Friday, November 18, 2016

Consumer Credit as a % of Disposable Personal Income = Spending More Than We Make

"...consumption drives roughly 2/3rds of the economy.

Of that, retail sales comprise about 40%. ...More troubling is the rise in consumer credit relative to the decline in retail sales...

...consumers are struggling just to maintain their current living standard and have resorted to credit to make ends meet.  Since the amount of credit extended to any one individual is finite, it should not surprise anyone that such a surge in credit as retail sales decline has been a precursor to previous recessions.


...81% of American’s are now worse off than they were in 2005: “Based on market income from wages and capital, 81% of US citizens are worse off now than a decade ago.

In France the figure is 63%, Italy 97%, and Sweden 20%.”

The ultimate measure of a man is not where he stands in moments of comfort, 

but where he stands at times of challenge and controversy.

Martin Luther King, Jr.

1. We need food, clothing and shelter.

2. In the present, money buys most of what we need.

3. Most consumers may need to not spend more than they earn, but they didn't.

It's relatively easy to create a financial “bubble”, as long as there is available liquidity for purchasing power.
“From 1833 to 1837, the nation's money supply increased by 78 percent, or nearly 20 percent annually.

The new money sparked a cotton boom in the South, a canal boom in the Middle West, and a land and real estate boom everywhere.  By early 1837, interest rates began to rise as cotton planters and canal contractors sought to borrow more capital to sustain their struggling projects.

In the spring, a sudden contraction in British credit and a fall in the demand for cotton paralyzed the American economy.  Large mercantile houses in New Orleans and New York failed. Interest rates skyrocketed. Prices plummeted.  Thousands were thrown out of work. In May, the banks suspended specie payments.

The money supply fell by 17 percent.

President Martin Van Buren blamed the crisis on "excessive issues of bank paper and an "undue expansion of credit.”

The Bank of the United States, whose president, Nicholas Biddle, was determined to restart the boom by borrowing funds in Europe and using it to buy cotton.  The money supply increased by 8 percent in 1838 sparking a mini-boom.

It did not last long.

Panic again struck in the fall of 1839.  There was another run on the banks…  Cotton prices again fell, as did the price of stocks and real estate. Many banks failed entirely, including the powerful Bank of the United States.  States defaulted on their bonds, and canal companies and other firms went bankrupt."

H.A. Scott Trask
“In effect, our country has been behaving like an extraordinarily rich family that possesses an immense farm. In order to consume 4% more than we produce, we have, day by day, been both selling pieces of the farm and increasing the mortgage on what we still own.

...That will leave us paying ever-increasing interest rather than being a net receiver.

We have entered the world of negative compounding--goodbye pleasure, hello pain.”

Warren E. Buffett
Lower demand for debt (bonds) has usually led to higher interest rates
because of higher relative supplies for sale.

More bond sellers than buyers may causes interest rates to rise
to make them more attractive to assure their sales.

Low supply + high demand = lower interest rates

High supply + low demand = higher interest rates

If we borrow more to get the economy going in the short term, 
interest rates should continue to climb higher
as the value of a whole lot of low interest bonds fall rather dramatically

If consumer incomes decline, chances are good that debt levels will increase to preserve living standards, which could eventually cause decreases in consumer spending (at least 2/3 of GDP) from increases in monthly debt payments and higher interest rates on higher levels of revolving debt.
Interest rates on credit cards tend to increase, as the average balance owed grows larger and isn’t paid down

If interest rates rise, the perceived value of real estate, stocks and bonds may fall.

If the interest rate on the ten-year treasury goes up by 1%, from 3.5% to 4.5%, a 10-year bond would lose about 8% of its current value, meaning if a bond bought for $100 could then be sold for $92.

If more supply than demand for bonds causes interest rates to rise, the current value of most bonds may fall and some income oriented investments lacking fixed rates and/or maturity dates may suffer relatively large losses of original principle.

If an investor owns a fixed income investment without a maturity date or a fixed return, there is no guarantee of interest or return of principle, even if the investments are government guaranteed.

Although some bond funds may pay higher rates than guaranteed CDs, 
their net-asset values are sensitive to interest-rate movement 
and a rise in interest rates can result in a decline in value.

Financial disclaimer

If interest rates rise, the value of some highly leveraged real estate may decline
and some homeowners may owe more on their mortgages than they can sell their homes for

Sometimes the risks associated with owning highly leveraged anything
may outweigh potential returns.