10 Reasons To Fear The U.S. Economy

By Stephen D. Simpson, CFA | October 19, 2010 AAA

Halloween is a time for the sort of fear we all enjoy - cheesy horror movies, clever costumes and a general appreciation for the macabre and creepy. Far less enjoyable, though, is thinking about some of the reasons investors may have for fearing the U.S. economy. Unlike ghosts and goblins, some of these fears may prove to be very real and offer more than just a friendly little tingle up the spine.

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1. Crumbling Infrastructure
While the U.S. government has handed out plenty of money over the past three years, relatively little of it has made its way towards bridges, roads, schools and hospitals. That is unfortunate, as the U.S. went through a building boom in the 1950s and 1960s and is now badly in need of repair and expansion. Infrastructure underpins economic growth. Without better public facilities, there will be a long-term drag on economic productivity.

2. High Debt
Of all the problems in the United States, large budget deficits and a growing debt burden are probably the best-known. Public debt is at about $13.6 trillion in the United States, or roughly 94% of annual GDP. That puts the country in uncomfortable company with the likes of Japan, Italy, Greece and Portugal.

What's worse, so much of the U.S. debt burden is unproductive debt - debt acquired not to fund long-term economic projects like roads or education (which can produce a positive return on that debt in the future), but to pay for non-productive discretionary items and social entitlements.

3. High Unfunded Liabilities
High debt is bad enough, but at least that is there for all to see. What is more pernicious is the future burden of the government's obligations under Social Security, Medicare/Medicaid and other social entitlement programs. The present value of these obligations has been estimate at nearly $46 trillion, with the majority of that going to healthcare.

4. Willpower
Perhaps one of the hardest notions to quantify, the United States as a whole seems to suffer from a childish "me wantee" culture. Instead of the do-it-yourself rugged individualism that characterized it for much of its history, America is increasingly beholden to distracting (and circular) social debates and quick-fix solutions from feckless politicians. That attitude is counterproductive to getting real work done, and encourages people to just kick the can down the road and let other people solve the problems.

5. Fear Itself
Like a dearth of willpower, fear cannot readily be quantified. That does not mean that it does not have a serious impact on an economy. Customers who are afraid for their jobs and savings will cut spending. Businesses that are afraid that customers will not spend will cut back on capital investments and hiring - and that will lead to a job and stock market that make consumers even more nervous.

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6. Risk of deflation
It seems odd to discuss an economy at risk of both inflation and deflation, but that is nevertheless still where the United States seems to sit. Over the country's long history, deflation is actually the norm (or at least it was prior to the 20th century) but that is no longer the case. Prolonged deflation in the United States can feed on itself - people start to expect lower prices, so they hold off on purchases. That leads to companies cutting prices to compete, cutting wages and/or hiring, and having greater difficulty repaying their debts - putting even more stress on the banking sector.

7. Risk of inflation
The Federal Reserve has been very busy expanding the money supply over recent years, and there is a growing fear among some people that there will be an ugly bill to pay in the form of rampant inflation. While government measures of inflation have stayed quite low (and long-term bond rates are likewise low), gold has been on a tear and other commodities are likewise pointing to real inflation. Perhaps an even bigger risk is in the unpredictability of this inflation - monetary easing has not led to inflation so far (due perhaps to a lower velocity of money), but nobody knows how elastic the system is or when inflation might "snap" back. (For related reading, take a look at Timeless Ways To Protect Yourself From Inflation.)

8. Housing
Even as banks report improving credit conditions, the country is not out of the shadow of the housing bubble. A large number of people have seen serious declines in their net worth, and a prolonged economic malaise could lead to another round of foreclosures, further weakening banks and consumer balance sheets. Those who can still afford their homes nevertheless pay a price because it is so difficult to sell a home now in some communities, so workers cannot move around the country to take advantage of better job opportunities. That locked-in population slows the pace of economic restructuring and recovery.

9. Unemployment (and discouraged workers)
Unemployment is normal in a recession, but nevertheless a cause for concern. Not only do eligible unemployed workers rely upon unemployment insurance (straining already-stressed state budgets even further), but some of these unemployed ultimately become discouraged and stop looking for work. Unemployed workers not only face the erosion of their skillset through disuse, but they also miss out on prime earning (and saving) years. Speaking even more broadly, the U.S. economy runs on the wallets of consumers and the larger the number of those consumers without jobs, the thinner those wallets become. (Learn more about unemployment in The Unemployment: Get Real)

10. Under-Saving/Over-Spending
The United States has long promoted a consumer culture (the federal government taxes savings, but not spending). The end result is high personal debt (including credit card debt) and low personal savings. The retirement savings gap in the United States exceeds $6 trillion, and as much as 25% of the population may depend upon Social Security for 90% of their retirement earnings. That feeds into the sizable unfunded liabilities of the Federal government and increases the overall risk to the economy; with thinner cushions of emergency savings, more consumers are at risk of severe economic hardship if they face even a temporary period of unemployment.

The Bottom Line
If there is good news to this list ghoulish list of problems, it is that none of them are carved in stone. If the U.S. populace wakes up and gets real about the problems facing the country, and shows the willingness to take some strong corrective measures, there is no reason that things have to end badly.

For the latest financial news, see Water Cooler Finance: Ghosts Of Economies Past.

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