Recession, Depression or Retrenchment?

When stocks were rocketing to the moon before the tech bubble burst in 2001 it was common to talk to investors and hear the phrase “why it is different this time” when it came to predicting the Dow would hit 25K before it retested 10K. That exact saying was routinely found in print along with a whole slew of reasons for “why it would be different this time.” Of course history has shown that it wasn’t different “that time.” The phrase has been used all too often to predict that a trend will not reverse even though historically almost all trends do sooner or later.

Having said that I believe that the economic period we are in will be different from any we have seen ever. I don’t intend to discuss the usual culprits such as the massive US debt, unfunded pension liabilities, social security etc. I won’t discuss why the US consumer is tapped out because of lack of savings and high debt burden etc. The blogosphere is full of excellent discourse on these monetary issues. I will concentrate strictly on the basics of living, namely buying and selling goods and services. My reasoning:

There has been a combination of events that have made the majority of the American (and I dare say European and Asian) population feel financially vulnerable. Those events include the crash of the stock and housing markets, the spiraling cost of energy as well as the ripple effect that these costs are having as they travel through the economy. Americans have seen once mighty corporations brought to their knees in short order and rapid succession. The investment banking industry is gone. If the U.S. government doesn’t belly up to the bar the American auto industry will cease to exist as it has been for decades (and might do that even if congress bellies up to the bar). The last statement is breathtaking in scope when you consider GM had been the largest car manufacturer in the world for decades, and still held the title in 2007. Yet GM has a good chance of going chapter eleven in the next couple of months.

While it is in vogue to blame the current administration for all these problems the causes are much deeper than the last eight years and are global in nature. Last time I checked George Bush wasn’t running Iceland and they are on the verge of financial collapse. These events are having a profound effect on how Americans spend their money, and that in turn will have a profound effect on the global economy.

A Confluence of Trends:

It’s a fact: if you don’t eat for a long enough period of time you die. Somewhere along the way we became an extremely prosperous country and other things such as iPods, the latest car and Adidas sneakers etc. were elevated to the level of food. We are witnessing the rediscovery that those things are not food.

My thesis can be summed up in this phrase: “You can’t take it with you and you don’t need it while you are here.” Americans are being forced to discover that they can maintain a very comfortable lifestyle while spending a lot less money. The group I am referring to is the bulk of the taxpayers who earn under $250K/ year and account for 99% of all tax payers. Uncertainty will change many “have to have its” to “I can do without it.” Looking at a brokerage account or the value of the home will no longer bring the reassurance it once did. Many (all?) will see a greatly reduced 401K. Frugality will be the watchword for the rest of this decade and much of the following. Let’s go through the list of potential casualties.

Automobiles:

The last few decades have seen a tremendous improvement in the reliability and longevity of cars. Many new car purchases are made not out of necessity; they are a gadget or luxury upgrade. But the trade-in was not replaced because it had to be but because the owner wanted the latest greatest vehicle with the smell of new leather. Americans looking to get out from under a car payment will realize that they can keep their current automobile for twice the length of time they had in the past. In the last few weeks auto sales have cratered and it is my contention they won’t be back anytime soon. People will drive less, car pool more, drive slower and in general do the things that will make their cars last longer.

Once in this mode of thinking, reversion back to the days of old will take many years. Don’t expect a sustained uptick in auto sales anytime soon. In anticipation Toyota, nominally as well run an auto company as any, is planning a 30% reduction in output. It won’t be alone and it won’t be enough.

Last time I checked autos were crammed with electronics such as engine controls, radios etc. Fewer auto sales will have a large impact on semiconductor companies, particularly those that make data conversion devices, high power semiconductors and solid state sensors. Dealerships will go under (that’s already happening), parts suppliers will suffer and metal manufacturers will face severe cutbacks.

Housing & Real Estate:

The housing bust continues unabated. The house as piggy bank is effectively dead and with it goes the ready source of cash. I’ve rarely been to a house where its occupants say they have enough room and would/will gladly trade up as soon as they are able. Mostly of those houses had ample room; it was a state of mind that the house seemed too small. People will make do and that will slow down new house sales as well as house swapping. Moving from house A to B always entails major expenses and typically new appliance purchases. But major appliances like autos last virtually forever and people will discover they absolutely don’t need that new dishwasher etc. Recently Lowe’s reported disappointing earnings and one of the culprits was a major slowdown in major appliance sales.

Who gets hit by this? Well we’ve already seen Circuit City bite the dust and no doubt some mom and pop appliance places will feel the heat (or lack thereof). Semiconductors and metal manufacturers will see reduced sales. No doubt some real estate sales offices will go under. One or two of the major home builders will tank. Less construction equipment will be needed.

The point is that Americans will find that they can easily make do with much of what they have already. And once in that mentality it will be quite a while before the spending habits of old will return. There will be more kids living with their parents for a longer period of time, slowing housing growth. Lastly that ready source of easy cash to buy luxury items is gone and with it the sales of those items.

Commercial real-estate will also be hit. Businesses will contract and there will be downsizing of space requirements as the pressures to save energy and time usher in growth in the electronic remote office.

Electronics:

I personally have refused to buy Windows Vista and it appears I am not alone. PC sales growth will continue to decline because most of the changes are evolutionary and not revolutionary. Users will replace what breaks. As their children age and require new computers for school they will get low-end machines which are more than adequate for schoolwork. The biggest performance boost I can get for my computer is increased Internet speed flowed by increasing the amount of DRAM my machine has. Beyond that, everything else costs much and delivers relatively little.

Flat screen sales have been hammered recently. And as cheap as they have become, millions of viewers have still opted to buy the digital converter box for their TVs for 15 bucks rather than fork over a couple of hundred dollars for a new set. The march to high definition and Blue Ray, while inevitable, will be greatly slowed down for the simple reason that it isn’t necessary. When the house was a piggy bank such luxury purchases did not seem extravagant.

Losers include the semiconductor companies (once again), Microsoft and all the ancillary software you need to buy to have a functioning PC such as anti-spyware and virus software.

I believe the cable companies will be a beneficiary.

Travel:

Videoconferencing use had been growing prior to the energy bubble and now is being deployed at ever accelerating speed. Cisco has championed its use and has shown how it has enhanced its own bottom line by travel cost containment. Many corporations will have to follow. And if your competitor gets an edge over your business you will be obliged to follow suit. The quality, reliability and cost of new systems combined with the increased price and time of travel may yet make this trend “viral.”

Systems will soon be available (Cisco announced a box coming in 6 months) that turn your TV and internet connection into a high quality VC experience. This will displace some family travel plans. Losers include hotels, motels and higher end restaurants and clothiers.

Miscellaneous Luxuries:

Starbucks stock began to tank in 2007 and that presaged a dramatic decline is sales. People are cutting back and have learned they can live OK without a super duper latte. Designer clothes will give way to Wal-Mart specials. You get the idea.

Bottom Line:

Unlike other financial eras in American history, we’ve been buying many items ranging from cars to houses and electronics which were nice to have but not a necessity. The last bunch of weeks essentially wiped out the gains of this century in the stock market and it is pretty clear the bad news on corporate profits won’t end any time soon. Americans will learn that they can live without many things, and this retrenchment in spending has started to filter through the economy here and abroad. The power of making do will take hold and binge spending will take a long time to come back.