All the numbers are looking bad. New home sales are at their lowest in 27 years. Consumer confidence is at its lowest in 14 years. Vehicle sales are down 7 percent year on year, Autodata announced this week. Oil is over $100 a barrel and gold is about to hit $1,000 per ounce. Food prices are soaring, company start-ups are declining, and 82 percent of Americans tell Gallup pollsters the economy is in bad shape and getting worse.
The credit markets are seizing up, because banks need to hoard their capital for fear of further write-downs on their dubious mortgage-backed assets. Banks are reluctant to lend to each other because they cannot be sure how wobbly their partners' finances might be.
Businesses are reluctant to invest, first because the banks are imposing tougher conditions on their loans, and second because they fear that the slowdown will reduce consumption. Why invest for growth when there are fewer customers?
This explains why the dramatic cuts in interest rates by Ben Bernanke, the U.S. central banker, are not having the desired effect of stimulating more loans and more investment and more growth. Bernanke is, in the classic words of the economist John Maynard Keynes, "pushing on a piece of string." There is not much point in making credit easier if businessmen look at this market and decide they would rather not borrow, however cheap the loan might be.
That is the systemic breakdown that worries economists, who say this means that the link between monetary policy and credit creation has been broken. This is not supposed to happen, which explains why Bernanke appears to be floundering and why people are beginning to ask whether he is up to the job.
Other news is bad. Listen to Sens. Hillary Clinton and Barack Obama competing to see which of them can convince the voters of Ohio that he or she is the more opposed to free trade, and anyone involved in the global economy is entitled to worry. Since international trade and investment and currency movements now account for one-third of America's gross domestic product, restraints on trade are not a good idea.
Every single U.S. recession since the end of World War II has been triggered either by a housing crisis or a surge in energy prices. We have now been hit by both of these blows, with a credit crunch and banking crisis thrown in for good measure. (Anyone who doubts there is a banking crisis should look at the share price of Citibank, which has slumped from $55 last summer to $22 this week.)
So far, the banks have written off some $160 billion in losses in the U.S. subprime mortgage market, with a lot more to come. A Deutsche Bank analysis released this week said total losses could be as high as $400 billion. The total outstanding U.S. mortgage debt is around $10 trillion, of which $1.2 trillion is considered to be subprime.
At least a third of these mortgage debts are expected to default under a rule of thumb that bankers apply based on the experience of previous recessions. Default rates could be higher if the recession starts to increase job losses, and the pain is already spreading to credit card debt and car loans.
Put all these losses together, and some bankers are saying the total could be anywhere from $700 billion to $800 billion. Nobody really knows, and that uncertainty is perhaps the worst problem of all. Writing off $800 billion in bad debt would hurt; that is about 5 percent of American GDP. But it is manageable.
The really worrying thought is that some of this bad debt may be tainting the overall derivatives market, which is worth about $45 trillion. That is close to the annual GDP of the whole global economy. And that is definitely not manageable.
How will the bankers know how bad this can get? This is the key question, and there is no definitive answer. They know that there are more subprime losses out there but do not know exactly where.
Some are waiting for the Japanese banks to publish their accounts later this month, because there are suspicions that some of this tainted subprime paper ended up with them or with Chinese banks, whose accounts do not inspire great confidence.
Some are watching the U.S. housing market where there is currently a 10-month backlog of new homes that have been built but not bought. When that backlog drops below six months, it will be a signal that recovery is under way.
Some are simply waiting to see what happens to mortgage defaults over the next year and more, as loans that started off with low "teaser" interest rates get reset at much higher levels. This is expected to trigger more defaults and more "jingle mail" as home buyers whose loans are now worth more than their houses simply walk away and post the jingling keys to their lender.
And yet the Dow is still over 12,000, which is almost twice as high as the 6,500 level when Greenspan warned against "irrational exuberance" back in December 1996. Wall Street is still well above its 11,700 peak at the top of the dot-com boom in January 2000. And just for the record, the Dow was at just 777, around 6 percent of its current level, as recently as August 1982.
Exports are booming and the U.S. farm sector thinks it's Christmas, with wheat prices touching $24 a bushel last week in the futures market, 800 percent higher than they were three years ago. iPhone sales are booming, and new wireless technology, the latest advances in artificial intelligence and genetics and brain research and alternative energy all promise "the next big thing" from which new industries will emerge. By this time next year, we could be talking of a "Green Bubble" as environmentally friendly technologies take off.
But right now we are in a recession election, which is inspiring the presidential candidates to take bold stands and make grand promises to fix things, and that may be the most dangerous development of all.