All this has been obvious to us for a long time. Still, until this summer, nothing gave. Consumer spending continued to rise!
But now, the latest news is that consumers are finally slacking off. Auto sales are plummeting, for example.
Of course, the first thing to go was spending on houses itself. The builders got nailed. And then, the people who financed the builders…and who lent mortgage money to borrowers who couldn’t pay it back. But nobody seemed to care…until the ‘radioactive paper’ – derivatives based on mortgage debt – started to melt down. All of a sudden, a ‘Credit Crunch ’ was in the headlines…and Wall Street was on the phone to central bankers.At first, hardly anyone knew what a credit crunch was. People thought it was a new breakfast cereal. The newspapers had a problem with the story from the get-go. They didn’t know whether it should run in the finance section…or the Police Blotter. Subprime lending could have been a crime story…or a financial accident; they didn’t know.
Then, the banks began to announce losses…and the numbers grew. A hundred billion here…a hundred billion there…pretty soon, we were talking about real money.The latest estimate comes from Goldman Sachs (NYSE:GS). Goldman says total losses from subprime lending will hit US$400 billion. But the golden boys go on to say that the losses to the economy will rise to US$2 trillion. Ah, yes, dear reader. That is how a credit crunch works. When credit is expanding, a relatively small amount of money is leveraged into a big amount of money. A borrower might use US$100 million deposit, for example, to anchor a loan for US$1 billion. But when credit contracts, leverage works in the opposite direction. A hundred million of capital disappears…and the US$1 billion of loans are withdrawn. Altogether, Goldman expects US$2 trillion in cash and credit to evaporate.This is bad news for the
Already, there is “alarm at rising US car loan defaults,” says the Financial Times. And gasoline in the
You’d think investors would want to get out. You’d think they’d at least want to watch what happened from the sidelines for a few weeks. But so far, we’ve seen only a steady retreat…no panic. No crash. No collapse.
The old market hands are wondering…what does the market see? How come it doesn’t correct in a major way? Do investors really think that the declining dollar will save them…? Are they expecting another big rate cut from the Fed (Bloomberg says another 3/4 point is coming…)? Do they think it will all blow over…instead of blowing up?
More tomorrow…and the day after…and the day after…
Markets and Money