Thursday, June 30, 2011

Move it, Economy: Implications for Savers and Borrowers

We were told that interest rates would be keep rates low by Ben Bernanke. We were told that we might be seeing low mortgage yields in the nearby future. They talked, and we listened. But after the Fed kept speaking positively while the economy continued to worsen, it became clear that maybe we shouldn’t believe everything we hear.

But now, as the Cinderella clock strikes that it’s almost too late, the Fed is finally admitting that the economic recovery is proceeding more slowly than they had initially predicted. Hallelujah. 

But in a recent press conference, Bernanke conceded that “…part of the slowdown is temporary and part of it may be longer lasting.We do believe growth is going to pick up but we don’t have a precise read on why this slower rate of growth is persisting.” 

Well, Mr. Bernanke, there may not be any one clear-cut reason, but here are some probable ideas. 

Why is the economy lagging?
  • The U.S. budget is in shambles and this has created vast uncertainty and anxiety in the business and consumer worlds. It's hard to feel good and start spending when you hear that your government is going broke, regardless of whether it is true or not.
  • An aging population means that more of our money is going to healthcare, leaving less for consumption of other products and services.
  • Housing has not recovered from a once in a generation bubble; and it may not recover for years. Since houses were used ATM's over the last ten years, a vast source of spending has disappeared. Many people who still have their homes are paying more than they can afford or above market rates and this is sapping disposable income.
  • China, Vietnam, Brazil, etc. are competing hard. The U.S. no longer has a business monopoly on the world and jobs are American workers must compete internationally.
  • Energy prices are going up and will probably stay up. See the last point. A developing world is hungry for energy and since production and discovery is flat, prices go up.
What can we do to make the economy can start moving again?
  1. The Federal Government produces a credible long-term budget plan that reduces the debt using a mix of budget cuts and tax increases. The argument about keeping taxes low is specious. What's the point of low taxes if the pie is shrinking? People forget that it was after Clinton signed a bill raising taxes and balancing the budget that the economy took off in 2003.
  2. The housing market is allowed to naturally adjust and recover. This may take several more years. But trying to prop up the housing market will only prolong the pain.
  3. A viable, long-term energy policy is implemented. To some degree, the market will take care of this. Once the price of oil gets above $100, alternatives become much more attractive.
In the meantime, we are stuck with a low rate, low dollar policy. If nothing is done, short term rates may stay low but eventually long-term rates will move up, as the debt becomes an increasing problem.

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