Despite the recent consumer confidence report that says that consumer confidence is at its highest level in the last decade, and despite the stock market indices reaching record levels on an almost daily basis, it appears that many may have forgotten Federal Reserve Board Chairman Alan Greenspan’s words in a speech on Dec. 5, 1996, when he stated “Clearly, sustained low inflation implies less uncertainty about the future, and lower risk premiums imply higher prices of stocks and other earning assets, but how do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions as they have in Japan over the past decade?”
History has taught us that certain economic indicators can foretell an upcoming financial downturn even during new stock market highs almost every day. It has been well publicized that a number of significant retailers have sought Bankruptcy Court protection, and, in so doing, have closed numerous or all of their locations. Others have closed all stores without any bankruptcy proceeding. Based on more than 50 years of experience in handling bankruptcy law cases, and studying prior economic downturns, despite the exuberance displayed by the stock market, this author concludes that there are many signals that are prevalent which foretell another significant economic downturn.
Some indicators of the potential for an economic downturn include the fact that a continuing flow of retail failures and closures including the recent announcement of Gymboree closing 350 stores, the closing of hundreds of Payless Shoes stores and the second Chapter 11 filing by RadioShack. This has created the highest vacancy rate in shopping malls and strip centers since 2007. Mom and pop local community dollar stores are fighting to survive in light of the invasion of the major national chains. In turn, the layoff of retail employees from all of the closed business locations where these employees have no re-employment opportunities in today’s job market.
We also have the highest amount of student debt in U.S. history as well as an increasingly high amount of sub-prime auto loan debt. This is a significant indicator as history has shown that consumers will do anything possible to avoid repossession of motor vehicles so that when there is a high amount of auto loan delinquencies, the consumers have no available means of payment.
Not only is the city of Hartford, Connecticut on the verge of bankruptcy, but also many states, which are not eligible for bankruptcy reorganization, cannot balance their budgets and are having increasing shortfalls with public employees’ pensions. For instance, the state of Connecticut’s $17 billion teachers’ pension returned an average of 3.2 percentage points less than the 8.5 assumed annual rate of return between physical 2001 and 2015.
With the Federal Reserve continuing to increase the benchmark interest rate, consumers are paying more interest on credit card debt which means that those consumers which only pay the minimum amount each month are paying less toward the principal, and more toward interest, thus delaying the reduction in outstanding debt and decreasing credit availability. Credit card losses are mounting, a reversal from a six-year trend that could be a warning sign for markets and the broader economy, the Wall Street Journal recently reported. The average net charge-off rate for large U.S. card issuers—the percentage of outstanding debt that issuers write off as a loss—increased to 3.29 percent in the second quarter, its highest level in four years, per Fitch Ratings. Also, demand for credit has dropped. According to published reports, it was 7 percent in 2014 and 2015 and decreased to 6.5 percent in 2016. The most recent report for April 2017 showed it had dropped to 2.6 percent.
Added to this is the possibility of a need for a U.S. bailout of both Puerto Rico and the U.S. Virgin Islands. The Puerto Rican power company recently sought bankruptcy protection with $9 billion in debt and 40 percent of the remaining Puerto Rico population is at or below the poverty level. The U.S. Virgin Islands can no longer borrow since its bonds are rated as “junk.” This will mean that the Federal Reserve will need to allow borrowing for the bailout if Congress does not appropriate the funds.
Housing prices are increasing rapidly, and in many situations, this is being artificially created by foreign purchasers. Housing sales have slowed according to the most recent reports. Increased interest rates are hurting the housing market for noncash purchasers, yet despite the stock market’s reaching new record highs, the benchmark 10-year U.S. Treasury interest rate is decreasing.
Other similar indicators reinforce the negative outlook on the economy. Corporate profits, which are used by many to stimulate the increase in the price of stocks, reflect only historical information and is not forward-looking.
History has shown that when economic indicators such as the above are present, the artificial stimulation of the stock market should not be used as the measure of the health or growth of the economy. While optimism is more readily accepted than pessimism, and so long as equity investors believe that there will be no stock market downturn, the turning of a blind eye to the real situation can only exacerbate the problem at a later time. All data will help to create fuel for the fire once the factors listed above created a situation that will require immediate Federal Reserve intervention to forestall another recession. As the Spanish philosopher George Santayana aptly stated, “Those who do not learn history are doomed to repeat it,” which should be a warning to us all.