Thursday, January 24, 2008
Economics 101
With the current uncertainties surrounding the economy, Eastern's own economics guru Doug Orr participated in an online chat with the Spokesman-Review's Jim Camden to answer some of the big questions on peoples minds.
Here are some highlights:
Q: How much of our economy relies on consumer spending?
A: Right now, 70 to 75 percent of the economy depends on consumer spending. For most of the past 30 years, the wages and incomes of the bottom 80 percent of the population have been going down or stagnating, which means more and more households have been relying on going into debt to try to maintain their standard of living.
That means many households have less wiggle room to try to deal with any economic downturn. If a household has some savings, it can use that in the short term to maintain spending during a recession. But if a household has more debt than it has savings, any negative impact of a recession on that household is hard to deal with because their only response is to go more into debt. Because banks are going to be reluctant to lend on home equity and mortgages, households are going to rely on credit cards, which have interest rates between 18 and 24 percent, which means the households simultaneously watch their cost of living skyrocket and their ability to consume go down. That drop in consumer spending, because it's 70 percent of the economy, will simply make the recession much worse.
Q: Mortgage rates have been falling recently, and many people are refinancing. Do you think they'll continue to go down, and if so, will that stimulate the local real estate market?
A: The housing market nationally is feeling a lot of pressure but Spokane isn't feeling it as badly as the rest of the country. Grant Forsyth, another economist at EWU, recently said the market here isn't in as bad of shape as the rest of the country would make you think. Still, declining interest rates generally will help the housing market so that should help the local market, at least a little. The bigger problem is, if the banking industry is made more cautious by the turmoil in the markets and the recession, it will be less willing to make loans at whatever rate, except to the most highly qualified borrowers.
Q: Will I get this $800 rebate being discussed by President Bush and Congress, or will it be deducted from any refund I was going to get?
A: We don't know for sure because there are several proposals being put on the table. We do know President Bush has backed off of his threat to veto any package that doesn't make all his earlier tax cuts permanent. Part of the proposal from the Democrats in Congress is a tax rebate similar to the one done in 2001, after Sept. 11. In that case, the $800 was an actual reduction in taxes owed, not just giving you your tax refund early. If it's similar, you would get $800 in addition to any refund. The government wants to get money into people's pockets right away.
Q: Does it matter to the economy if I use my rebate to remodel my kitchen? Buy a shotgun? Pay for dental work I've been putting off?
A: To the extent that people use the rebate to make purchases, that will tend to stimulate the economy. For example, using it to remodel a kitchen would have a strong stimulative impact because all of the labor and most of the inputs are created inside the U.S.
If you buy a shotgun, the impact would be where the shotgun is made, so if it's made in the U.S., it will help stimulate the economy, but if it's made somewhere off-shore, for example China, it would have less impact. But it will still have some impact because the shop that sells it here in Spokane will make some money on the sale and that money will be spent locally. If he buys it online, as long as it's in the U.S. it will still stimulate the national economy, but have less impact on the Spokane economy. If you use it for dental work that would help stimulate the economy as well.
Q: If the stock market is going down, should I put more money in my 401(k), or pull it out?
A: When looking at retirement savings such as 401(k), it's always important to take a longer view. The one thing that people don't want to do is to take money out of their 401(k)s right after a big drop in value, because they are locking in their losses. For someone who is not going to be retiring any time in the next 10 years, the value of the 401(k) plan here in January 2008 is fairly irrelevant. Over the next 10 years the stock market and the bond market are likely to recover, and all of the paper losses occurring now are likely to disappear. If you think that we've gotten to the bottom, putting more money in is a good idea. The problem is, no one – not Alan Greenspan, not Ben Bernanke, no one – can tell you when we're at the bottom.
Here are some highlights:
Q: How much of our economy relies on consumer spending?
A: Right now, 70 to 75 percent of the economy depends on consumer spending. For most of the past 30 years, the wages and incomes of the bottom 80 percent of the population have been going down or stagnating, which means more and more households have been relying on going into debt to try to maintain their standard of living.
That means many households have less wiggle room to try to deal with any economic downturn. If a household has some savings, it can use that in the short term to maintain spending during a recession. But if a household has more debt than it has savings, any negative impact of a recession on that household is hard to deal with because their only response is to go more into debt. Because banks are going to be reluctant to lend on home equity and mortgages, households are going to rely on credit cards, which have interest rates between 18 and 24 percent, which means the households simultaneously watch their cost of living skyrocket and their ability to consume go down. That drop in consumer spending, because it's 70 percent of the economy, will simply make the recession much worse.
Q: Mortgage rates have been falling recently, and many people are refinancing. Do you think they'll continue to go down, and if so, will that stimulate the local real estate market?
A: The housing market nationally is feeling a lot of pressure but Spokane isn't feeling it as badly as the rest of the country. Grant Forsyth, another economist at EWU, recently said the market here isn't in as bad of shape as the rest of the country would make you think. Still, declining interest rates generally will help the housing market so that should help the local market, at least a little. The bigger problem is, if the banking industry is made more cautious by the turmoil in the markets and the recession, it will be less willing to make loans at whatever rate, except to the most highly qualified borrowers.
Q: Will I get this $800 rebate being discussed by President Bush and Congress, or will it be deducted from any refund I was going to get?
A: We don't know for sure because there are several proposals being put on the table. We do know President Bush has backed off of his threat to veto any package that doesn't make all his earlier tax cuts permanent. Part of the proposal from the Democrats in Congress is a tax rebate similar to the one done in 2001, after Sept. 11. In that case, the $800 was an actual reduction in taxes owed, not just giving you your tax refund early. If it's similar, you would get $800 in addition to any refund. The government wants to get money into people's pockets right away.
Q: Does it matter to the economy if I use my rebate to remodel my kitchen? Buy a shotgun? Pay for dental work I've been putting off?
A: To the extent that people use the rebate to make purchases, that will tend to stimulate the economy. For example, using it to remodel a kitchen would have a strong stimulative impact because all of the labor and most of the inputs are created inside the U.S.
If you buy a shotgun, the impact would be where the shotgun is made, so if it's made in the U.S., it will help stimulate the economy, but if it's made somewhere off-shore, for example China, it would have less impact. But it will still have some impact because the shop that sells it here in Spokane will make some money on the sale and that money will be spent locally. If he buys it online, as long as it's in the U.S. it will still stimulate the national economy, but have less impact on the Spokane economy. If you use it for dental work that would help stimulate the economy as well.
Q: If the stock market is going down, should I put more money in my 401(k), or pull it out?
A: When looking at retirement savings such as 401(k), it's always important to take a longer view. The one thing that people don't want to do is to take money out of their 401(k)s right after a big drop in value, because they are locking in their losses. For someone who is not going to be retiring any time in the next 10 years, the value of the 401(k) plan here in January 2008 is fairly irrelevant. Over the next 10 years the stock market and the bond market are likely to recover, and all of the paper losses occurring now are likely to disappear. If you think that we've gotten to the bottom, putting more money in is a good idea. The problem is, no one – not Alan Greenspan, not Ben Bernanke, no one – can tell you when we're at the bottom.
