America's love affair with "irrational exuberance"

In less than six months we’ll be taking our annual pause in remembrance of that fateful October 29, seventy-seven years ago, which brought Wall Street to its knees after the stock market excesses – call it economic exuberance – of the twenties. It seems ironic, if not befitting, that the tulip-mania that existed three centuries before in Amsterdam had to be reenacted, of all places, in New Amsterdam. One could say that before becoming the Big Apple, New York had become in1929, the Big Tulip.

Come October, when we take that pause, it might be wise for us to remember that after more than a decade, the nation’s economic problems – the Great Depression – had remained well entrenched. And that it took more than an economic-social upheaval led by FDR to get things upright again; it took all of the second world-war, and the collateral economic benefits that the US derived from that war.

In the past, America has been viewed as the “land of opportunity,” and whatever valid or invalid reasons given for that claim, the size of its market in and of itself was enough to change the scale of optimism… or greed. This then largest marketplace, like no other in the world, provided an opportunity for some to realize the “American Dream”; and, for others, to put together the “American Scheme.” A land for dreamers and for schemers, it should come as no surprise that from such fertile ground would sprout both, successful business enterprises big and small, and such things as multi-level marketing and myriad other get-rich-quick schemes.

Schemers, to succeed, have always had to remain rational. The rest of us, dreamers, have been privileged with the choice to be irrational at will, also in degree… reaching that lunar plateau colorfully described by Greenspan a decade ago as irrational exuberance; at times falling victim to the artifice of schemers.

It’s beginning to look as if we are in the latter stages of a major bout in Irrational Exuberance. Irrational economic behavior has permeated all sectors of the economy. The housing bubble has now upgraded itself to a housing blimp; and American consumption habits, at both private and public levels, are continually exceeding what should be a maximum rational “credit limit.” Our guru economists, however, who appear to be captive to the policies of the politicians in power, simply consent to the extension of higher and higher credit lines. It was certainly true with Greenspan and the four presidents he kept happy… we’ll take a better reading on Bernanke after he has served six months. It appears that they all take a secret vow of allegiance when they become chairmen of the Federal Reserve. In exchange, they are allowed to originate some catchy lines and appear to the citizenry, or even their peers, as wise and inscrutable.

Mr. Bernanke, how can you ask banks to be vigilant on home loans? The highly compressed hot air in this blimp is about to explode with probably 4 to 5 trillion dollars in over-valuation for the entire housing sector… or one-half the current size for the entire US national debt. That “fluff” may seem like an excellent way for local governments to raise more revenue without the people’s approval; or a way to make people feel wealthier, when they are not. And it’s certainly the way to get people to spend more by borrowing more through equity loans, keeping the economy full-throttle when productivity is only half-choked. But it remains hot air, “fluff” that in due time will engulf all of us.

A realtor recently told my wife that our house had almost doubled in value since we bought it five years ago. But as I went outside to take a look, so as to convince myself of our good fortune, I saw the same walls and the same roof… except that now the walls seem in need of new paint… and the tile roof is begging to be cleaned. I won’t even mention what has happened to our property tax bill. So I am not jumping for joy. It’s just a place for my family to live… nothing but studs, bricks and a number in the real property tax rolls. Most any additional post-inflation value is simply “fluff” created through the wealth redistribution power of the Fed and its manipulation of interest rates.

It’s truly misleading how politicians of the two denominations always place home ownership as the pride and joy of our free enterprise system, and the effectiveness of their own parties. They are always touting the higher figures in home ownership. Yet, I would venture to say that homeowners today have overall far less proportional equity in their homes than their counterparts did three decades ago. Of course, we would need to take off the “fluff” added in the last five years – much of which is bound to disappear soon as prices plummet – and also any equity loan balances in their mortgages.

Politicians in power, and their economic consiglieri, are starting to talk less about the high GDP rate of growth, which means next to nothing to most people who are seeing a decrease in the purchasing power of their labor, and are starting to talk about a soft landing in housing (prices); and the containment of inflation, something that to many of us remains questionably measured (understated) in terms of housing, transportation or energy costs.

Different from the past, this time the irrational exuberance was allowed by the Fed to reach inordinate levels making the economy revolve around housing… which is likely to generate a crash, not a soft landing, affecting not just some regions, but the entire geography of this United States. This is no dotcom redux but something far more serious. And the Fed chief had better be concerned… for this collapsing financial asset bubble does threaten to impair the overall economy – of which it became such a large part – its production, jobs and price stability.

But don’t blame Americans entirely for their “irrational exuberance,” for it was the Fed’s job to curb such exuberance and give the nation a “rational economy” instead of de facto becoming nothing but the ruling politicians’ rubber stamp.

It wasn’t easy coping with the aftermath of Irrational Exuberance One seven decades ago… and it won’t be easy putting behind us Irrational Exuberance Two. Let’s just hope that this time around it won’t take a conflict in the scale of World War II.