HAPPY (?) DAYS AREN’T HERE AGAIN

11/11/08

One of the lead stories on the CBS radio business news this morning was that Citicorp will be modifying terms on 130,000 mortgage loans (with a potential value of $20 billion) for customers who are current on their payments but are facing financial difficulties. This is probably a salubrious development, but its overall beneficence is a matter, as these things should be, between Citicorp and its customers. However, it was the news report’s referring to the housing crisis, which this move by Citi is designed to partially address, as being the “root cause” of our current financial difficulties that prompted me to repeat what I have said ad nauseam in the past: despite what the “experts” are assuring us, the housing crisis is not the “root cause” of our current financial difficulties.

Though it lies pretty far down the trunk, housing is not the root cause of our financial difficulties. The root of our financial difficulties is too much spending and too much borrowing by individuals, governments, and, to a lesser extent, by businesses. We have been living way beyond our means, and have thus been enjoying a Potemkin prosperity, for at least the last ten years. The housing bubble, the bursting of which has been one of the most salient manifestations of our current financial difficulties, was both a symptom of excessive borrowing and spending and a means of facilitating further excessive borrowing and spending.

Given that our problem lies not in housing, but in gormless management of our personal, business, and societal finances, we can pursue, or, more properly, could have pursued, one of two courses. First, we could go through a long period of deleveraging, in which we pay down our debts, get our balance sheets (and income statements) in order, and learn to live within our means and save money. This sounds a lot easier than it would have been; given the hole we have dug and the sense of entitlement we have developed as a people, such a deleveraging would have been long, difficult, and excruciating. Doing so, if we ever summon the requisite courage, or are simply forced by an utter lack of alternatives, will be necessary if we are to survive as a people, and we will emerge a much stronger economy and a much more formidable people should we ever pursue this course of actions.

Second, we could pursue a hodgepodge of macroeconomic policies designed to avoid the aforementioned painful deleveraging. Given the utter inability of the American people to withstand pain and the short and completely self-interested time tables of our political leaders, this is the course we have chosen. The problem is that such a course of action is the financial equivalent of hair of the dog. These policies, be they financial bailouts, low interest rates, encouraging (forcing, really) banks to dilute credit standards, “stimulus” programs, forced mortgage renegotiations, etc., are nonsensically designed to combat a problem that has as its genesis too much spending and borrowing by encouraging (and indeed necessitating on the government’s part) more spending and borrowing. Like the aforementioned morning belt of Jack Daniels, they might feel quite efficacious for a few hours, but eventually 11:00AM is going to roll around and we will be in far worse shape than we would have been had we downed a quart of orange juice, a quart of water, and a handful of vitamins at 6:00 AM or, better yet, stayed home and drank iced tea the night before.

Given that we have pursued the latter course, and given the political and financial leadership’s glaring misdiagnosis of our economic difficulties, it is awfully difficult to be sanguine about the economy at this stage. We might get a temporary break, much like the several we experienced in the ‘30s, but we won’t get out of this until we bite the bullet. Hopefully, unlike the ‘40s, the phrase “bite the bullet” will remain figurative in this case.

As far as the markets go, with the S&P down some 42% from its high, it is foolish, if not mathematically impossible, to be as bearish on the market as I was when the market was at its October, 2007 peak and as I have been all the way down. However, it is nearly as hard to be even the slightest bit bullish. While, as with the economy, we might see an ephemeral pop now and then, I see more trouble on the way and more, albeit of necessity fewer, opportunities for bears, even permabears, to make some money on the short side.