The National Bureau of Economic research says this recession began in December, 2007. That is certainly debatable, but they have the official US word on this matter.
Certainly there was a recession within the home construction industry, and businesses peripherally related. However, many other sectors of the US economy were coming along fine until late last summer. By September the bottom was about to fall out!
Fed Chairman Bernanke senses a crisis and acts. Last September our financial world started to crumble. Mortgage giants Fannie Mae & Freddie Mac were rescued by the federal government. The following week insurance conglomerate AIG received a huge bail out. However, it was decided to let Lehman Brothers fail.
That week Ben Bernanke sensed an enormous financial problem and realized he didn't have all the necessary tools to help the economy.
He saw that the TED spread was increasing dramatically. This is a common measure of fear and risk in the capital markets (see my January 8 article. Where's TED Now?).
When the TED spread increases, that is a sign that lenders believe the risk of default on interbank loans is increasing. A rising TED spread often presages a downturn in the U.S. stock market, as it indicates that liquidity is being withdrawn.
On September 17, 2008, an all time record was set as the TED spread exceeded 300 bps. On October 10, the TED spread reached another new high of 465 basis points.
This situation was so serious that the US, indeed the world, was on the verge of economic meltdown--an event which would have made the Great Depression look like a picnic.
So he contacted Treasury Secretary Hank Paulson. Together they worked on this issue. This was the genesis for the $700 Troubled Asset Relief Program (TARP) that was debated in Congress, and ultimately signed into law by President Bush in early October.
The crucial point here is that Bernanke knew we were witnessing a slowdown in the velocity of money. People were becoming fearful and US citizens stopped spending. When that happened, the Fed was compelled to pump in an enormous amount of money into the US economy to offset this slowdown in spending.
Over the coming months, the Fed pumped trillions into the US economy. This has had a very positive impact for recessionary recovery.
If there is any one hero in this crisis, I would nominate Fed Chairman Ben Bernanke.
We catch a break on inflation--particularly gas prices. I remember how devastating inflation was in the era of stagflation in the late 1970s.
It wasn't that long ago that gas at the pump was over $4 per gallon. Many were saying that crude oil would get to $200 per barrel. That never happened. Instead it receded significantly.
If we use T Boone Pickens numbers, Americans are saving about $1 billion every day on gasoline (compared to just last summer). This is an enormous savings.
This is far more powerful than any tax break that will dribble into workers wallets in the next several months from the economic stimulus package that was passed in February.
Compared to the real (that is, inflation adjusted) retail price today, gas was more expensive in the decades of the 1920s, 1930s, 1940s, 1950s, 1960s, 1970s (except for one year), and the first half of the 1980s.
We have nothing to fear but fear itself. Following the collapse of Lehman Brothers, Americans panicked. That's when we stopped spending as much. This is the slowdown in the velocity of money that Bernanke was so painfully aware of.
When people stop spending, manufacturers cut back on production. They lay off people. More and more companies and people are effected--as Americans are caught in this viscous recessionary cycle. It's that simple--it that's easy--it's that devastating--to begin the recessionary death spiral.
President Bush did not help matters. During his presidential address on prime-time TV, he stressed the importance of approving the $700 billion bailout package. Without immediate action by Congress, American could slip into a financial panic and a distressing scenario would unfold. Millions of Americans could lose their jobs, he declared. We must not let this happen.
Initially, President Obama didn't help either. In an attempt to gain rapid passage of his $787 billion economic rescue package, he warned that if we don't act immediately, our nation will sink into a crisis that, at some point, we may be unable to reverse.
During his first press conference he referred to a potentially negative spiral that becomes much more difficult for us to get out of.
But Americans are starting to gain a bit of confidence. This is another thing that is going right. After two horrible quarters of consumer spending, we saw a nice 2.2% bounce-back in the 1st quarter.
This can be the seeds needed to unwind the recessionary spiral.
Widespread bank failures are averted. One of the initial goals of Bernanke and Paulson was to minimize banks failures.
Our government expanded the FDIC insurance on deposits to $250,000--to reassure Americans and to suppress any run on the banks.
The Troubled Asset Relief Program (TARP) and other measures were put in place to mitigate bank failures.
As a result, failures have been few compared to past financial crises.
Banks are making money on yield spreads.The spark that ignited the stock market rally in early March was comments from Vikram Pandit, CEO of Citi, telling employees they will turn a handsome profit in the first quarter, their best money gain since 2007. This was followed up by similar comments from Ken Lewis of BofA and Jamie Dimon of JPMorgan.
Banks make money on spread. They borrow at low interest rates--and then lend at 1, 2, 3 or more percent higher rates. This is a significant source of operating profit, and since last year, they have gone about their normal business of leveraging for profit.
Here is a chart showing how much banks pay depositors, in general, for short-term certificates of deposit (CDs)--and how much they charge home owners these days--who are happy to either obtain new credit or refinance their homes at relatively low interest rates.
People are snapping up houses. We got into this mess due a bubble in housing--and we will also need to see a reduction of home inventory in order to move forward in a healthy manner.
Here we see a nice, steady decline in the inventory of unsold new homes.
Now is the time to buy a home. Mortgage interest rates are attractive. The Housing Affordability Index--and indication of whether buyers can, in general, afford to purchase homes--is providing a clear indication that many Americans are positioned to purchase a home.
So in summary, many things have gone right in the past few months:
- Fed Chairman Ben Bernanke acted decisively to stave off a depression and address the velocity of money problem in the economy.
- We were fortunate to experience low inflation...low gas prices at the pump.
- Americans are finally beginning to come out of their shell--fear isn't as prevalent--and people are again beginning to spend.
- Widespread bank failures have not occurred thanks to actions by the Feds and the Treasury.
- Banks, which have been devastated by losses on sub-prime mortgages, are starting to make some money again. Their healing is underway.
- We are beginning to reduce the excess inventory of houses on the market.
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