Phorgy Phynance

Consumers headed for trouble

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Did I mention I love The Big Picture?

I remember a while back I was sitting at lunch with some colleagues and I asked the question, “What is the fundamental law that drives markets, economies, etc?” One person responded “arbitrage pricing” *BZZT*

Arbitrage pricing may place a constraint on market price dynamics (and ultimately economies), but it doesn’t drive the dynamics itself. In my opinion, the fundamental law that drives markets and economies is the wealth effect. As Ritholtz points out, with house prices declining and mortgage rates increasing, consumers are suddenly becoming less optimistic about their future wealth. What impact could that have on markets?

So far, it doesn’t seem to be having too much of a significant impact. One law of nature that is probably even more powerful than the wealth effect is the human ego effect. In the face of decreasing expected wealth, it seems that consumers are increasingly piling on credit card debt to maintain their lifestyles. We can’t let our neighbors know our financial situation is deteriorating!

Get real. If you can’t afford your lifestyle… change your lifestyle. Sorry. I believe in economic Darwinism and that a good recession now and then is good for the economy in the long run. Should people feel entitled to employment even if they are not productive? A recession gets rid of the weakest links in society and forces people to the realization that they are not entitled to their jobs and they need to be the best gas station attendant, cashier, analyst, money manager if they want to be employed. Complacency has been the end of more than one empire.

Anyway, the shift from home equity extraction to credit card spending can not end well for consumers. Obviously the “weakest” consumers will be the first to perish and that will likely hit retail first. As I mentioned before, I am concerned about a repricing of risk in high yield and increased credit card spending seems to be a sign of the apocalypse if you ask me.


Written by Eric

July 11, 2007 at 3:17 pm

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