Sometimes the Truth Makes for Bad Politics

So, Phil Gramm (and, by association, John McCain) caught some slack last week for saying "You've heard of mental depression; this is a mental recession" and "We have sort of become a nation of whiners." Looking at this strictly from a political standpoint, these are incredibly stupid comments to make and constitutes a signifigant political gaffe for someone who, up until a few days ago at least, has been repeatedly referred to as "John McCain's top economic advisor." If there actually was a book titled "Campaigning 101", I'm pretty sure that somewhere near the top of the list of things not to do would be "Do not refer to the constituency as whiners, and do not tell them that their problems are imaginary." The response from both candidates was, of course, completely predictable. McCain leapt to the defensive, saying "Phil Gramm does not speak for me. I speak for me. I strongly disagree" while Obama came out with "When people are out there losing their homes and property values are declining, that's not a figment of your imagination." So, in the end we have a seeming non-starter where both candidates agree that Phil Gramm is wrong. Well, that's all well and good except for the tiny little problem that Phil Gramm's actually right.

Don't get me wrong. The economy is certainly not soaring right now. But neither is it as horrible as most people believe. On Friday, a poll was released which said that consumer confidence is currently hovering around a 28-year low. Really? Do people, as a whole, really think that our economy is in as bad a shape now as it was in 1980? In that year, consumer sentiment reached its low point in May at 51.7, but for the 1st half of the year it averaged 58.9. Right now we are at 56.6. Consumer's fears turned out to be pretty well-founded in 1980, as real GDP declined by a whopping 7.8% (the largest drop since 1958 and a drop that is over 2.5 times anything we've seen since). As it stands right now, we have had a pretty anemic 6 months (with real GDP increasing an average of .8%) compared with our 50-year average of 3.4%. The numbers for the 2Q2008 aren't out yet, but the number is expected to be small but positive or, at the worst, a slight negative. Certainly nothing on the order of even negative 2 or 3% (as what occurred during our last official recession in 90/91). On the unemployment side, statistics for June place it at 5.5%, which is higher than it's been for the last 4 years but about average for the last 50. In 1980, it was around 7.5%. On top of that, the upside to a weakening dollar has been a booming export business and a substantial increase to foreign tourists visting the U.S.

Again, I am not trying to say that people's struggles are not real. In fact, I know of 2 people that have been laid off in the last week. As I've indicated a number of times on this blog, I have not been a fan of this current administration's fiscal policies and I do not believe that it has served us well. However, I believe that it is still absolutely correct to say that the current sentiments about the economy are, at the very least, an overreaction. As case in point, just take a look at the different tone communicated between this article and this one. Even if you don't feel like reading the article (and I know you don't), just look at the difference in what the headlines imply. And the two articles share a common author! You might think that this is merely semantics, but it is much more than that. The economy sometimes really does function like The Matrix ("your mind makes it real"). If people believe that times are really tight and they need to save up every penny and stop consuming, all of their worst fears will come to fruition.

High gas prices, a horrible housing market, and the credit crisis are all very real and negative forces. I will use a hated term here, but in each of these situations the market is really and truly experiencing a correction. Gas prices are being driven up by increasing demand, both seasonally from the U.S., and internationally by permanent increased (and rising) use. It will not always be $4.00/gallon, but cheap gas (i.e. under $2.00) is gone for good. We will have to adjust (and if you look at plunging truck and SUV sales for the year, we are). As for the housing market, if you bought your home in 2004-2006, odds are that you're not very happy right now, and for good reason. But if you bought before then, unless you are in one of the couple areas hit unbelievably hard chances are good that your house is still worth more today than when you bought it, and it's a virtual certainty if you bought in 2000 or before. People are often victims of what I refer to as the "gambler's mentality", which means that whenever they get "up" money that amount instantly becomes the floor below which everything is considered a loss. As an example, imagine someone walking up to you and saying "I just lost $5000 at the blackjack table" and then you find out that what actually happened was that he started with $100, got up to $5000 and then proceeded to lose it all. The reality is that he actually lost $100, but it "feels" like he lost $5000. Similarly, people who bought their house in 2000 at $150,000 probably saw their value double in 5 years and now they've had it sink back to $175,000 (yes, I am making these numbers up). It "feels" like they've lost $125k, but in reality they've gained $25k. Of course, that leads right into the credit problem, because some of those in the last example took out $100k home equity loans, and now they really well and truly are in the hole. That's why it has also been a correction for credit to tighten up.

The key here is to understand that what's happening is not "the sky is falling." It takes a series of significant setbacks to derail the economy and when the stars align and they happen it can be devastating. The last time we experienced something similar was the simultaneous dot-com crash and Enron/Worldcom scandals, and a year plus of negative and then lackluster growth resulted. But the underlying institutions and "machinery" of the economy were sound then and we pulled through it and the same is true today. The key is that I believe that these current crises have largely played themselves out. By that I mean that at this point we have a good sense of how much damage has been done (something that could not be said immediately after the sub-prime failures and Bear Stearns debachle) and that the worst is behind us. It will still take a while, but housing prices will start to go back up again (though it's not likely to rise to the meteoric levels it was at for quite some time) and credit will be cheap again (though probably not as cheap as it was). If you want my prediction (and even if you don't) I think we're likely to pull out of this sooner than later. The end of summer will see demand-driven gas prices decline somewhat, which should help. And the excitement of the presidential race (and subsequent exit of a very unpopular president) should serve to raise the nation's spirits. And right on the heels of the election we will jump right into the holiday season which should prove to be a nice boon for businesses. GDP growth for the rest of the year is still likely to be relatively low (on the order of 1 - 1.5%) but it should boost consumer confidence, which should in turn boost growth in subsequent quarters.

So, yeah, if I had any money to invest I'd look to do it around late September/early October. Of course, another financial or international crisis between now and then and all bets are off.