WHO IS WATCHING THE ECONOMY?

President's Message By
Frank L. VanderSloot
President & CEO

November 2005

If you have been watching the global economy recently, you have probably figured out that the United States might be in trouble over the next few decades—or more accurately stated—families in the United States may be in trouble.

Overwhelming demand for fossil fuels in China has caused gasoline prices to skyrocket with no end in sight, and other costs are soaring as well. The price of steel, concrete, and other building materials has almost doubled in the past several months—also because of unpredicted development in China. And all of that had happened before Hurricane Katrina and the massive rebuilding projects that will take place in New Orleans, which will cause additional pressure on building materials.

Low interest rates have allowed almost all Americans to upgrade their homes with the ability to finance more, causing a huge demand in the housing market. This demand has caused housing prices to soar across the country. The end result is that people can afford a larger payment, but, if they are not careful, they’ll just end up paying more for essentially the same house. The housing bubble is now in a situation similar to NASDAQ’s before the dot-com bubble burst when the NASDAQ lost almost 80% of its value a few years ago.

Most Americans are living close to the edge—really close! Credit cards are maxed out. Many have refinanced or upgraded their homes to the maximum monthly payment the bank will allow. But there is no need to worry, right? Because, after all, jobs are plentiful. Unemployment in many states is approaching all-time lows—but not so fast with the “everything is rosy” conclusion. Here are some interesting facts.

In 1990, the U.S. savings rate was 7%, but today the savings is projected to be only 0.5%. Japan’s savings rate in 2005 is projected to be 5%. Germany’s savings rate in 2005 is projected to be 11%. What do the Germans and Japanese know about financial management that Americans don’t?

The U.S. federal debt is $7.9 trillion or $26,700 per man, woman and child. That means when a new baby is born, he owes $27,000 dollars to the government on his first day of life.

The average automobile loan is now for 63 months, with some going as long as 80 months. Five years ago the average automobile loan was 48 months. It was 24 months in 1950. In 1997, bank financing on autos was an average of 89% of the price. In 2003, bank financing on autos averaged 101% in order to cover the upside down car loans (trade-ins worth less than outstanding loan amount).

Americans are maxing out credit cards! According to the Cambridge Consumer Credit Survey, 42% of cardholders make just the minimum payment. 39% of cardholders pay less than 50% of the balance due. Only 19% of cardholders pay more than 50% of the balance due. And 3% of cardholders make no payment at all!

The result of all this out-of-control spending binge is staggering! In 1990, household credit card debt averaged $3,000. In 2003, household credit card debt averaged $9,200 (up 207%)! In 2004, 51 million households carried credit card debt at an average of $12,000 (up 30%)!

People seem to feel safe in how they are handling their families’ finances because “everyone else is doing it.” That is the same logic people used when they were investing heavily in the NASDAQ before it crumbled, and it is the same logic people used when they built homes 12 feet below sea level in New Orleans when they knew they were in the hurricane zone. “Everyone else is doing it” seems somehow to take on greater impact in decision making in America than good old-fashioned common sense.

Common sense would cause someone to ask the question, “What happens if inflation (which is now back) causes a raise in interest rates, which in turn causes payments on variable rate mortgages to go up?” Many will not be able to afford the high payments on the mortgage since they are already maxed out in their budgets. Not making payments would cause defaults and repossessions by the banks. Repossessed homes would cause banks to put homes back on the market, causing a surplus of available homes in the market place.

Remember your Economics 101 class? Increased supply means a decrease in housing prices causing even more defaults as people discover they now owe more than what their home is worth. Of course, this could never happen, right? If that were even possible, you would have banks worried about an increase in bankruptcies and they would be lobbying Congress for tighter bankruptcy laws! Oops! The banks have been doing exactly that and got those laws passed just last month! What do they know that we don’t?

I’m not trying to be an alarmist here. I’m really not. I am just suggesting that people should be careful not to be plunging themselves into debt just because everyone else is doing it. And don’t think that bubbles won’t burst. They seem to have a habit of doing that. In fact, bubbles always eventually burst.

If the housing bubble bursts, a lot of people will get hurt. Our counsel continues to be, “Pay off your home, invest wisely, and have some dependable supplemental income.” A nice, healthy Melaleuca business would add substantial security to any family budget! Don’t be worried about the future. Just be prepared.

Sincerely,

Frank L. VanderSloot

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