Professor Cole's Finance Blog

10. The Automobile Industry: In spite of the government's $50 billion bailout of GM and Chrysler, as well as the $3 billion "cars for clunkers" program,  the U.S. automobile industry continues to spiral downward, taking with it future consumption and employment.

9. Interest Rates: The Fed cut interest rates to less than 1 percent in order to fight the recession, but this situation cannot continue long-term. The Fed will be forced to raise rates by 500 basis points or more during the coming year, which will force up mortgage rates and consumer rates, strangling the housing market and consumption.

8. Deficits: The administration has ballooned the budget deficit for 2009 to more than $2 trillion, with annual deficits over the next decade expected to top $1 trillion per year. Hyper-inflation, anyone? 

7. Securitization: During the past decade, securitized debt replaced the bank debt as the ultimate source of credit for mortgage and consumer debt financing. In September 2008, Wall Street's securitization machinery ground to a halt, and, even today, it remains in gridlock. Virtually no residential or commercial mortgages have been securitized without government guarantees during 2009. Without securitization, Wall Street as we knew it in 2007 is dead and the consumers aree without their primary source of financing.

6. Commercial Real Estate: This industry is facing its darkest hour since the early 1990s. Default rates on CMBS have tripled since last year and are forecast to double from current levels during the coming year. Properties are selling at 50% discounts to their values only a couple of years back. Look for defaults on properties with mortgages worth hundreds of billions of dollars during the coming year. These defaults will drag down with them a large segment of the commercial banking industry.

5. Bank Failures: Thus far during 2009, 94 banks have failed, the largest number since 1991, which was the last year of the last major banking crisis. During that crisis, more than 2,000 banks (including thrifts) failed. This crisis, like the last crisis, is largely attributable to losses on loans to finance commercial real estate, especially construction-and-development loans. Look for several hundred additional banks to fail during the rest of 2009 and through the end of 2010, costing the FDIC another $100 billion, or even much more should one of the 19 "too-big-to-fail" banks fail the "ultimate stress test."

4. Unemployment: The unemployment rate rose to 9.7 percent in August 2009, the highest since 1981. Among men, the rate rose to 10.1 percent. Almost 4 in 5 lost jobs during the recent downturn have fallen to men, but no one has questioned whether employers are discriminating. Are they? I don't know; it would take a very sophisticated statistical analysis that someone should undertake. What I do know it that men are more likely to head households and men are disproportionately bearing the brunt of job loss in the current recession.

3. Residential Real Estate: The combined delinquency/foreclosure rate on residential real estate has more than doubled in the last year, to more than 13 percent of outstanding mortgages as of August 2009, or more than one in eight of every mortgage in the U.S. In August, this rate rose to a new record, indicating that the market has not yet hit bottom; things continue to get worse. During the next two years, more than $1 trillion in option ARMs will reprice, primarily due to negative amortization; look for about half of this amount to end up in foreclosure.

2. Small Businesses: Small businesses account for roughly 4 out of 5 new jobs, according to the U.S. SBA. Because of top-ten items 5, 4 and 3, small businesses are failing at record rates and cannot hire new workers. Small businesses cannot get new bank loans to fund new investment; rising unemployment reduces demand for the output of small businesses; and small businesses can no longer rely upon rising home equity as a source of investable capital. 

1. The Debt-Burdened American Consumer: Consumption accounts for roughly 70% of Gross Domestic Product (GDP), and consumer, over the past two decades, have "borrowed" against their homes to finance excessive spending they could not otherwise afford. Now, that source of credit has dried up. Consequently, consumers will now have to forego future consumption in order to deleverage, and this process will starve GDP of its most important input. Compounding this is the demographic fact that Baby Boomers, the most numerous age cohort, are leaving peak consumption years and heading towards retirement. In years past, home equity was a large portion of retirement assets, but this generation of retirees has already borrowed against and spent its home equity. As consumption falls in response to these factors, so does GDP, making recession more likely than recovery during 2010. And beyond . . . .