The Economy: What is happening?

In mid 2006 I wrote two articles (The Coming Financial Crisis & Who Will Pay the US Debt?) on US economy, warning people about the coming financial crisis. At that time people were borrowing and spending freely, thinking that the good times would continue forever. Many of the so called “experts” were forecasting even better times to come. Even today, many “experts” insist that things are fine and that we should not worry. What is clear to me is that many of these experts and the companies that they work for are earning good money out of the current system of enticing people to borrow and spend freely. They know that in case of real trouble the governments will step in and save them from bankruptcy. For example the European Central banks lent $212 billion to various banks in two days. The US Federal Banks have done the same. Who is going to shoulder the burden? In the end it is the middle classes and the poor who have to pay.

But how long can they continue giving bad advice and try to hide the facts from the people? Even today with all the housing, banking and trade deficit problems, the “experts” insist that the worst is over and things will be OK. And as if this level of deception is not enough, the respected government officials are joining in (under the pretext of not creating panic) to assure people that things are OK and everything is under control. For example, on 16 August, William Poole, president of the St. Louis Federal Reserve Bank, when asked about the state of the economy and possibility of cutting interest rates stated the following:

“...No one has called up and said the sky is falling. It's premature to say this upset in the market is changing the course of the economy in any fundamental way. If the Federal Reserve were to act when it turns out there is no impact, then clearly the market would say these guys really don't have the intelligence they need to have a policy actually based on solid evidence.”

Well, the next day the Feds did cut the interest rates. Did this mean that sky was falling? Apparently not; at least not to the experts. But sky is falling and falling hard on the millions of people who have lost and are losing their jobs and homes. Already in U.S. for example, in neighbourhoods of low-priced starter homes the foreclosure rates often exceed 20%, and like fire it is spreading to other areas as well. Overall, almost 5% of U.S. mortgages had payments overdue by 30 days or more at the end of the last year. This year it will be much higher.

But this is only a small part of a bigger problem: the trade deficit. The U.S. trade deficit for the last 12 months was a whopping $827 billion. This figure, short of a new elective war, will go down, simply because the U.S. consumer will not be able to continue spending as before. The poor and the working-poor cannot spend. The bottom 20% of households take home only 3.4% of the national income while the top 20% earn 50.5%. The rich park their money in anticipation of better times and better return on their investment. So the burden falls on the middle-class, which is being squeezed as never before.

In general in the US the median earnings for individuals working full-time year-round has fallen for three years in a row. This means that people have to work harder and longer just to keep-up with the rising prices (healthcare, education and housing, not mention the utilities’ costs).

"In 2006, the poverty rate remained higher, and median income for non-elderlyhouseholds remained$1,300lower, than in 2001, when the last recession hit bottom," said Robert Greenstein, executive director of the liberal Center on Budget and Policy Priorities in a statement. "It is virtually unprecedented for poverty to be higher and the income of working-age households lower in the fifth year of a recovery than in the last year of the previous recession."[ [1] ]

But the economic problems in U.S. are not contained to U.S. economy alone. It is already affecting the European and Asian economies. Even in rich Norway we have started to feel the housing market problems of the US. Some analysts here expect the housing prices to fall (over the next few years) by as much as 30%-40%. But Norway can manage. It has a very small population of 4.4 m, a tremendous amount of foreign reserve and is also a major oil exporting country.

But other countries such as UK (Britain), Greece, Turkey, Spain, Germany, Australia and others are in for a hard time. UK economy in particular is very sensitive to financial turbulences. UK has been trying hard to become the financial centre of the Europe and it has, to a certain degree, succeeded. It has concentrated in areas such as credit derivatives, hedge funds and buyout firms. These are areas that are going to be hit hard by the developments in US. Britain also runs a large trade deficit ($155.8 billion) and even a larger budget deficit than US.

Many European countries already suffering from high unemployment rate will see their situation worsen. Countries such as Spain (unemployment 8%), Germany (unemployment 9%), Belgium (unemployment 10.5%), France (unemployment 8%), Greece (unemployment 8.4%), Turkey (unemployment 11.4%) and others will see an increase rather than a decrease in their unemployment rates. This will increase their budget deficits and decrease the consumer confidence, which in turn reduces the economic growth in the area.

On top of all this, it seems that the Bush administration, despite the wishes of the American people, not only does not want to leave Iraq which is bleeding the treasury dry, is also bent on starting another elective war, this time with Iran. By some estimates the total cost of the Iraq misadventure (assuming the US leaves Iraq by the end of 2007) will be between one or two trillion dollars. Imagine what it would cost to expand the war to Iran, a country that is much bigger, populous and stronger than Iraq. Should this happen, it will simply be too much for the world economy to handle. Local recessions are a given and the possibility of a worldwide depression will not be too farfetched.

All in all, the situation is not as bright as the “experts” are saying. I said it in august and September 2006, and I say it again: US economy is in a bad shape and unless the existing problems are not addressed properly, it will drag the rest of the world with it into a terrible recession or even a depression.

By Dr. Abbas Bakhtiar

Dr. Abbas Bakhtiar lives in Norway. He is a management consultant and a contributing writer for many online journals. He is a former associate professor of Nordland University, Norway. He can be contacted at [email protected]