American Consequences - February 2019

But we also expect the Fed and other central banks to do everything they can to keep this boom going as long as possible...

The Fed ‘eases’ itself into a corner...

For decades, the Fed’s primary policy tool has long been manipulating short-term interest rates. When the economy slows, the Fed typically cuts interest rates to stimulate inflation. When the economy recovers, it then raises rates to remove that stimulus. Time and again, each Fed “cutting cycle” has required lower and lower interest rates to produce the same effect of stimulating the economy. Likewise, the Fed has been forced to halt its rate-hike cycles at lower and lower peaks before yet another recession or market shock has inevitably sprung up. Following the housing bust, the Fed cut interest rates to effectively 0% and held them there for nearly seven years. Even now, after three years of “tightening,” short-term rates are barely over 2% – near their lowest levels in history. Yet, even at these relatively low levels, we’ve already seen signs that the economy is beginning to weaken, leading the Fed to abruptly halt its rate-hike plans last month. In short, it appears the Fed is now stuck... It can’t continue to raise rates without derailing the so-called “recovery.” Yet, if it doesn’t continue to raise rates, it will have little room to cut them when the next crisis inevitably arrives. While the first three rounds of QE certainly helped boost asset prices here in the U.S., it’s still not clear how much it helped the real economy. For now, we remain cautious... We believe the downside risks to stocks and the economy are greater than any time since this long bull market began.

7 million delinquent borrowers...

Despite a strong economy and low unemployment, the Federal Reserve Bank of New York reported that at the end of 2018, a record-high 7 million people were 90 days or more behind on their car payments... 1 million more people than when the country was recovering from the 2008 economic crisis. In 2010, the share of 90-day delinquent borrowers peaked at 5.3% and the total number of borrowers has risen significantly in the last few years. Subprime auto loans increased to 39% of the market in 2015, and many lenders are giving people a few extra years to repay... a tactic to make loans look more affordable than they may be. As with the 2008 mortgage crisis, the bulk of these delinquent payments are among borrowers with lower credit scores... people more likely to turn to payday and auto- finance lenders rather than banks or credit unions. According to the Fed, 6.5% of auto-finance loans are 90 days delinquent – compared to 0.7% of loans by credit unions – and the auto-finance loans often carry higher interest rates. Since a car is often a higher-priority payment for these folks, a rise in delinquencies can signal economic distress among low-income and working-class Americans. Borrowers who are delinquent on their car payments often lose their vehicle, making it even more difficult to get to work, school, or the doctor.

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