Credit Crisis Is Far-reaching

In a free-market economy, everything is connected to everything else. Just like higher gas prices affect your wallet in ways large and small, the current credit crisis has far-reaching implications for your life and your investment strategy, whether or not you’re in the market for a new home or a new car.

When lenders are afraid to lend—and that is the current rule rather than the exception—the economy stalls, and consumers cut back on their expenditures in unexpected ways. For an example that hits close to home, an October Consumer Reports survey revealed that 23% of respondents were putting off a doctor’s visit or a medical procedure.

The National Bureau of Economic Research, an independent group that assigns dates for business cycles, recently pronounced that the nation officially entered recession in December 2007, confirming with actual statistics that the measure of a “recession”—a significant decline in the economy lasting more than a few months—has been the case since about a year ago.

The recently passed economic stimulus packages are designed to invigorate the economy by making consumer credit more available. It should give all investors great pause that the Federal government that is seeking to invigorate the economy is the same government that created the current climate through the Community Reinvestment Act and other forms of political pressure on banks to offer credit to those who are considered nonprime borrowers.

Harvey Golub, the former CEO of American Express, wrote recently in the Wall Street Journal that, “All in all, the government got into the business of encouraging and then forcing lending institutions to make mortgage loans to people who could not pay them back. What we ended up with is a failure of government, which we have erroneously termed a failure of capitalism.” But Golub says that the blame doesn’t end there; it extends to investment banks that packaged the loans and to homeowners themselves, who leveraged the increased value of their homes to purchase other consumer goods.

Golub maintains, and I agree, that stimulus packages that create liquidity and make more credit available to consumers will help the current situation, but they will only go so far. Another recent WSJ article noted that more than half of all homeowners fell behind on mortgage payments even after their loans were reworked to make them more affordable.

What we need most is a return to personal responsibility and accountability for our own debt. “To solve this problem for ourselves and future generations,” Golub wrote, “we must get back to our historic reliance on personal responsibility and market forces, and get government out of economic management. It doesn’t do a good job, as the current economic mess amply proves.”

Wise words, indeed.

Mike Hennessy is Chairman and CEO of MJH & Associates. Click here for more Hennessy's Highlights.