The Last "Normal" Holiday Season

As we prepare our purposefully irreverent meal for this day of thanksgiving - boiled oats and day-old biscuits - we would like to stop and make a fearless prediction which has been rolling around in our heads since about the middle of this year. We really don't have any hard data to back up our assertion; in fact, we're going to just put it right out there, that this is an intuition.

Simply put, we posit this will be the last holiday season that anyone in the United States, or elsewhere, can call normal. Note the call normal; last year saw the last holiday season which could be considered actually normal. This season, however, will be all about keeping up appearances; the show must go on, after all.

Take this Thanksgiving in the United States; 49 million Citizens are going hungry at the end of every month. Now, at last report in September, 28.4 million Citizens are on food stamps. Hmm, we sense a number problem here... but anyway, on top of that, half of all children in the U.S. will receive food aid, as well as 90% of African-American children.

Let that settle in your mind for a moment, dear Reader. Those numbers are not from Haiti or Zimbabwe, but rather the only so-called superpower in the world, the United States. Those are not good numbers to be seeing from an OECD nation; it makes us think about terms like 'third world' and 'failed state.'

This will be a failed Thanksgiving; people will max out what little credit they have remaining for the month in order to have a 'feast.' By that, we mean keep up appearances, as there are really very few people in the U.S. right now who can actually afford to have an extravagant meal, pay their bills, and have savings. Perhaps the 'recovery' propaganda has worked its magic, and most Citizens have moved into a Keynesian dreamland, where they spend now and have an economy later. We frankly think not; we posit most U.S. Citizens couldn't make a budget - and keep it - if their lives depended on it. For 49 million of those Citizens, their lives do depend on it, and they seem to prove unequal to the task.

After Thanksgiving will be the failed consumer orgy of Christmas; failed, because one cannot have an orgy if no one shows up. That's not to say that lights won't be strung and trees erected, because they will be... probably with more 'animal spirits' energy than ever. Under those trees, though, will tell the real tale. Show us an average Citizen who has lots of gifts, and we will show you someone who is nearing the end of their financial rope.

As we're writing, an ironic thought occurs to us: would it not be an expression of cosmic justice, if the attempt at summoning up a holiday shopping extravaganza is what finally topples the still-tottering U.S. economy? Think about it: maxing out credit cards for one last huzzah; blowing the savings on gifts for the kids, or Social Security cheques on the grandkids? Citizens of the United States are far too broke to enjoy the spendy, spendy ways to which they became accustomed; at this point, they should go limp, take their financial kicks to the stomach, and try to get things in order again. Instead, they will - and we mean will - go down, in vast numbers, and in flames.

October Credit Card Collapse Report

It has been a while since we provided an update to the story of the great credit-card pay-down. According to Federal Reserve data on US household revolving debt, consumer revolving loan (mostly credit cards) balances have declined 9.17% from year-end 2008 through August. This represents an annual rate of - 14%.

Given the high credit card delinquency rates lenders are suffering (5% at last report), much of this balance decline can probably be chalked up to charge-offs. This implies households are not (contrary to popular opinion) actually paying down their debts to any great degree. In the aggregate, non-defaulting households are actually only gradually reducing their debt level. Since we have direct knowledge that at least some people really are paying down their debts furiously, this means others are getting in deeper.

The tenacity of the credit card balances could offer alternate interpretations. It is possible that household finances are in OK shape, and that people are confident about their prospects for the future. On the other hand, it could be that many, many people are desperate for funds to pay the bills, and thus borrowing (instead of cutting spending) in the face of declining income.

Since we opine that we are in a Depression - one of the defining characteristics of which is declining income, we favour the second interpretation. If true, this bodes very ill for the profligate households, and not so good for the rest of us in the months ahead.

July Credit Card Collapse Report

In last month's report, we expected to see rising charge-offs on bank's credit card receivables as more of their shrinking portfolios were dodgy. Sure enough, when the big banks reported their default rates last month, the results were impressive.

Bank of America - the USA's largest bank - reported a 12.5% default rate in May, up from 10.47% in April. This is a 19% increase in one month! The default rate is also perilously close to the interest earned on all credit card balances (according to the Federal Reserve at last report, 13.54% on all credit card accounts with balances nationally). Effectively, credit cards have become a money-losing operation for the Bank of America. We expect, over the coming months, that credit card defaults will destroy all the capital which the Bank of America allocated to its credit card operation - and then some. Other credit card lenders are suffering the same fate.

Speaking of the Federal Reserve, their most recent report on consumer credit shows a continuing and, to us, unsurprising decline in revolving loans. The drop in April was revised substantially upwards (as we predicted), now equivalent to a 28% annual rate of decline. The May preliminary data shows a moderating of the decline - which we consider to be highly suspicious. We expect next month's revisions to actually show an acceleration - as default induced charge-offs increase, and paydowns by still-solvent borrowers continue. Stay tuned...

June Credit Card Collapse Report

On June 5, the Federal Reserve released its monthly report on consumer credit. The first quarter drop in revolving credit was revised from 60.4 billion to 66 billion. The preliminary April data shows a 3.4 billion drop. So far this year the rate of decline is 7%, or 21% annualised. We expect as April data is revised, this rate will actually be considerably higher.

If the flow of credit is indeed the "life blood of the economy," as Mr. Obama states, then the USA has arterial sclerosis. Our opinion, of course, is entirely the opposite: the economy can be quite fine without consumer credit. The World got along fine for thousands of years without consumer credit and may again.

The flow of credit is only the life blood of banking profits. American households will of necessity become thrifty in the years ahead or face ruin. Banks will be increasingly cut off from the once fat profits of consumer lending. Their rump loan portfolios will soon turn into capital-annihilating loss generators.

It's a little known fact of lending that you can cover up dodgy portfolios by expanding quickly. Since loans sour as they age, if you keep a loan portfolio new (by always adding more and more accounts), your percentage of delinquent loans will seem low. If your growth stops, or even reverses, your deadbeats can't be hidden so neatly.

The result of that phenomenon as it applies to the current situation is that bank losses on their consumer credit book should begin to really mushroom over the next few months. Don't buy the media announcement of 'unexpected' increases in credit card delinquencies. The banks know its coming, but you read it here first.

Credit Card Collapse Report

With today's post we are introducing what we expect to be a recurring report on consumer credit in the USA.

On May 7, the Federal Reserve issued its monthly report on consumer credit. Going beyond the massaged, 'seasonally adjusted' figures, there are some impressive numbers. Apparently in the first quarter of 2009, revolving credit balances - mostly credit cards - fell $60.4 billion, approximately 6%.

This means that not only are people not taking on additional credit card debt, they are paying it off at a rapid rate. If this should continue as a trend, and there are at least two reasons to expect that it will, it will have a serious dampening effect on consumer and business spending.

The first reason to expect the credit card paydown to continue is that credit card issuers are cutting credit lines right and left. Even good customers who have always paid on time are finding letters in the mail informing them their lines have been reduced or their accounts closed altogether.

The second reason is the debtors themselves are feeling less inclined to be debtors. When one's income is declining or even just less certain, all debts become onerous.

It should also be mentioned that part of the decline in debt outstanding is due to writeoffs by lending institutions. These writeoffs also erode the lenders' capacity to issue new loans.

It's Not Just the Bankers Who Destoyed Western Civilisation

Ah, the Bankers, how they have garnered the wrath of the world. Between the growing public anger vented on their villas, and the recommendation that bank employees wear their "civvies," it's not a happy time to be associated with a bank. Especially a bank whose name is recognisable by a large number of people. The violence is growing, and we don't doubt that things will be getting worse for the world's new collective whipping boy.

It's not without some truth: the world's major banks designed, packaged, and sold various schemes which - intentionally or not - was the poison pill for the world's economy. The question is whether or not the pill contained sufficient poison to kill the economy, or merely give it some serious health problems. It seems that the latter is true, as the world economy is in a flaming tailspin, as the numbers seem to suggest.

However, we feel the bankers have gotten more than their fair share of the blame for destroying Western civilisation as it is presently understood. On the Times Online's list of 'ten people who should be most hated,' we see ten faces very deserving of anger. There is, we feel, another clique of individuals who have an equal - or perhaps greater - share in the collapse. They should get their fair share of the anger. These persons are the realtors and developers of the United States.

No, really. The reason we level our finger at these recently unemployed persons is simple. They are the architects of the great suburban build-out in the United States, the mortgages for which is a goodly part of the toxic crap now causing the world's economy to keel over in convulsions. The build-out was strongly popularised at the end of World War II, through such legislation as the G.I. Bill. A house in suburbia became the Holy Grail of the average American, as evidenced by the last sixty years or so of rapid suburban construction.

It was a seemingly endless source of money, and it became enshrined as part and parcel of the so-called American Dream. Great amounts of money have been made selling dreams, and so the developers built suburbia, the realtors sold it, and the bankers financed every step of the process.

From this unwholesome ménage à trois the poison pill was crafted. To and from suburbia flowed the sub-prime mortgages, the credit cards, the automobile loans, and the like. All those forms of debt were sliced and diced into many new and interesting forms; other, even more exotic expressions of High Finance were invented to slice and dice further. Put simply, the bankers are indeed to blame, but they had very willing assistance in their quest for more money.

A Brief Lesson in Debt

Hyman Minsky (1919-1996) was a rather obscure economist who came up with an excellent theory of debt which seems especially appropriate to current events. In brief, he divided borrowers into three categories: the hedge borrower, who can make loan payments easily out of income and extinguish the principal; the speculative borrower who can make interest payments more or less easily out of income, but cannot repay the principal except by rolling over the debt; and finally the Ponzi borrower whose income does not cover even the interest on debts, and therefore needs an ever expanding supply of credit to service loan payments.

A clear example of the hedge borrower is the homeowner who takes on a traditional fixed mortgage, the payments of which are a fairly small part of his or her income. An example of the speculative borrower is the house buyer who takes out the interest-only mortgage hoping to sell the house at a profit. The ponzi mortgage borrower takes out the reverse amortisation mortgage, hoping the house will appreciate fast enough that he or she can refinance at a higher amount.

In the housing bubble bust of the last two years or so, most of the borrowers in the Ponzi category have already lost their houses. Most of the borrowers in the speculative category are 'underwater', and many have 'walked away'. An increasing number of mortgages in the hedge category are going delinquent due to falling incomes and rising unemployment. It is not pretty, and the situation will probably get worse. We expect, on the other side of this Depression, that hardly anyone will ever want to buy a house with a mortgage again.

Of course Minsky's model applies not only to mortgage borrowers, but to the banks that lend to them. Banks are completely dependent on continuously rolling over their entire debt structure. This is why they are the first to feel the strain of a credit crisis.

As things are currently unfolding, central banks and governments are stepping up to fund banks who need their debts rolled over. Banks are not as generous to their borrowers, and are mostly calling in risky loans, and mostly not expanding safe loans. This is hurting a great many businesses who rely on speculative finance, and will cause a great many to go under. We suspect a lot of individual borrowers who are getting their credit cards cancelled will also be forced into bankruptcy.

If the Depression continues to unfold along these lines, most speculative finance units (as Minsky would call them) will be euthanised. Exceptions will be made for banks, insurance companies, and public utilities. The consequences will be very dramatic: tens of millions of failed businesses and hundreds of millions, if not billions of downwardly mobile citizens.

We doubt this this process can be arrested until it is spent. If you are a borrower and you cannot pay your debts out of your income (and these days incomes are not so reliable), you will need to liquidate assets or default. The end result is that you will become poorer. So-called 'rescue plans' will be of little help. If you are able to service your debts - congratulations! - you will be fortunate enough to experience the down-not-so-much that is the new up.

What is Productive Capacity?

Arising from yesterday's post is the question of what wealth really is. Well, this is frankly very difficult to answer. Perceptual wealth is the name of the game right now, it seems: houses in and of themselves are worth 'something;' credit cards are seen as money; various corporations and banks are 'too big to fail.' These are all things which are teetering on the brink of major market revaluations (downwards), all the while desperate attempts are made to prop up their present, unsustainable valuations.

In ye oldie days, economies were predominately run from a mercantilist perspective. Mercantilism generally held that wealth was embodied in money (i.e. gold and silver). Prosperity and productivity flowed from the active hoarding of money, which thereby enriched the nation.

Anyone who has ever owned physical gold or silver should know this is hogwash. We have placed a bar of silver upon a table, and stared at it for quite a while, but as it sat it generated no wealth. Sure it was pretty, but it was only a store of value, not a productive investment. It could never produce wealth by our passive holding of it. To this we add the ideas that stocks, bonds, or houses are wealth: they are mercantilist delusions of the 20th and 21st Centuries, for their hoarding will never create wealth.

Towards the end of the 18th Century, mercantilists were superceded the physiocrats. Physiocrats held that wealth did not come from hoarding money (i.e. bullion), but came from productive capacity. At the time, the physiocrats equated 'productive capacity' with 'farming,' but we will broaden the definition, thanks to UNCTAD:

"...the productive resources, entrepreneurial capabilities and production linkages which together determine the capacity of a country to produce goods and services."[source]

Note that nowhere is 'money,' 'the stock market,' 'real estate,' or any other such silliness mentioned. Productive capacity is what makes the stuff that people need or want, and the services that people need or want. It is what Marx called labour, although that is a bit oversimplified because productive capacity does include machinery and other such complex systems.

Creativity; optimisation; ingenuity; making do; these are all part of productive capacity. However, productive capacity cannot be reduced to any of these things: it is a complex system which must be regarded as a cohesive whole, and guided by human thought. As long as you, dear Reader, are a creative person and know how to do things, you have productive capacity. Nurture this ability; it will certainly come in handy in the Depression.

What a Depression Means

It is difficult to clearly discuss the 2008 Depression when 'depression' has an unclear definition. Building upon our earlier post about the 1929 Depression, today we will begin to look at some effects the 2008 Depression will have. We hope that this gives you, Reader, better insight into what is happening economically. This will serve as a foundation for later posts, when we will look at things you can do to thrive in this Depression.

First, we must make one thing very clear: there is nothing anyone can do to stop a depression. A depression is a natural action of any economy, and is a necessary thing from an economic standpoint. It will simply happen for any number of reasons, and when started must run its course, whatever that may be. Despite claims otherwise, no depression has ever been 'stopped' by any concerted effort, either by individuals or governments.

Simply put, a depression is an out-of-control freight train barreling down the mountain. The only thing you, Reader, can do is to try and get out of its way. There is no sure way to do this, though: the freight train may jump the tracks and plow right into you, even though you're running as fast as you can away from it. A depression, like the freight train, is unstoppable, destructive, and unpredictable.

With this analogy in mind, let's take a hard look at how it applies to the 2008 Depression. Nothing is safe, nothing is certain. You cannot assume that something will be unscathed by a depression: not your job; not your pension; not your investments; not your home's value; not even your money in the bank. Any number of these, or all of them, may fall prey to the 2008 Depression, and there is nothing that anyone can do to prevent it. If you have some privileged status, such as posessing a private fortune or being a highly paid professional, don't assume that this will protect you. Judging from history, the overall loss of income (wages, profits, etc. ) can be expected to be somewhere in the neighbourhood of 50%. Some will loose all their income, most will take substantial hits, although a fortunate few will even see an increase. However, things could be better, or worse, since a depression is unpredictable.

What you can do, however, is be alert and ready to make changes in your life at a moment's notice. Also, it is better to plan ahead than simply react after the event. What would you do if you lost your job, and couldn't replace it? What would you do if your pension went away? What would you do if your credit cards were all unusable? We realise these are all hard questions, Reader, but they must be asked. Although the answers will be painful, they are the most important pieces of information you can have in the 2008 Depression.