I have a new column up at Real Money: Ignore Statistical Oddities at Your Peril
It is essentially a follow up to last week’s discussion of the Underleveraged American Family by James Altucher. Its my attempt to dissect this issue of not enough family debt.
Here is an excerpt from the column:
"Any time an unusual event repeats, it behooves us to consider the similarities
and differences. Because Altucher laid out how the two eras are different, I
want to concentrate on a few disturbing parallels. We are not in an identical
period to 1932-33, but the similarities should not be blithely dismissed.
To begin with, each period of a negative savings rate came on the heels
of a major market crash. From 2000 to 2003, the Nasdaq lost 78% of its
value. That is roughly equivalent to the loss the Dow Jones Industrial
Average suffered following the 1929 crash over a similar period. To me, that
is the most significant factor tying the two periods together.
Second, each period followed an era of consumptive excess. In the first
instance, it was the "Roaring ’20s," in the second, the "Dot-Com ’90s." In both
cases, the population continued its high-spending ways long after the flush
times of the prior good times had ended.
I suspect the reason for this is psychological. We are creatures of
habit, and when we became accustomed to a certain lifestyle, it is difficult to
downshift. We grow used to our lattes, navigation systems and iPods. Our sense
of self-worth too often gets tied up in these material objects. It’s not easy to
tighten our belts suddenly or go without, especially after a period of
conveniences and luxury.
Alas, these traits have led to a failure to adapt economically in the
post-crash environment. Despite real
income being negative, many families have yet to adjust their consumption.
Cheap money a la Alan Greenspan has allowed us to party like it’s 1999. Only it
is no longer the ’90s — it is once again a post-crash world.
Hence, we have a negative savings rate. This failure to recognize a
significant shift in the economic environment is worrisome. Consumer spending
accounts for nearly 70% of GDP. If the U.S. consumer suddenly finds himself out
of cash and/or out of credit, the economy will be in a heap-o-trouble."
See also this chart courtesty of Michael Panzner of Collins Stewart:
UPDATE JUNE 28, 2006: 11:29AM
This is not just an individual phenomena, but a corporate one as well:
"Incidentally, a similarly disproportionate
distribution of cash exists among public U.S. corporations. Thomas
McManus of Banc of America Securities did a fascinating analysis last
year of corporate America’s cash-rich balance sheets — estimated to be
as high as a trillion dollars. Mr. McManus looked at the S&P 1500
companies (excluding those classified as financials) that are in
control of over $900 billion in cash and equivalents. He discovered
that most of the stash was concentrated among very few companies. More
than 25% of the $900 billion is held by only 10 companies, while 29
more control the next 25%."
Ignore Statistical Oddities at Your Peril
6/26/2006 2:56 PM EDT
Haven’t I seen similar charts comparing GDP with and without housing values or mortgage equity lines of credit?
What that chart tells me is that we have created proto-revolutionary conditions in America. My guess is that people with the saavy and position to invest are reaping all the rewards of growth. Fair, some may say, but if we are going to be pragmatic about things, we should realize that the current trends are politically unsustainable. Our stable political system is why one’s hard work and sacrifice are able to pay off much more here than say in Zimbabwe. We have a good employment scenario now, and our creditors aren’t banging down the door… what would happen if those storm clouds on the horizon became reality?
“From 2000 to 2003, the Nasdaq lost 78% of its value. That is roughly equivalent to the loss the Dow Jones Industrial Average suffered following the 1929 crash over a similar period”…but the NASD represents only a portion of the total capitalization of the total stock market…whereas, wouldn’t it be correct to say that the Dow in 1929 was a pretty good proxy for the whole thing?
Talking about similarities and differences between then and now, have a look at the chart below listing the historical income tax rates for the rich from 1916 to the present. It seems when these rates are lowered drastically, bad things tend to happen.
“Table of top federal income tax rates on regular income and capital gains since 1916”
The premise of your argument is flawed from the perspective of data mining. Retirement savings is NOT included — 401k’s and IRA’s are savings…period! Gov’t doesn’t count retirement spending as income…. Your (and the gov’t) definition of “income” excludeds capital gains…creating a huge distortion of savings. When a retiree cashes out of his home to downsize…the profits he then invests in NOT counted as savings. I’m afraid the facts are getting in the way of a good (scary) story.
When I moved into my area in 1995, half the cars on the road were paid off rusty clunkers.
Now, when parked on the highway, I’m surrounded by shiny cars. A third, BMWs, Audis, Volvos. Leased.
I don’t care how much you tweak the numbers, the capital gains have been spent. And the future ones too.
ss – how are retirement savings not included? The money earned to contribute to the plan is included in income. Is there a line somewhere that backs it out? If not, income – expenditures = savings, so these savings are counted.
Gov’t doesn’t count retirement spending as income….
That’s pure genius! Just count spending as income!
Spend 60k on a Hummer, take out a loan to cover it… no problem! It’s income!
John Snow would still have his job if he had thought of this!
There are a couple of other odd social parallels between the 1920’s and the 1990’s, one of them being the rise of golf. In the 1920’s, golf became hugely popular and Bing Crosby became famous as a result. In the 1990’s, golf became hugely popular and Tiger Woods became famous as a result.
ss, I don’t follow your reasoning regarding capital gains. Just because they are not treated as ordinary income for tax purposes doesn’t mean that they equate to “savings.” That money spends like any other and is either still on hand at the point of measurement or isn’t. And in the case of many, if not most, a substantial portion winds up being blown on the usual frivolities.
BR to CW in Realmoney conversation: “As obnoxious and pretentious a comment as has ever graced these pages . . . ”
Well all right! Opened the can of whupass finally–a little peek under the lid at least. Just one small thing: You should have added, “just sayin’.”
That chart indicates that US Households net worth is approximately 400% of GDP , roughly $48 Trillion , net ….. that’s a lot of fire power in future consumption ……… while the economy will wax and wane , the US consumer will be alive and well ….. the 100-year flood will be sopped up when it comes…. if it comes
hmm, this chart isn’t of households, it is of households + non-profits. What do collection agencies posturing as debt counseling services and churches have to do with housesholds?
The chart is interesting, but not all that unusual if you think about the two major wealth creators for most people: the stock market and the housing market. That’s it baby.
So that wealth begins to become even more tied into the stock market isn’t all that unexpected, I expect, after better than two decades of stock market popularity.
The Confused Capitalist
1) Capital gains were never counted as income over the entire ~80 year period of the chart I referenced. Of course, there were cap gains the entire period — so the fact they are not counted as income in 2005 is irrelevant — they never were income. James mentions it as if we suddenly discoverd cap gains in 2005 — we didn’t — and that doesn’t change the fact this is an unusual situation.
2) IRAs/401ks: Those investing vehicles are NOT counted as savings, because they are not savings — they are investments, which is very different.
Savings are liquid, riskless and readily spendable when its a neccessity.
Investments are not. Indeed, Capital gains are the reward Investors get for taking risk. Of course, risk involves the loss of capital — as many people found out in 2000.
Indeed, buyers of the Dow in 1966 had to wait 16 years — til 1982 ! — to merely break even. That’s before inflation, and comparos with what bonds would have got you. How do you measure that? There are numerous examples of those kinds of investment returns throught out the last 150 years.
Investments can go bust — savings cannot. Hence, why investing and savings are treated differently.
“Savings are liquid, riskless and readily spendable when its a neccessity.”
You may have gotten a little carried away with that Barry. I would imagine that some people who had accounts at S&Ls run by Charles Keating, Neil Bush, and various others would disagree, especially if they had more than the insured limit on deposit.
«Investments can go bust — savings cannot.»
Not in nominal value but ”’savings” (in the financial sense of ”cash equivalents”) can go bust too, in after inflation terms… As many unfortunate people discovered 25 years ago and may rediscover soon.
Must be the late posting (hey: 10:42 PM) or perhaps you just cared about the nominal aspect…
«Hence, why investing and savings are treated differently.»
Depends which ”savings” and which ”investments”…
It is not clear to me if you mean these in the national accounts sense or the financial sense; I think that at least sometimes you use one meaning and sometimes the other, as you say that household savings have gone negative (which has happened in the national accounts), but also that savings are cash equivalents (which happens in financial accounts).
The categories in the national accounts are just those that are (or were, when the national accounts were invented 60 years ago) sort of easy to measure, and the names used to label them are somewhat arbitrary; the actual names ”savings” and ”investments” have probably been chosen because their ordinary meaning resembles a bit the role of that category in the national accounts.
In the national accounts ”savings” and ”investment” are terms of art (to the point that total savings are identically equal to total investments, plus net foreign transactions).
Then in financial terms, one says that there are liquid+safe ”savings” and illiquid+risky ”investments”, but that’s another set of terms of art.
I just found an interesting discussion of the negative savings and capital gains issues as to national accounts in this amusing page:
«The Households and Government accounts show that each of these sectors is spending more than its income, and therefore has negative saving. [ … ]
The Saving-and-Investment account shows that US domestic investment of $2100 was financed by drawing down the net worth of households and government ($286), by undistributed profits ($1,132), and by foreigners lending to us or holding our dollars ($1,254).»
«Some readers have been confused by the omission of capital gains. The BEA reasons that capital gains are simply a revaluation of assets, not new product. No product, no income. If you buy a house for $1,000 and next year sell it for $2,000, it is still the same house. You may have a capital gain, but no new product has been produced; hence your gain is not part of the national income. [ … ]
Others have been concerned that money and other financial instruments are not included (though flow-of-funds statements do that). The GDP treats personal consumption, taxes, etc., as if they were entirely goods and services.»
«So that wealth begins to become even more tied into the stock market isn’t all that unexpected, I expect, after better than two decades of stock market popularity.»
Oh no, that chart is truly extraordinary and Barry has a fine nose for interesting correlations. When i first saw it I was really stunned.
There are several noteworthy aspects of that chart:
1) Changes in household net worth seem to be nearly entirely related to stock prices. This means that either other asset classes haven’t moved, or that stocks are the overwhelming source of net worth. If the latter is true, that probably means that most households have zero equity (net worth) in their houses.
2) There is a truly dramatic change from 1995, which seems to defy the cycle of the net worth/GDP ratio since 1951. When cycles break who knows whats going on.
3) The impression I get is that the net worth/GDP cycle was heading down in 1995, at least by comparison with the 1951-1976 cycle.
4) The ratio of net worth to GDP has reached unprecedented levels, which because of point 1) seem to be entirely stock based.
As usual the SP500 should have been after inflation (using the GDP deflator BTW, rather than the CPI) or logarithmic because, as it is, the relationship up to 1987 is a bit obscured by the small scale of the SP graph.
After all we want to see changes in the SP more than in its absolute level…
However a truly impressive and scary (for those who are worried by breaks of long standing ratios and possible reversions to the mean, at least).
A Barry often mentions, we are living in interesting times…
BTW, as always I ask myself ”what happened in 1990-1995”. Look at this other amazing graph:
I seem to be he only one questioning the s&P v GDP graph and other charts, like http://calculatedrisk.blogspot.com/2005/12/gdp-growth-with-and-without-mortgage.htm
that have attributed GDP growth post bubble to the housing market boom, and MEWs specifically as a source of consumer spending. Unless the consumer, was taking those dollars and buyig SPYs (not) instead of gucci purses, something doesnt quite add up. We have been hearing from Schiller et al that housing is a bigger wealth effect than stocks, so therefore this real estate market down turn worse than ever on the economy, but the data seems contradictory to me–namely wealth effect is based on stock prices alone. Or maybe the data hasnt shown up yet?
I’ll frame it up for you all:
Do you view your money working better for you in:
a) a passbook saving account
b) a money market
c) a balanced 401k or IRA
d) in a house
e) in capital markets – stocks, bonds, mut funds, etc
Well, if you said A or B, you are a SAVER! Congratulations…you will be eating cat food when you retire!
If you answered any of the others, you are NOT A SAVER! It’s that simple, by Barrys definition.
«GDP growth post bubble to the housing market boom, and MEWs specifically as a source of consumer spending. Unless the consumer, was taking those dollars and buyig SPYs (not) instead of gucci purses, something doesnt quite add up.
We have been hearing from Schiller et al that housing is a bigger wealth effect than stocks, so therefore this real estate market down turn worse than ever on the economy, but the data seems contradictory to me–namely wealth effect is based on stock prices alone.»
Well, that chart is not the whole story, but the situation does not seem contradictory to me, more like ambiguous… Some notes, mostly obvious but with my interpretation:
* The chart has not the assets of ”households”, but their net worth.
* Then the chart shows the ratio of net worth to GDP. Now the important detail here is that net worth cannot change much faster than GDP, because the inventory of things that are assets cannot change that fast, and anyhow it is investment (not savings) that changes the size of that inventory.
* The chart above shows that nonetheless net worth is more variable than GDP, in particular seems to have grown much faster than GDP for the past 10 years; this probably because it is valuation of assets that changes, rather than their inventory, as the ratio is highest during good times and lowest during periods of bad times. This on the asset side of net worth; it could be that liabilities can change faster than GDP, but I suspect that this is less of a factor than changes in asset valuation.
* You cannot spend your assets, but your can spend the money you borrow on them, and it is far easier to borrow on your home than on your pension account. This influences net worth. It is also easier to borrow when asset values are going up, and this influences the ratio of net worth to GDP.
* The chart above is sligthly misleading as to scale, because it draws the SP500 in a small scale (probably not after inflation) but it draws net worth omitting the 0-275% range, to put in evidence the changes. The ”base” 275% is probably mostly real estate and bonds, which should correlate very well with GDP.
* Anyhow the ratio of net worth to GDP has grown significantly over the past 15 years, which means that either asset values have grown much faster than GDP or that liabilities have grown much slower.
* Other data seem to suggest that overall household liabilities cannot have grown much slower then GDP because households in the aggregate have been consuming more than their income…
* So it is likely that the net worth to GDP ratio has grown as asset prices have grown faster than GDP, and indeed putting the ratio of values of assets to GDP to historically high levels.
* Of the assets I can think that contribute to making net worth grow faster than GDP, houses is probably large, cash and bonds probably don’t contribute, and stocks can contribute.
* Now both house prices and stock prices have been growing faster than GDP in the past 10-15 years, but what is remarkable is that the growth in the net worth/GDP ratio seems to match so well the growth in nominal SP500.
* As to houses, if their contribution to the growth of the net worth/GDP ratio is muted, that can be either because they are a small component of net worth, unlikely, or their prices have not grown faster than GDP, unlikely, or that liabilities against houses have grown about as fast as their prices, thus ensuring that equity in houses has grown with GDP or only slightly faster.
* Given the negative savings rate of households in the national accounts, it looks likely that liabilities against houses have risen indeed, as it is easy to borrow again real estate, a lot less to borrow against stocks in your trading or retirement account.
* Now it looks indeed like most of the growth in the ratio between net worth and GDP comes from stocks, and it is not a small effect either; the typical ratio for several decades was around 325%, now it seems to oscillate around 400%, an increase of about 25%.
* Note that the 25% increase in the value of net worth is not about merely the absolute value of assets, but about the ratio of assets minus liabilities, deflated by GDP. It is very, very strange for something that is a significant fraction of GDP to grow or shrink faster then GDP, never mind something that is 3-4 times larger than GDP.
Food for thought–John Hussman last week:
“The S&P 500 has underperformed the total return on lowly 3-month Treasury bills for what is now more than 8 years, earning average annual total returns of just 3.2% since early-1998. Over the past decade, the S&P 500 still sports an unimpressive annual total return of just 8.20%, despite containing the best 4-year market performance (1996-2000) since the rally from post-depression lows in the 1930’s.”
The disappointing performance of the stock market over the past 8-10 years underscores two facts. First, valuations may not matter much over the short-term and even over periods of a few years (especially when the quality of market action is uniformly favorable, as it was during the late 1990’s), but they are the overriding determinant of long-term returns. Second, once valuations become elevated, defensive risk-management does not detract importantly from long-term returns.”
Your frame up may be a caricature, but there is truth in it. Anyone relying on future gains (i.e. not yet existing gains) from equities or real estate to retire in the next ten to fifteen years may well be wandering the cat food aisle.
Those who rely on our wonderful capital markets–and they are wonderful, don’t get me wrong–forget what the Ibbotson studies conveniently leave out: if you rely on them as a passive savings vehicle, capital markets can occasionally screw you over for years or even decades at a time.
p.s. Let me add also, per my experience as bachelor / college student in a previous life, that ramen noodles are actually cheaper than cat food. Taste better too. Though of course that’s a matter of opinion.
Banks will be EVER so happy to “work” your money, and pay you nothing after taxes and inflation!
Enjoy! Save away!
PS…for this current decade S&P 500 returns (’00-’10) to merely MATCH the 2nd worse decade returns (the ’70’s), the market need to return > 10% per year through 2010.
Is our economy better or worse that in the 1970’s — groovy man!
The chart tells me two things with certainty…
All markets now move in high correlation with the expansion and contraction of credit.
GDP has less to do with “product/production” than it does with consumption propped-up by credit that has been priced far below the real rate of inflation — not the phoney “substitution” based CPE foisted by political appointees.
Ah, all this seems to be somewhat beside the point. Barry, how about a chart of net assets and liabilities of the average (median) American household? How indebted is the average-Joe? My guess: very indebted indeed.
And what would a 20, 30 or 50% decline in house prices do to average-Joe? If he will be wiped out, it means that HALF of Americans are in a worse position.
I do not have exact data on this, but do believe that a 50% decline in asset prices will put the majority of Americans into bankruptcy. Is this far from the truth?
«All markets now move in high correlation with the expansion and contraction of credit. »
Indeed, it would be insane if they did not, because they are largely priced wrt to interest rates.
«GDP has less to do with “product/production” than it does with consumption propped-up by credit»
Ah no, thats not quite right: because GDP strictly measures real economic activity, even if a lot of it is estimated.
GDP is not quite the same thing as the ”markets”, indeed one of the points I have made in my long story above, one of the things the chart seems to imply is that net worth, and thus the value if not the inventory of assets has probably been growing a lot faster than GDP, which is extremely worrying.
Note also that the «ultra-loose» (the Economist words) monetary policy of the Fed (and the BoJ) should have actually spiked a colossal investment and jobs bubble, that would have made GDP grow a lot faster than it has had.
Actually this has happened, but in China and India, where most of USA (and Japan) investment has been directed in the past 10-15 years, and especially in the last 5.
Side note: if you think that the dot.com investment and jobs bubble was crazy, you have no idea just how much more incredible, even in physical terms, is the investment bubble in India and China after a colossal wall of money from USA (and Japan) hit them hard.
The rest of the ”free money” (and even more money from abroad via Treasuries) has been invested in an asset bubble in the USA, and the graph above is one of the signs that suggest this.
«that has been priced far below the real rate of inflation — not the phoney “substitution” based CPE»
First, it is the CPI, and then there is the PCE which is a bit less ”adjusted”.
But even using the CPI or PCE it is likely that real interest rates have been either close or under zero for most of the past 10-15 years.
«foisted by political appointees.»
As someone argued, just about all administrations have tried hard to help themselves.
However I still think that some of the culprits rationalized it with some validity as doing what’s best for the state, because a little bit of dampening indexation is probably good, even if doing so ”unofficially” is naughty.
Also, there are special cases, for example in the usually cited interview:
it is written:
«During the Reagan Administration, there were methodological changes made to the GNP —and there was an actual overt manipulation of the trade data following the stock market crash in ’87. At the end of that year, as the dollar was crashing, manipulating the trade data was part of an effort to turn the dollar to the upside.
There had been a series of real bad trade numbers and, they psyched out the markets by coming up with a really good trade report. It amounted to a massive intervention but they succeeded in bottoming out the dollar and successfully turned the market.
It was a very dangerous time and I guess you could justify that intervention on the basis of national security or economic security.»
and this from a guy who is scathing about the more opportunistic fixes.
I do have to correct one thing in Barry’s article. Other than the one guy he mentioned, I also sold my apartment (a beautiful loft on Duane Street in Tribeca) and now rent a house in Cold Spring, New York.
That makes 4 — two other RM readers wrote in to say the ame thing