A Depression in 21st Century America Is Impossible

Things ARE different in this recession.

Access to Information

The amount of business and economic information and analysis is no longer confined to the business pages in your daily newspaper, The Wall Street Journal, or a weekly business magazine.

The average investor now has access to literally limitless data through the internet, as well as commentary from your favorite business channel and Seeking Alpha (and other blogs and websites). Investors do not need a broker to keep them apprised of trends.

Software today allows anyone to be a trader with millisecond access to the trading floor, and internet RSS information feeds gives access to news as it happens.

This is precisely why past market events do not have to repeat. You know what potentially can happen; you have access to current information, and you can pre-position yourself to the event.

This is not to say you should ignore what has happened in the past, as you need to use it in planning your trading or investing strategy. But if everyone is aware of what could happen, chances are that people today are pre-positioned for that event.

Wealth Destruction and Income Streams

Many argue that there has been no wealth destruction. The house you own is still there. The stocks you own are still there, and if you traded the stock or asset the relative value is still there. This is a fact if your logic was to hold on to the asset or the asset class until you die.

Most people, however, invest to produce an income stream now – or at some time in the future.

• To purchase and build equity, and at some point sell and use the proceeds to fund your retirement (401(k), IRA, investment real estate, etc).

• Others purchased assets to produce an income stream – rental real estate, dividend paying stocks, bonds. These income streams are becoming smaller and smaller percentages of their 2006 amounts.

This income stream wealth was destroyed in this Great Recession. You could argue that this wealth was never there in the first place. Real wealth can only be measured when an asset is sold.

In past recessions, in months or a few years at most – people and their imagined wealth were made whole. It is far less likely the recovery from this recession will make people whole any time soon. You simply have to watch the way our leaders are acting, and you know recovery will be slow.

There is a lot of evidence we are in a deflationary cycle. This means non-liquid assets are falling in value. But the cost of living for the average person is not declining. You are watching the value of your house fall, but at the same time your monthly expenditures are increasing.

Americans are watching a government do things they instinctively understand are wrong. They see the government is building debt that the government never intends to pay off. Even without this economic crisis, the government is incapable of even balancing the budget – let alone able to pay off debt. Americans look at all the possibilities (inflation, default, or debasement) to eliminate the debt and none are acceptable because of the consequences. The government, by its very actions, is creating uncertainty.

The majority would simply prefer certainty – deep recession or depression. No stimulus, unless it specifically is targeted to long term job creation. Keep the social safety nets and the banking system operating. The government does not need to make this Great Recession milder by creating an uncertain future.

Definition of Depression

The NBER has changed the definition of the beginning of a recession from two quarters of negative economic growth to the highest economic growth point before the economy starts to decline.

It follows that a recession ends when the economy starts growing again – not when it returns to its pre-recession levels. This interpretation is confirmed by past NBER announcements.

Is it possible to have a depression without a recession? Every definition of a depression seems to say that depressions are very deep recessions. Further, there is nobody tasked in America to call a depression a depression. Politically, no one would want to ever say we are in a depression.

So it is unlikely that America needs to worry about a depression. The optimists are indeed correct, and the detractors can find something else to focus on rather than arguing that we are in a depression – or that a depression is possible. A depression simply cannot happen in America any more – by definition (or lack thereof).

click to enlarge

At least this way the Great Depression ended in 1933.

News of the Week

The New York Fed has continued purchasing fixed-rate mortgage-backed securities guaranteed by Fannie Mae (FNM), Freddie Mac (FRE) and Ginnie Mae. Selected private investment managers are acting as agents of the New York Fed in these purchases. They have already purchased $52.4 billion prior to this week, and $16.8 billion this week. By mid-year, the Fed wants to purchase $500 billion worth of these securities.

The Federal Reserve’s Open Market Committee runs our economy. The statement from their meeting offers insights into their actions and guesses about our economy:

• Keep its target range for the federal funds rate at 0 to 1/4 percent (zero interest rate) – and they see no end to this policy.
• They believed the economy was deteriorating, but they see some improvement in the financial markets, though they are still bad. They hope by the end of the year a gradual economic recovery would start “but the downside risks to that outlook are significant”.
• There is no risk of inflation as far into the future as they can see. Since they have so much liquidity out there, this can only mean they see no real recovery.
• The Federal Reserve restates that their mission is to “promote the resumption of sustainable economic growth and to preserve price stability”.
• They are prepared to purchase longer-term Treasury bills – but have put off doing so again. I continue to believe purchasing of long term treasuries will commit our economy to zero growth once the recession ends. This should be a last resort to stem unstoppable economic deterioration.
• They will be implementing the Term Asset-Backed Securities Loan Facility (TALF). This program is scheduled to start in February 2009. The Fed will make $200 billion in non-recourse loans against student loans, auto loans, credit card loans, and small business loans. And you wondered why the credit card companies could afford to offer all this new credit - Joe taxpayer will soon own all this credit card debt.

New bankruptcy filings this week: National Heritage Foundation (Charity).

Summary of the Week’s Economic Fundamentals

The indicators continue to show a moderate to severe economic contraction. Some leading indicators did improve, but this improvement was based on money supply expansion which is a false god in this economic environment.

Based on data so far this month, it is beginning to appear that in Q3 2009, the rate of economic decline will be less severe than Q1 or Q2 of 2009 – but will still be trending negative. Economically speaking, there is no light yet at the end of the tunnel.

This Great Recession has presented us with a crippled worldwide financial system and worldwide recession. There are many yet unrealized problems facing our economy. This is not a doomsday prediction, but a realistic appraisal of the road ahead. Based on available data, the economy should stabilize by the end of the year (recession should end).

Because of the aggressive approach Treasury and the Fed is taking, we should be able to condense the effects of 1929 through 1933 into 2008 and 2009 provided no serious additional issue presents itself.

Recovery, however, is another issue as an economic driver is not apparent. The stimulus is misdirected and cannot be considered as stimulus in a traditional sense. Keep this in mind when viewing P/E ratios or housing prices. The economy needs to demonstrate its resilience before you bet on recovery – there are considerable lead weights around our economic neck.

Interesting but Not Indicating Anything

• Home loan applications decreased 10.3 percent compared with the previous week and increased 23.1 percent compared with the same week one year earlier. This Mortgage Bankers Association index covers 50% of all loan applications. Over 83% of all loan applications were for refinancing existing loans.

Positive Leading Indicators

• None this week

Negative Leading Indicators

• ECRI’s Weekly Leading Index has stopped recovering and is hovering in deep recession territory. This index is forward looking approximately 6 months. With the announcement of 4Q2008 GDP, a projected 6% GDP decline could be expected for 1Q2009.

• The futures price for oil has risen above $46 per barrel this week. However, development needs prices above $50 to $60 a barrel.

Positive Coincident Indicators

• None

Negative Coincident indicators

• The Department of Labor released their weekly Unemployment Insurance Claims. The non-seasonally adjusted initial claims continue to be very large, and in the last three months, 1.7 million have lost their jobs. This is the largest three month unemployment figure since WWII. Unemployment is now 7.2% - a 16 year high.

Positive Trailing Indicators

• None

Negative Trailing Indicators

• Existing home sales rose and inventory fell in December 2008 which is good news – except the inventory reduction was caused by sellers taking their houses off of the market. Prices are still going down (15.3% YoY). Here is a graphic courtesy of Tim Iacono:

• Real gross domestic product -- the output of goods and services produced by labor and property located in the United States -- decreased at an annual rate of 3.8 percent in the fourth quarter of 2008, (that is, from the third quarter to the fourth quarter), according to advance estimates released by the Bureau of Economic Analysis. In the third quarter, real GDP decreased 0.5 percent. This number – which was the largest decline since 1982 - was a little weaker than I expected, but I could not find any surprises in the data. As this is advance data, detailed analysis is a waste of time.

If you would like a summary of all government financial indicators, click here.

Closing Thought

The stimulus package making its way through Congress has “buy American” provisions. I have questioned the employment impact to America of free trade agreements. I am a free trader – but not at the cost of a net reduction of jobs in America.

President Obama rightly has redirected our nation to a new course. His inauguration speech said in part:

Our challenges may be new. The instruments with which we meet them may be new. But those values upon which our success depends -- hard work and honesty, courage and fair play, tolerance and curiosity, loyalty and patriotism -- these things are old. These things are true. They have been the quiet force of progress throughout our history. What is demanded then is a return to these truths. What is required of us now is a new era of responsibility -- a recognition, on the part of every American, that we have duties to ourselves, our nation and the world; duties that we do not grudgingly accept but rather seize gladly, firm in the knowledge that there is nothing so satisfying to the spirit, so defining of our character, than giving our all to a difficult task.

He told us to return to the truths of “honesty, courage and fair play”.

I wonder what it says about a nation who does not honor its agreements?

Disclosures: None

Comments

[Tradememe:]

"I am a free trader – but not at the cost of a net reduction of jobs"

If every country in the world abides by this definition, then free trade no longer exists.

Feb 02 06:16 AM

[MisterPhi:]

Don't agree.... he's talking about a "net reduction" not of a never-buy-imports-agai... attitude.
The whole thing could be exemplified by the the canadian yoghurt scandal (made w/ imported tainted milk) - where we have witnessed the most extreme nonsense, i.e. a coutnry rich in agri resources purchasing contaminated food from another country across the globe, with the only net benefit accruing to the wholesale operator and to the foreign producer.
Nothing should prevent you from buying dates from north africa, papayas from central america, cheese from france, etc, mind you. You can have free trade and profits - maybe they just don't grow as fast if good common sense is applied......


On Feb 02 06:16 AM Tradememe wrote:

> "I am a free trader – but not at the cost of a net reduction of jobs"
>
>
> If every country in the world abides by this definition, then free
> trade no longer exists.

Feb 02 08:25 AM

[upgrayed:]

is there a point in here

Feb 02 08:32 AM

[Griz:]

I'd like to take a survey... which one would you like to choose:

1). Deflation = expectation of future price declines.
2). Inflation = expectation of future price increases.

Greed vs. fear at it's core. Pervasive and continued expectations of future price declines leads ultimately to a depression. It's only happened a couple of times before (well actually 4 times in US history: www.kwaves.com/kond_ov...), but you pick the more likely outcome.

Feb 02 08:46 AM

[RCA:]

I love it when someone proclaims something is "impossible!" I'll take the contrarian bet every time, and usually do quite well!

Of course, economics (the "dismal science") is full of loopholes. There are relatively very few empirically tested macro models. So if we do not go into a depression, Mr. Hansen is bound to say, "See, I knew it was impossible!"

Feb 02 04:34 PM