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The Coup de Grace to the Economy   (March 15, 2006)

Please examine the two charts in this entry carefully. If you look closely, you'll see they spell "doom" in rather large, dayglo letters.

Why? Because they reveal two ominous trends: that real estate investment has become an unprecedentedly large percentage of total GDP (Gross Domestic Product), and that homeowners are no longer able to extract cash from their property via refinancing.

Why do these two trends spell doom? The first and most important reason is that heavy reliance on residential real estate investment always precedes a recession. The more extreme the dependence on housing, the more extreme the recession (and subsequent drop in real estate values).

For the chart which proves this, go to a previous entry entitled Housing Bubble III: Pop!

The second reason is that merely halting the rise of real estate values has been enough to utterly quash the removal of spendable cash from Americans' home equity ATM (otherwise known as the family home). As noted in a previous entry this week, Americans drew out $880 billion from their homes via re-fi's and home equity credit lines in 2005 alone. Add up all the home equity extracted since 2000, and you have a number in the trillions.

So what happens, now that the home equity ATM has finally run out of money? For one thing, consumer spending falls. And since consumer spending is 2/3 of the U.S. economy, that's all you really need to know. Squeezing 2/3 of the economy is more than enough to induce recession, especially when you add in the millions of households who will be paying more to service their adjustable-rate mortgages when the "resets" kick in later this year.


copyright © 2006 Charles Hugh Smith. All rights reserved in all media.

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