Tuesday, April 6, 2010

HBR: "Welcome to the False Recovery"

Old-timers may know Eric Janszen from his iTulip or pre-iTulip days.
Here's a chart from a piece of his we linked to a couple years ago (links below):

Total market value: Alternative energy and infrastructure.
Estimated fictitious
value of next bubble compared with previous bubbles.

From the Harvard Business Review:

The one economic indicator that seems to point toward long-term hope for businesses is the increase in the U.S. household savings rate—the portion of income that wage earners aren’t spending. Savings were close to nil until the economic collapse but have been rising ever since. As of this writing, the rate stands at about 4.8%. Economists and business leaders say this is a good sign, despite the short-term drag created by decreased spending. “I would feel more pessimistic if it were still 1%,” says Gregory W. Brown at the University of North Carolina’s Kenan-Flagler Business School. Friends of mine who run companies, both private and public, have expressed pretty much the same sentiment. A savings rate that’s even in the 6%-to-8% range is respectable. And if consumers don’t return to their old borrowing-and-buying habits, the argument goes, one day they’ll go out and spend all this saved-up cash, and businesses everywhere will reap the benefits.

But in fact, the rising savings rate is telling us something very different. It’s not reflecting an imminent recovery but rather a drawn-out malaise that will soon become something like a lost decade. Because of the way the government measures household savings, the increase doesn’t signify more money in people’s wallets; instead, it suggests that consumers are paying off their mounting debt during a period of reduced borrowing. That’s no harbinger of growth.

Companies planning for sudden and relatively near-term growth should reshape their strategies to make the best of economic flatness.

FIRE Extinguishes Savings

The savings rate is one of those numbers that econo-wonks adore because it is seen as an indication of pent-up consumer demand. Its history is simple. After the early 1980s, when the FIRE (finance, insurance, and real estate) economy was born, we saw two glorious decades of falling interest rates and rising asset prices. So an entire generation internalized the false belief that home values and stock prices would forever rise. Equity portfolios averaging double-digit annual increases and home prices doubling every six years scotched any incentive to sock away 8% of income. As households spent, they also took on large amounts of debt. Cash went into mortgage payments for overpriced housing, and the savings rate dropped to near zero.

Which was fine until asset prices collapsed. Even now it’s hard to fathom that $6.3 trillion in financial assets and more than $5 trillion in real estate value vanished in the 24 months between late 2007 and late 2009. The popular delusion of asset price inflation as a savings substitute disappeared in tandem, as did millions of jobs and the portion of the economy sustained by private debt growth. When people stopped spending and borrowing, the government cut interest rates and pumped $1.6 trillion of deficit spending into the economy. This was the Great Recession, and it led to the current sharp rise in household savings, the first increase since the FIRE economy took hold.

One Step Forward, One Step Back

The reality is, households are using their savings to pay off the massive amounts of debt they accumulated even before their net worth declined a staggering $11 trillion over 2008 and 2009. The money is not going under mattresses or into bank accounts, from where it will emerge one day to jump-start the economy. It’s actually subsidizing the previous boom, which was built on debt and the presumption that assets would always cover that debt....MORE

A couple of our previous posts linking to Mr. Janszen (and others):

As One Economic Bubble Bursts, Another Takes Hold

Psst: Do You Want to Know the Future of Renewable Energy Investing?

Recession-Plagued Nation Demands New Bubble To Invest In