A Desperate Gamble to Keep Up
I like quantification and charts as much as the next person, but some trends cannot be easily charted. I refer to the sense of financial unease which many Americans are experiencing (or perhaps finally admitting to).
I suspect the unease began a generation ago. Operating well below the radar of the myopic media, this undercurrent of insecurity has been feeding the asset bubbles which have undermined the global economy.
Beneath the surface of ordinary awareness, this unease transmogrified into a near-desperation to "keep up" financially by any means possible-- including gambling on dot-com stocks and housing-bubble properties.
We all know wages have been flat for years. The Wage Jump That Never Came (New York Times April 2008)
According to the Center for American Progress:
"Factoring in inflation, hourly wages were only 2.0% higher and weekly wages were only 0.8% higher in January 2008 than in March 2001." But we also know "official inflation" is bogus and that real inflation is roughly double the official rate of approximately 3% per annum. Factoring in a more realistic inflation rate of 6-7%, then clearly the purchasing power of wages has dropped significantly.
Note that a 3% loss of purchasing power (i.e. an inflation rate of 6% instead of 3%) per year amounts to a cumulative decline of 25% over 8 years.
For more on real inflation, please visit Shadow Government Statistics.
Let's go back 20 years to 1988 and the near-peak of the last, much milder housing bubble. Despite Reagan's brilliant ad campaign proclaiming "It's morning in America" (it shoulda been a movie title), the 1980s were not that kind to the Average American Worker. First, the decade opened with the highest inflation and then the deepest recession since the Great Depression 50 years before. Millions lost their jobs, interest rates skyrocketed above 15% as the Fed tamped down an inflation rate exceeding 10%, and needed fixes to the Social Security system raised taxes on every employee and employer alike.
The typical wage-earner had seen their purchasing power decimated by inflation, and their home values held down by high interest rates. Savers had a field day, locking in interest well above 12%, but potential home buyers were essentially locked out by high rates and points (fees).
As things began looking up, what did the average worker see? Yes, some improvement, but also the Great Con in well-oiled action. As the decade drew to a triumphant close with the tearing down of the Berlin Wall, real estate was again in full boom/bubble mode--but the real money was being made by shysters opening Savings and Loans in low-regulation states like Texas. Offering high interest rates on $100,000 accounts, the S&L crowd loaned huge sums to pals for risky vrentures and used the rest living very high on a fat hog.
When the con fell apart, the taxpayers footed the bill to the tune of about $150 billion: U.S. Savings and Loan Crisis: Case Study.
What was the lesson of the 1980s? Financial fraud was where the big money was made--and when it blew up, the taxpayer bailed out the gamblers. The lesson was not lost on the taxpayers, especially the lower-income ones.
Here is the abstract of an academic study: U.S. Wage Trends in the 1980s: The Role of International Factors by by ROBERT Z. LAWRENCE (Harvard University - John F. Kennedy School of Government; National Bureau of Economic Research)
International trade has had some impact on relative industry wages, but cannot explain widening wage differentials by education, skill, or occupation. Likewise, the slow growth of average wages during the 1980s cannot be explained by international trade.
It's easy to forget that the 1990s did not start that well for average wage earners. A sharp recession in 1990-1991 took the air out of the economy and the housing boom, and the stock market was essentially flat for all of 1994. Though inflation was tamed, interest rates were still about 7-8% and housing was dropping in value. The average employee had about as much financial traction as a 2-ton 1962 Cadillac stuck in 3 feet of gooey mud.
As the 1990 tech/Internet revolution took off, the picture brightened--and it didn't take long for everyone to notice the only real money was being made in stocks, and in particular tech stocks on the Nasdaq. The stock market leaped in 1995, and again in 1996. The Asian Contagion of late 1997 caused a sharp swoon, but soon the markets were back in rally mode. The LTCM and Russian default crisis of 1998 again punctured the swelling balloon, but it quickly reinflated.
By 1999, it was clear there was only two ways to get ahead: either get stock options in a Silicon Valley startup, or buy tech stocks--on margin, if you had any. We can illustrate the psychology at work:
The collapse of the Nasdaq burned millions of small investors who sank IRA and other retirement money (not to mention money borrowed via margin) into tech stocks at the peak or near-peak. Analysts continued calling a "bottom" for years, until the bottom was finally struck with a dull thud in March 2003, after about 80% of the peak valuation had been lost.
(Let me be the first to admit to holding onto some tech stocks past the point of mere pain all the way to mind-numbing losses.)
How many average workers entered the Nasdaq in a big way in 1995 and then exited in late 1999 near the top? Very few. For many, if not most, the decades' "hot investment" was a net loser.
As the Fed dropped interest rates in the early 1990s housing perked up, and a replacement "road to wealth" appeared: good old housing. The same pattern played out again: early "dumb money" (i.e. those who bought homes out of pure luck or because they were moving) reported astonishing profits in just a few years, and soon the "easy road to wealth" bandwagon was rolling.
Once "liar loans," no-down mortgages, adjustable-rate, interest-only and exotic subprime loans were readily available, then the last skeptics surrendered to the apparent "reality" that "housing will never go down" and bought into the burgeoning housing bubble.
Alas, the Nasdaq bust is now playing out, but in slow motion in real estate, for not only is housing far more illiquid than stocks, the financial fallout of the mortgage/housing blow-off is far more widespread.
At every point, the average "investor/"gambler's primary motivation appeared to be simple human greed--the desire to get something for nothing--but perhaps another less visible force was also at work: desperation. Desperation to make up for all the lost purchasing power of the previous decades, for the loss of pensions and job security, for higher taxes, massive student loans (not necessary when college was cheap), and the nagging awareness that simply having a job and working hard were no longer guarantees of anything but a diminishing standard of living.
It's easy to contest this idea, and to lay the blame for the continuous cycle of asset bubbles on the poor fools who bought in and sustained the bubble on the way up. But who made gambling easy? Who refused to lower margin requirements from 50%, which would have cooled off speculation int he dot-com era? The Fed.
Who lowered interest rates to effective zero or less in the early 2000s, goosed the money supply, dropped regulations on banks' activities, and then enabled loose lending standards to run unabated for years? Government agencies, the Fed and ultimately Congress and the White House, who never raised any objections until the horses had left the barn and the gate was discovered to be wide open.
Was the small speculator's behavior irrational (as in "irrational exuberance") or, in light of the declining real wages experienced by most wage earners, was it a rational gamble? I don't know if it was rational, but it was understandable.
Yes, cupidity and greed were undoubtedly part of the frenzy, both in the 1990s dot-com bubble and the 2000s housing bubble. But the lesser-noted reality is the average wage earner has seen their purchasing power decline for years or even decades. Having tried the stock market and been walloped by the dot-bomb collapse, you could almost hear the collective sigh of relief at the realization that the next "sure thing" was something tangible, something everyone could understand: houses.
But alas, a house is a financial asset, and therefore it is susceptible to all the whims and vagaries of the marketplace and arcane government policies which influemce the market. If it is a heavily leveraged asset, then it is a very risk asset to own, and a costly one to dispose of.
Beneath the noisy calls for reform, do we hear a collective sigh of despair? The bet failed, the gamble has been lost, and now that there is no new asset bubble in sight to save us, then perhaps the average worker is finally resigned to the long-resisted fate of living with less, and on less, for a long time to come.
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Monday, April 14, 2008
A Desperate Gamble to Keep Up
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