Sunday, January 25, 2009
The U.S. and U.K. economies are in hot (not boiling) water. Some call it the brink of a debt disaster:"The United States and the United Kingdom stand on the brink of the largest debt crisis in history.
While both governments experiment with quantitative easing, bad banks to absorb non-performing loans, and state guarantees to restart bank lending, the only real way out is some combination of widespread corporate default, debt write-downs and inflation to reduce the burden of debt to more manageable levels. Everything else is window-dressing." Although the feedback loop cannot be discounted, the real problem here is the tidal wave-sized recession that the financial crisis has brought upon the two economies. The U.K. posted a 1.5% contraction in the fourth quarter (about 6% negative growth, annualized) ,while the U.S. is expected to post an equally dismal 5.5% decline in economic activity.
Ex post, it is easy to identify the six errors that led to the financial crisis (hat tip, Mark Thoma). And here is Dr. Doom (a.k.a., Nouriel Roubini) saying that "the U.K. looks more like the U.S. (rather than Iceland): an economy of excesses, but where the solvent government has the fiscal resources over time to fix the system and bailout the financial institutions". One thing is for sure: the housing boom in the U.S. and in the U.K. ended with a bang, rather than a fizzle:
The housing boom was big in the U.K....
...And even bigger in the U.S. (as measured by the Case-Shiller index)
The charts list the price-rent ratios in the U.S. and the U.K., through the third quarter in the U.S. and December in the U.K. The price-rent ratio is indexed to 2004, and the CPI housing component is used to measure rent, and is used to determine whether home-ownership is overvalued or undervalued. It is obvious that both housing markets were (and still are) overvalued. The peak of the U.S. bubble - 1.2 - saw a 20% appreciation in home values relative to rents in just two years (2004-2006) - that is a nice bubble!
At this point, the outlook in for both economies is rather dismal. It probably won't start "feeling better" until the latter part of this year - and that is far from guaranteed.