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Generational Dynamics Web Log for 31-Jan-06
Personal savings rate plummets to Great Depression levels

Web Log - January, 2006

Personal savings rate plummets to Great Depression levels

Ben Bernanke becomes Fed Chairman tomorrow, and faces exponentially growing debt levels

The Commerce Department reported Monday that Americans' personal savings fell to -0.5 percent last year, a negative value, meaning that Americans as a whole spent more than they earned last year.

This has happened only twice before in the last century -- 1932 and 1933 -- as the Great Depression was beginning.

Total credit market debt <font size=-2>(Source: PIMCO)</font>

Total credit market debt (Source: PIMCO)

This is consistent with the adjoining graphic, which I've posted before (in 2004). It shows the astronomically high level of public debt, exceeding even the level of the Great Depression, when people went into debt to avoid starvation and homelessness.

As I've been writing since 2002, America is entering a new 1930s-style Great Depression and, as I've said many times, both I and other analysts have computed, the "true value" or book value of the stock market today to be around Dow 4500, which means that the market is overvalued by more than a factor of 2, at about the level as just before the 1929 stock market crash.

The savings rate has been declining for decades.

In 1984, it was 10.8% of after-tax income; it decreased steadily, reaching +1.8% in 2004, and then fell to its negative value, -0.5%, in 2005.

A similar pattern has been occurring with trade deficits, which have also been increasing exponentially.

Those pundits who have been saying that the economy is "self-correcting" are simply wrong. The theory was that the dollar would weaken sufficiently that consumers would be forced to spend less.

What you're seeing is something that undermines the entire theory of demand economics. When people run out of money, they're supposed to spend less. But that's now what's been happening; thanks to the Fed's near-zero interest rate policy in the early 2000s, people have gone deeper and deeper into debt rather than spend less. They obtained credit through credit cards and by refinancing their homes in a real estate bubble.

That reasoning would have worked from the end of WW II through the 1970s, but then a major generational changed started happening, as the thrifty, risk-averse people who lived through and grew up during the Great Depression all disappeared (retired or died), and new generations of risk-seeking and irresponsible Baby Boomers and Generation-Xers took their place.

When I was growing up in the 1950s, my school teachers talked about the Great Depression all the time, because they had suffered through it. Those teachers must be spinning in their graves over the appalling things that are happening now, as a matter of course.

In the 1980s, the Republicans and the Democrats cooperated with each other to change the Social Security system to make it a sounder system. After that, they cooperated again to specify new rules to control the budget deficit. And in 1996, Democratic President Bill Clinton cooperated with the Republican congress to eliminate the welfare entitlement.

Such governmental cooperation causes political pain, but today that kind of political pain is impossible. Even at the personal level, it's easier to go into debt than to cut back on spending.

This is not just an American phenomenon; it's a worldwide phenomenon. Furthermore, these financial crises are generational, and occur in a regular pattern. They've occurred every 70-80 years since the 1600s: Tulipomania bubble (1637), South Sea Bubble (1721), French Monarchy bankruptcy (1789), Hamburg Crisis of 1857, and 1929 Wall Street crash. These bubbles and crashes always occur at exactly the time when the generation of people who grew up and lived through the previous bubble all disappear (retire or die), all at once. And it happens to every country in the worldwide economic system -- mostly Europe and North America.

However, this particular cycle has a twist, as revealed by another economic announcement that just came out: China's savings rate hit an all-time record high in 2004, just as America's has been plumetting.

Of course, China's savings rate has to be high. The Chinese people have to save a lot of money so that the government can afford to purchase American treasury bonds, so that America will have more money to purchase Chinese goods. In other words, China sends us money, we send the money back to China, and China sends us manufactured goods that people purchase with credit. And don't expect Europe to save us -- they're as bad off as we are.

Stephen S. Roach, the chief economist for Morgan Stanley, has called this the ambush waiting for Ben Bernanke, referring to Bush's appointee to replace Alan Greenspan at the Fed on February 1. Bernanke will have his academic skills tested in practice very quickly.

With debt growing exponentially, and with the stock market overpriced by a factor of more than two, the climate for a financial crisis is right. The crisis could occur tomorrow, next week, next month or next year, but economic indicators show that it has to come relatively soon. (31-Jan-06) Permanent Link
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Generational Dynamics Web Log for 31-Jan-06 Personal savings rate plummets to Great Depression levels

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Generational Dynamics Web Log for 31-Jan-06
Personal savings rate plummets to Great Depression levels