The Coming Recession

Let me just start this article by saying that I am not about endorsing gloom and doom. It is rarely wholly accurate and usually not incredibly profitable. All the same I am keenly aware that markets do not go up in straight line. A downturn every so often is inevitable. Yet what amuses me is how much this reality is fought against by very smart and educated financial experts. At the height of the dot com glory days, there were many that insisted that a new paradigm would allow these companies and their stocks to go up for a foreseeable future. What followed were years of market instability. Just a year ago there were many that insisted that the housing market was impenetrable, and would not be deterred by any economic swing. We now see clearly the kinks in the armor. So why are there so many experts that refuse to believe that the next domino will fall?

First let me outline just where we are and the forces that are coming together. Since the collapse of the dot com bubble there were a few pillars that supported the strength of the US economy that allowed it to continue growing. One, as previously mention you had the strength of the housing market. This was brought on by the relief of lower interest rates which allowed Americans to better afford financing on the purchases of new homes and the refinancing of old debt. This ability to refinance allowed many Americans to use the equity on their home like an ATM. They pulled money out of this source of savings and spent it like there was no tomorrow. Second, Mr. Bush in the White House organized a campaign of government spending and tax cuts that pumped money into the economy at the expense of our long term solvency due to the rapid accrual of debt. Many government jobs and government subsidized projects have helped keep Americans employed. The only problem with this is that this hasn’t been funded with cash, rather debt that has largely been raised from the generous government of China and other foreign nations. Their willingness to keep loaning us money has helped keep those interest rates down.

Unfortunately these pillars are crumbling. The Chinese have begun to realized that the 5% interest they have been earning on their US treasury bonds is barely enough to keep them above inflation. They have already stated that they plan on diversifying future investments. They will not continue to support the dollar. This will ultimately lead to either higher inflation or higher interest rates, or perhaps both. If the US government can not sell US bonds to pay their obligations they will have to raise their interest rates till the bonds become desirable. This trend can and may ultimately lead to higher mortgage rates which largely follow the rates of US treasury bills. Higher mortgage rates will continue to shake a housing market that is still filled with speculators that are trying to ride out the current downtrend, many will not have the fortitude and will end up dumping their investments at a loss. Ultimately this will have a dramatic effect on economic activity. Many who have been employed during the housing boom will lose their jobs and not find new ones. To top this all off, because of increasing demand globally for crude oil by developing countries whose people can not afford Toyota Prius hybrids but can afford good old fashioned gas guzzlers, we will see the inflation of energy and the products that depend on that energy to be made.

So lets add this up. Rising interest rates + Falling Dollar + Higher Unemployment + Diminishing Value of Homes = Recession

Yet I am sure that there will be plenty of people out there that claim we are in no imminent danger of seeing a recession. There always are.