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June 25, 2012

The Capitalism Bubble

Robert J. Samuelson has a must read piece in the Washington Post today on the global financial crisis:

To understand why world leaders can’t easily fix the sputtering global economy, you have to realize that the economic models on which the United States, Europe and China relied are collapsing. The models differ, but the breakdowns are occurring simultaneously and feed on each other. The result is that the global recovery flags, while pessimism and uncertainty mount.

Take the United States. The U.S. economic model was consumer-led growth. From the early 1980s until the mid-2000s, what propelled the economy was rising wealth — stocks, bonds, real estate — that encouraged households to spend and borrow more. Feeling richer, people traded up for better cars, homes and vacations. Everyone could afford or aspire to “luxury.” Businesses responded by investing in more malls, restaurants, hotels, factories and start-ups.

Of course, this is now ancient history. The popping of the credit bubble depressed home values, stocks and jobs. Recently, the Federal Reserve reported that the net worth of the median U.S. household — the one exactly in the middle — fell 39 percent from 2007 to 2010 to $77,300, a level that, when adjusted for inflation, equaled the early 1990s. (Net worth is the difference between what someone owns and owes.)

Feeling and being poorer, Americans have cut back. Their buying is muted. They’re trying to repay debt and rebuild wealth. A new study from the National Bureau of Economic Research found that declines in household balance sheets — that is, wealth — caused almost two-thirds of the 6.2 million jobs lost from March 2007 to March 2009. To grow faster, the U.S. economy can’t rely on large gains in consumer purchases.

What’s to replace it? There are three possibilities: higher exports, more business investment and higher government spending. Weak economies elsewhere hinder exports. Businesses won’t invest unless there’s stronger demand. And more reliance on government means bigger budget deficits, a policy that inspires powerful political resistance.

It turns out that, once your economic model goes bust, it’s not easy to build a new one. The obstacles are at once economic, social and political.

Back in 2009 I remember writing a post about the air of unreality surrounding the debate over how to get back to where we were before the financial crisis.

The unreality part of nearly every proposal I heard back then was based on two astounding premises:

1. That the level of credit-fueled consumer purchasing we got used to over the last 30 or so years was normal, sustainable, or desireable.


It wasn't, and "trying to get back there" is political speak for "repeating the mistakes that got us into this mess and expecting a different result":

In the preponderance of years from 1929 through 2007, households ran surpluses. Prior to 1999, there were only six years in which households ran deficits - 1932, 1933, 1947, 1949, 1950 and 1955. During the Great Depression of the 1930s, households were borrowing or selling assets just to survive. So, the household deficits of 1932 and 1933 are understandable. During WWII, most of GDP was devoted to the war effort. Therefore, households could not legally purchase much. Moreover, there was a spirit of patriotism, so households purchased government war bonds instead of automobiles, radios and houses. Thus, during the WWII years, households ran record surpluses. Soon after the end of WWII, households went on a spending spree in order to replace depreciated consumer durable goods and to replace depreciated houses. Although data are not available to confirm this, because of the record household surpluses run during WWII, the ratio of household debt to household assets must have been unusually low. Thus, households could legitimately "afford" to run deficits for a few years. This explains the household deficits of 1947, 1949 and 1950. The household deficit in 1955 is explained by my dad's purchase of a new white-on-turquoise Ford with a V-8 and whitewalls. What a sweet ride that was!

From 1956 through 1998, households consistently ran surpluses. They ran a small deficit in 1999, a small surplus in 2000 and then consistently ran deficits thereafter. Prior to recent years, the largest household deficit as a percent of disposable personal income occurred in 1947 at 1.69%. Starting in 2004, household deficits relative to disposable personal income have exceeded the previous record of 1947.

2. Ignoring the fact that, in addition to spending money they didn't have, US consumers were also saving far less than at any time during the 20th Century:


It's been nearly four years since the financial crisis of 2008 and I'm still not seeing any honest analysis of how we got there from either party. When you look at how our economy changed over the long term, one thing is brutally clear: the level of "prosperity" most of us have enjoyed all our adult lives was - like the inflated housing prices we also enjoyed and came to expect - unnatural and unsustainable. It was fueled by record increases in household debt and record decreases to household savings.

The idea that we can - or should - strive to get back to the good old days when the average American household spent far more than it earned and stopped saving for financial reverses we all know are cyclical and inevitable is just plain delusional.

If we want to know why our government spends far more than it earns and - far from keeping something in reserve as a hedge against economic downturns - is running record deficits, we need only look in the mirror.

The problem isn't "them". It's us.

Posted by Cassandra at June 25, 2012 06:19 AM

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The destruction of personal (household) wealth is not and should not be a surprise. It is, on one hand, the end of the illusion of the perpetual growth of most family's number one asset, their home. On the other hand, it is a natural consequence of the practice of repeatedly socializing the large private debts into public debt by inflating the fiat currency of the dollar.

Deficit spending, now totally out of control, will continue to depreciate the value of any fixed assets. Except maybe gold mines.

And lastly, the demographics of the situation will make this even worse in the years to come, as more people in the so-called "baby boomer" cohort will retire and want to liquidate that prime asset, their home, to raise capital to afford retirement. And this to will glut the market with houses that not many people will want to buy or can afford.

People love to point to the "banksters", those evil malignant toadies who are purveyors of the sin of usury. But the answer is us. We wanted "more", and now we've got it.

More debt, more insolvency, more stagnation.

Mitt Romney may be able to mitigate some of the worst fiscal activities of the Federal Government, if elected, but the course that has been set for generations cannot be changed in the span of a few years.

Hope and change. Catch the fevah!

Posted by: Don Brouhaha at June 25, 2012 08:54 AM

The first excerpt emphasizes the reliance on consumer spending, but the real point seems to be deficit spending. I don't see that it much matters whether the deficit spending is on consumer goods, military hardware, entitlements, or roads and bridges. If you want to enjoy it now and leave the bill for your kids and grandkids, it's a Ponzi scheme that will collapse as soon as your population growth levels off.

Posted by: Texan99 at June 25, 2012 10:23 AM