Not a comfortable topic to discuss, to be sure. But as my now oft-quoted history professor used to say, “those who don’t study history are doomed to repeat it.”
The older I get and the more experience I acquire, the smarter my history professor becomes.
Which brings me to this week’s “Portfolio Watch” topic – similarities between the period-of-time preceding the Great Depression and where we find ourselves today.
I address this topic very briefly this week, acknowledging the fact that an entire book could be written on the topic. In this brief narrative, I’ll discuss the wealth gap and consumerism excesses.
For context, it’s important to understand the role that central bank policy played in creating the prosperity illusion of the Roaring Twenties and the prosperity illusion that we’ve more recently experienced.
The central bank of the United States, the Federal Reserve, was founded in 1913. Shortly after its formation, the central bank reduced the backing of the US Dollar by gold. Prior to the establishment of the Federal Reserve, the US Dollar was essentially gold; the US Dollar was backed 100% by gold. An ounce of gold was twenty US Dollars.
Shortly after the Fed was set up, the backing of the US Dollar by gold was reduced from 100% backed by gold to 40% backed by gold. A little rudimentary math has us concluding that it increased the currency supply by 250%.
While I am not a trained economist (since the majority of trained economists today are of the Keynesian school of economics, I count my lack of formal training as an attribute rather than a detriment as my common sense has not been compromised), I have learned from my study of history that when currency is created, it always has to find a home.
While there are many eventual adverse outcomes as a result of currency creation, the two on which I will focus this week are income inequality (the wealth gap) and debt accumulation.
Let’s begin with debt accumulation. Here is an excerpt from an article published about consumerism and debt accumulation in the 1920’s (Source: http://athenaandkim.weebly.com/consumerism.html):
Consumerism in the 1920’s was the idea that Americans should continue to buy product and goods in outrageous numbers. These people neither needed or could afford these products, which generally caused them to live pay-check to pay-check. People bought many quantities of products like automobiles, washing machines, sewing machines, and radios. This massive purchasing period led to installment plans. These were plans for people in which they were able to purchase their products and pay for them at a later time in small monthly payments. This was the reason why “80% of Americans during the 1920’s had no savings at all – they were living pay-check to pay-check”. This consumerism later became a contributing factor to the start of the Great Depression because it greatly increased the amount of consumer debt in America.
The Great Depression was largely caused by debt excesses, debt levels in the private sector that were too large to be paid. As a result, many American citizens lived paycheck-to-paycheck.
We are now experiencing the same thing. Almost 2/3rd’s of American households now live paycheck-to-paycheck.
This from MSNBC (Source: https://www.cnbc.com/2022/12/15/amid-high-inflation-63percent-of-americans-are-living-paycheck-to-paycheck.html):
As rising prices continue to weigh on households, more families are feeling stretched too thin.
As of November, 63% of Americans were living paycheck to paycheck, according to a monthly LendingClub report — up from 60% the previous month and near the 64% historic high hit in March.
Even high-income earners are under pressure, LendingClub found. Of those earning more than six figures, 47% reported living paycheck to paycheck, a jump from the previous month’s 43%.
“Americans are cash-strapped and their everyday spending continues to outpace their income, which is impacting their ability to save and plan,” said Anuj Nayar, LendingClub’s financial health officer.
While inflation, caused by excessive currency creation by the central bank, is a factor in the vast number of Americans currently living paycheck-to-paycheck, another factor is the level of debt that Americans have collectively racked up as a result of easy money policies and artificially low-interest rates. Here is just one example (Source: https://www.theatlantic.com/culture/archive/2023/01/buy-now-pay-later-affirm-afterpay-credit-card-debt/672686)
As familiar as Americans are with the concept of credit, many of us, upon encountering a sandwich that can be financed in four easy payments of $3.49, might think: Yikes, we’re in trouble.
Putting a banh mi on layaway—this is the world that “buy now, pay later” programs have wrought. In a few short years, financial-technology firms such as Affirm, Afterpay, and Klarna, which allow consumers to pay for purchases over several interest-free installments, have infiltrated nearly every corner of e-commerce. People are buying cardigans with this kind of financing. They’re buying groceries and OLED TVs. During the summer of 2020, at the height of the coronavirus pandemic, they bought enough Peloton products to account for 30 percent of Affirm’s revenue. And though Americans have used layaway programs since the Great Depression, today’s pay-later plans flip the order of operations: Rather than claiming an item and taking it home only after you’ve paid in full, consumers using these modern payment plans can acquire an item for just a small deposit and a cursory credit check.
From 2019 to 2021, the total value of buy-now, pay-later (or BNPL) loans originated in the United States grew more than 1,000 percent, from $2 billion to $24.2 billion. That’s still a small fraction of the amount charged to credit cards, but the fast adoption of BNPL points to its mainstream appeal. The widespread embrace of this kind of lending system says a lot about Americans’ relationship to debt—particularly among the younger borrowers who made BNPL popular (about half of BNPL users are 33 or under). “We found that most of the people that use buy now, pay later either don’t have or don’t use a credit card,” Marco Di Maggio, an economist at Harvard, told me. He said that Gen Z was skeptical of credit cards, possibly because many of them had seen their parents sink into debt.
Credit card debt is also reaching record highs. This from “Zero Hedge” (Source: https://www.zerohedge.com/markets/flashing-red-alert-near-record-surge-credit-card-debt-just-average-rate-hits-all-time-high):
Another month, another glaring reminder that most US consumer spending is funded by credit cards.
The latest consumer credit report was published by the Fed today at 3pm and it showed that in November, total credit increased by $27.962BN to $4.757 trillion, above the $25BN consensus estimate, and a number which would have been bigger than last month’s pre-revision increase of $27.1BN, had it not been revised modestly higher to $29.12BN.
As for the wealth gap, we are now once again seeing what was witnessed in the 1920’s. This from the same article quoted above:
The income gap of the 1920’s was the difference in income between the top 1% of wealthy Americans and the rest of the average earnings. Within this income gap, “60% of Americans earned below the poverty level. The top 1% of wealthy American’s saw their incomes increase by 75% during the 1920’s… the other 99% of Americans saw their income increase by only 9%… not enough to justify the huge expenditures on consumer products that most Americans were making”. This shows that there was a great split between those who earned an average income or less compared to the wealthy who earned a considerably larger amount of money.
Fast forward to today.
The wealth gap or income inequality gap is wider in the United States than in any other G7 country.
According to “World Population Review,” the top 1% of earners in the United States have an average earned income of $1,018,700 annually.
The bottom 50% have an average income of $14,500 annually.
If one peels out the top 10%, the average annual earnings are $246,800.
This is what currency creation and artificial markets do.
But artificial markets don’t last forever. History teaches us that this will end badly.
If you haven’t yet taken steps to protect yourself, now is the time.
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