Rich People Don't Use ARMs

What we think is happening is what we expected to happen, and what should be happening: consumers are running out of money as fast as we are running out of similes and metaphors.

How do we know? Well, we don’t, but we can take a guess from the evidence before us. The Dow seems to have topped out. So have transports. Housing prices. And the economy itself. Retailers and homebuilders are clearly on their way down.

Of course, the rich are still getting richer. But that is little consolation to diaper salesmen, automobile merchants, or the vendors of any of the countless other things that keep a consumer economy in business. So, when you read that average incomes are up or that the average consumer has more money on hand, remember that these averages include Bill Gates and Warren Buffett. As the rich get richer, the average amount of money people have goes up. But the typical person is not rich and is not getting richer. He’s actually losing income. And now, with declining house prices, he may be losing “wealth,” too. He is also paying much more for gas and heating than he was a couple of years ago. And, he is also facing a higher mortgage payment now.

Generally, it is not rich people who buy houses with ARMs (adjustable rate mortgages). They’re not concerned with keeping their monthly payments low. They don’t think that way. What they’re interested in is the net cost. So, they’re likely to buy for cash or use simpler, cheaper financing.

A rich person might bid up the price of a fancy vacation, top-quality wine, or a luxury house in Greenwich or Malibu. But he buys about the same quantity of diapers, laundry detergent and gasoline as anyone else. And when he gets more money in his hands, he doesn’t spend it at Wal-Mart on jumbo boxes of breakfast cereal.

No, dear reader, the consumer economy does not rest on the spending of the rich, but on the spending of the average, the ordinary consumer. It is the average man who has given an ARM (and a leg) for his life-style. For, unlike the rich, lower- and middle-class consumers are very sensitive to marginal changes in income. They live without much in savings, and even a slight fall-off in earning must be made up, either with debt or reduced consumption.

Of course, people used to save money “for a rainy day.” But after Alan Greenspan took control of the weather, no one saw the need. Savings rates plummeted to zero. The lumpen householder spent all he earned…and then some. His standard of living increased, even while his income stagnated, or actually fell.

How was this possible? Very simple. His wife went to work and he borrowed. On the first point, we would merely like to point out that a non-working spouse represents a kind of savings. And an investment. The stay-at-home spouse, presumably, helps the children with homework, keeps them out of trouble, and shapes their minds and attitudes for success. We have no proof, but we’re prepared to believe that the children of an attentive, at-home parent do better than those of two working parents (To say nothing of single-parent households).

The non-working spouse provided a reserve for the family. If the breadwinner broke his leg, his wife could take a part-time job while he was on the mend. If the family suffered unanticipated expenses, likewise, the stay-at-home spouse could re-enter the workforce to make up the loss.

But now, both parents work. And expenses have been brought up to match the couples’ joint income. What will happen if one of them loses his or her job? Well, that’s what credit cards are for! Or mortgage refinancing!

At least, while the housing boom lasted, the consumer could feel wealthy even without making more money. He had something to borrow against. And he could tell himself that he was really just “taking out” equity that was really his.

But now that the housing boom is over — or making sounds like it is — debt looms not just for marginal consumers, but for the whole country as well.

u2022 The United States used a record amount of power during the hot spell. Another way to look at it — Americans paid a record amount for gas and air conditioning.

We’re still intrigued by the point we made last week: The major wars of the 20th century were not necessarily won either by the good guys or the smart guys. (In World War I, all the combatants were about equally wicked and equally stupid. In World War II, the Soviet Union was the big victor, but it could hardly be described as good. The Bolsheviks made their country more miserable, in many ways, than even the Nazis managed to make Germany.) Instead, the victories went to those who had oil. Especially, in WWII, strategies were determined by the absence or abundance of fuel. Germany and Japan had limited access to energy; so they had to turn their military forces away from purely military objectives in order to secure fuel supply lines.

Now, America is the world’s biggest importer of oil. It is she who worries about her fuel supplies, and she who bends her foreign policy toward oil fields. She puts her soldiers to work guarding gas stations.

u2022 Another Internet bubble? We hope so. The first one was so much fun.

Once again, the Internet money is flowing like cold beer on a warm day — $5.6 billion was put into new deals in the first quarter alone. Spectacular prices are being paid for Web sites with little revenue and no clear way to bring in more.

You’d think investors would have learned better. But investors are like voters. They can never remember more than four years back.

u2022 “Errors hurt 1.5 million,” says an AP headline.

Our theory is that all things age — including empires. And as they age, parasites lodge in their nooks and crannies, taking away more and more of the organism’s energy and diminishing its effectiveness. As time goes by, more and more money is spent on, say, defense, while people get less and less real defense from it. The same could be said for many other institutional activities — corporate management, money management, health care, education, and government generally.

The AP continues:

“More than 1.5 million Americans are injured every year by drug errors in hospitals, nursing homes and doctor’s offices, a count that doesn’t even estimate patients’ own medication mix-ups….

“Perhaps the most stunning finding of the report was that, on average, a hospitalized patient is subject to at least one medication error per day, despite intense efforts to improve hospital care in the six years since the institute began focusing attention on medical mistakes of all kinds.

“The new probe couldn’t say how many victims of drug errors die. A 1999 estimate put the number of deaths, conservatively, at 7,000 a year. Also unknown is how many of the injuries are serious.”

Bill Bonner [send him mail] is the author, with Addison Wiggin, of Financial Reckoning Day: Surviving the Soft Depression of The 21st Century and Empire of Debt: The Rise Of An Epic Financial Crisis.