets and deflating home prices,
are very much still front and centre. For every job opening in the USA,
there are more than five unemployed actively seeking work vying for
those jobs. That is unprecedented and nearly double what we saw at the
depths of the 2001 recession. The official ranks of the unemployed have
doubled during this recession to fourteen million and if you take into
account all forms of labour market slack, the unofficial number is
bordering on thirty million, another record. For those who still
believe that we somehow managed to avoid an economic depression this
cycle because of a thirteen percent fiscal deficit/GDP and a pregnant
Fed balance sheet, the Center for Labour Market Studies at Northeastern
University estimates that the real unemployment now stands at 18.2%,
which is actually higher than the posted rate at the end of the 1930 ...

"What makes this cycle "different" is that three-quarters of the
workers that were fired over the last year were let go on a permanent,
not a temporary basis. A record 53% of the unemployed today are workers
who were displaced permanently - not just temporarily because of the
vagaries of the traditional business cycle. This means that these jobs
are not going to be coming back that quickly, if at all, when the
economy does in fact begin to make the transition to the next expansion
phase. {2}

Rosenberg's comments should be carefully considered in relation to the
scaremongering about inflation by conservatives and alarmists in the
media. Inflation is not serious danger for the foreseeable future. The
velocity of money has collapsed and deflation is pushing down asset
prices and wages. Every sector is contracting. Without stimulus, the
economy will remain in negative GDP. Here's Scott Patterson from the
Wall Street Journal:

A rule of thumb is that inflation doesn't become sticky until the
unemployment rate dips below five percent. Since 2001, the
Nonaccelerating Inflation Rate of Unemployment, or NAIRU, the rate at
which economists estimate the labor market can trigger inflation, has
stood at 4.8% unemployment, according to the Congressional Budget
Office.

In the first quarter, the spread between the NAIRU and the actual
unemployment rate averaged 3.3 percentage points, the widest spread
since 1983, when unemployment hovered around ten percent. A high spread
suggests the labor market needs to get stronger before inflation is a
concern. {3}

The inflation hobgoblin is a political ploy by the Republicans to
derail Obama's recovery plan. And, in some respects, it's working.
Public support for a second stimulus package has withered, and with it,
any hope for sustained rebound. Pressure on wages and prices are
growing while the effects of deflation are becoming more and more
apparent. Delinquencies, defaults, bankruptcies and foreclosures are
all up, while state budgets buckle and joblessness mushrooms. The
Republicans are following the neoliberal handbook, trying to crash the
economy so that public assets can be privatized and public services
terminated. They're being helped in their campaign by bailout-weary
citizens who don't understand that short-circuiting government spending
during a deep recession can precipitate a bigger catastrophe.

That said, liberal economists have made poor case for more stimulus.
Stimulus is not a panacea; it's merely a bridge from Point A to Point
B. Government spending can take up the slack in demand, but it can't
fix the economy's underlying problems. That takes policymakers who are
willing to do battle with the big banks and re-regulate the financial
system. No one in the Obama administration is willing to perform that
task, so the economy will continue its downward drift.

Presently, the banks have more than a $1 trillion in toxic assets on
their balance sheets and the wholesale credit markets (securitization)
are in a shambles. Nothing has been done to separate commercial from
investment banks, force all derivatives onto regulated platforms,
unwind insolvent financial institutions, establish prices for complex
securities, increase capital requirements, or put an end to off-balance
sheet operations.

If the underlying problems are not going to be fixed, than why are
liberal economists so eager to use their talents to minimize the
effects of the recession? They're just making it easier for Wall Street
huckster's to start gaming the system again. The job of progressive
economists is to promote a more equitable system that reduces
inequality and provides for the basic material needs of all its
citizens. There's no sense in cheering on stimulus if it just
perpetuates the same dog-eat-dog system.

The subtext of the financial crisis is class warfare, a fact that
mainstream economists would rather ignore than invoke the musty imagery
of disheveled revolutionaries and Soviet-era repression. Nevertheless,
during the Bush years, the chasm between rich and poor widened to
levels not seen since the Gilded Age. Now the top one percent of wealth
holders own more than twice as much as the bottom eighty percent of the
population. All of the real gains in national income, total net-worth,
and overall growth in financial worth have gone to the same one percent.

But the strides in personal enrichment have come at great cost. The US
consumer, long considered an inexhaustible resource, is tapped out.
Without job security and access to easy credit; consumer spending will
slow, prices will fall, demand will flag and the economy will tank.
There won't be a recovery, because pre-crisis levels of consumption
will not return; that much is certain. Sustainable growth requires
higher wages and longer working hours; neither of which are likely
anytime soon. The economy is headed for a protracted slowdown with
persistent high unemployment and growing social unrest. The future is
deflation.

References:

{1} "US Household Deleveraging and Future Consumption Growth", by
Reuven Glick and Kevin J Lansing, FRBSF Economic Letter

{2} David Rosenberg chief economist Gluskin Sheff

{3} "Inflation fears? Not in this job market", Scott Patterson, The
Wall Street Journal _____

Mike Whitney lives in Washington state. He can be reached at
fergiewhitney at msn.net

http://www.counterpunch.com/whitney07132009.html


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