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<font color="#002864" size="1" face="Verdana">http://www.mises.org/fullstory.asp?control=1454</font>
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<font face="Verdana" size="2"><font color="#002864" size="5"><strong>Running on Empty</strong></font>
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<p class="MsoBodyText"><font face="Verdana, Helvetica" size="4">By Frank
Shostak</font>
<p class="MsoBodyText"><font face="Verdana, Helvetica">[Posted February 17,
2004]</font>
<p class="MsoBodyText"><font face="Verdana, Helvetica"><img alt src="http://www.mises.org/images3/empty.gif" align="right" border="0" width="192" height="236">In
his testimony before the Congressional Committee on Financial Services the
Chairman of the Federal Reserve Board, Alan Greenspan, said that he could see
good chances for a sustainable expansion of the U.S. economy.</font>
<p class="MsoBodyText"><font face="Verdana, Helvetica">According to Greenspan:</font>
<blockquote dir="ltr" style="MARGIN-RIGHT: 0px">
<p class="MsoBodyText"><font face="Verdana, Helvetica">The household
sector's financial condition is stronger, and the business sector has made
substantial strides in bolstering balance sheets. Narrowing credit risk
spreads and a considerable rally in equity prices have reduced financing
costs and increased household wealth, which should provide substantial
support for spending by businesses and households. With short-term real
interest rates close to zero, monetary policy remains highly accommodative.
And it appears that the impetus from fiscal policy will stay expansionary,
on net, through this year.</font> <a id="fnt1" href="http://www.mises.org/fullstory.asp?control=1454#1" name="fnt1"><font face="Verdana, Helvetica">[1]</font></a>
[/i]
<p class="MsoBodyText"><font face="Verdana, Helvetica">In short, Greenspan has
informed us that his low interest rate policy since January 2001 is finally
starting to produce good results. But is it factually correct that the
financial condition of consumers and businesses has improved to such an extent
that economic expansion is likely to be sustainable?</font>
<p class="MsoBodyText"><font face="Verdana, Helvetica">According to Greenspan, it
seems that we must be grateful to the Fed for its loose interest rate policy.
Without this policy we would probably be suffering a terrible economic slump
by now. In short, according to Greenspan the low interest rate policy of the
U.S. central bank has strengthened consumers' and businesses’ financial
conditions. Our analysis, however, disagrees with this. Rather than showing
strengthening in financial conditions the data demonstrates that the exact
opposite took place.</font>
<p class="MsoBodyText"><font face="Verdana, Helvetica">Thus the household
liabilities-to-assets ratio climbed to a new record high in Q3 of 0.185 from
0.183 in the previous quarter. Furthermore, the outstanding consumer
credit-to-personal income ratio stood at a record of 0.214 in December. This
record high ratio indicates that the pace of consumption by far exceeds the
pace of wealth generation. This is likely to force consumers to curtail their
borrowing and in turn curtail their expenditure in the months ahead.</font>
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<p class="MsoBodyText"><font face="Verdana, Helvetica">Also, the business
liabilities-to-assets ratio remains at a lofty level. The ratio stood at 0.513
in Q3 against a similar figure in Q2.</font>
<p class="MsoBodyText" align="center"><font face="Verdana, Helvetica"> </font>
<p class="MsoBodyText"><font face="Verdana, Helvetica">The prolonged low
interest rate policy of the Fed has significantly arrested the pace of
liquidations of past excesses. This in turn continues to maintain pressure on
the pool of funding. In short, the existence of non-productive activities
constitutes a drain on the pool. Thus the production of durable consumer goods
to nondurable consumer goods ratio rose to 1.19 in December from 1.18 in the
previous month. This must be contrasted with an historical average of around
0.7.</font>
<p class="MsoBodyText"><font face="Verdana, Helvetica">A renewed build-up of
excesses is also seen in the production of business equipment in relation to
nondurable consumer goods production. This ratio stood at 1.1 in December—the
same figure as in November. The historical average of this ratio stood at 0.6.
It follows then that contrary to what Alan Greenspan has said the facts of
reality indicate that the liquidation of past excesses has barely begun. This,
coupled with the shaky state of the pool of funding, casts doubt on the
feasibility of a sustained economic expansion.</font>
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<p class="MsoBodyText"><font face="Verdana, Helvetica">Furthermore, increasing
pressure on the pool of investable resources is coming from ever growing
government outlays. Between December 2000 and December 2003 government
expenditure increased by 33%. Moreover, government spending stood above its
long-term trend by $122 billion in December 2003. In December 2000 spending
was $37 billion below the trend.</font>
<p class="MsoBodyText"><font face="Verdana, Helvetica">In the meantime, the
Federal debt stood above $7 trillion in December last year. Note that since
2001 the pace of the Federal debt has been accelerating.</font>
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<p class="MsoBodyText"><font face="Verdana, Helvetica">Now, according to
Greenspan mortgage refinancing played an important role in last year's buoyant
economic growth. (How in the world can credit, which is not backed-up by real
savings, generate economic growth?) Mortgage refinancing on account of the
Fed’s low interest rate policy, according to Greenspan, permitted consumers
to boost their expenditures and thus the pace of GDP. (Note that this increase
in consumption has led to the depletion of the pool of investable resources).</font>
<p class="MsoBodyText"><font face="Verdana, Helvetica">However, there are
currently strong indications that this source of"funding" is fading
rather rapidly. After climbing to a record high of $723 billion in Q3 mortgage
refinancing plunged to $276 billion in Q4. Note that this fall took place
despite low mortgage interest rates.</font>
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<p class="MsoBodyText"><font face="Verdana, Helvetica">Frank Shostak is an
adjunct scholar of the Mises Institute and a frequent contributor to Mises.org.
He maintains weekly data on the AMS for subscribers through </font>
<font face="Verdana, Helvetica">Man
Financial, Australia</font><font face="Verdana, Helvetica">. Send him </font>
<font face="Verdana, Helvetica">MAIL</font><font face="Verdana, Helvetica"> and
see his outstanding Mises.org </font> <font face="Verdana, Helvetica">Daily
Articles Archive</font><font face="Verdana, Helvetica">.</font>
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<p class="MsoBodyText"><a id="1" href="http://www.mises.org/fullstory.asp?control=1454#fnt1" name="1"><font face="Verdana, Helvetica">[1]</font></a><font face="Verdana, Helvetica"> </font>
<font face="Verdana, Helvetica">Testimony
of Chairman Alan Greenspan before the Committee on Financial Services</font><font face="Verdana, Helvetica">,
US House of Representatives February 11, 2004.
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