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What if Conventional Wisdom On Economic Growth and Consumer Spending Is Wrong?

Economics / US Economy Feb 28, 2008 - 07:41 PM GMT

By: Tim_Iacono

Economics There it was, right in the middle of the front page of yesterday's Wall Street Journal about four paragraphs down in the lead story titled " Decline in Home Prices Accelerates " - more evidence that the economy as we know it could be fundamentally flawed, yet you'd never get a hint of that even from reading one of the the world's finest business publication.

Lower home prices threaten the economy's growth by making consumers feel less wealthy and thus less willing to spend. They also curtail homeowners' ability to borrow against the value of their homes to finance other purchases. In addition, lower housing prices erode the value of banks' collateral , prompting them to tighten their lending standards, which further damps economic growth.

It is as if life has always been this way:

1. Economic growth is largely based on consumer spending
2. Consumer spending is increasingly driven by rising home prices
3. Banks must continue to expand credit for the system to function

Writers seem to just keep repeating this "conventional wisdom" over and over in a sort of automatic explanation for why home prices are so important and why consumer spending is vital for the U.S. economy, yet few probably realize just how wrong this conventional wisdom could be.

What if (as seems obvious to some) we are quickly coming to the end of what was a wholly unsustainable system where borrowing money to buy goods and bid up asset prices fails to produce economic growth?

What if this conventional wisdom is wrong?

Never before has the world's most important economy been based on such shaky underpinnings - rising credit and debt, rising consumption, and rising asset prices - yet you have to look far and wide to hear anyone who thinks twice about it anymore.

When the second of three estimates for fourth quarter GDP came out this morning, financial commentators and newspaper reporters said and wrote something like the following:

The slowing consumer sector was apparent in today's GDP report showing weaker economic growth during the fourth quarter. Consumer spending accounts for more than two-thirds of economic activity and with falling home prices and flagging confidence, continued weakness in this sector could depress growth for some time to come.

During a press conference this morning, in response to a question about the health of the economy, President Bush commented on the economic stimulus plan:

I don't think we're headed into a recession. But there's no question we're in a slow down and that's why we acted with over $150 billion worth of pro-growth economic incentives, mainly money going into the hands of our consumers... The purpose is to encourage our consumers - to give 'em money - to help deal with the adverse effect of the decline in housing values . Consumerism is a significant part of our GDP growth and we want to sustain the American consumer, encourage the American consumer.

Just once, it would be nice to hear someone in the mainstream media or some elected official doubt the conventional wisdom that we, as a nation, can borrow and spend our way to prosperity and expect that prosperity to endure.

By Tim Iacono
Email :

Tim Iacano is an engineer by profession, with a keen understanding of human nature, his study of economics and financial markets began in earnest in the late 1990s - this is where it has led. he is self taught and self sufficient - analyst, writer, webmaster, marketer, bill-collector, and bill-payer. This is intended to be a long-term operation where the only items that will ever be offered for sale to the public are subscriptions to his service and books that he plans to write in the years ahead.

Copyright © 2008 Iacono Research, LLC - All Rights Reserved

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