It came as a nasty surprise to almost everyone a decade ago when we found ourselves on the cusp of a worldwide financial collapse.
Most business journalists — including me — failed to see the 2008 disaster until it was almost upon us. But these days, predicting meltdowns has become positively trendy. With stocks at or near record levels, unemployment low and the economy booming, it’s become conventional journalistic wisdom to predict that evil days lie ahead. And not very far ahead. The recent New York Times editorial, “Inviting the Next Financial Crisis,” is just one example.
But I don’t think that today’s obvious problems will cause tomorrow’s crisis. Why? Because obvious problems usually don’t cause crises. You get a crisis when problems combine in unpredictable and unforeseen ways.
In 2008, complex financial instruments that almost no one understood — based on various pools of shaky loans — inflicted huge losses on giant companies like Bear Stearns, Lehman Brothers and American International Group almost overnight. Those institutions didn’t realize their portfolios were toxic until financial sepsis had already set in. Worse, a series of financial relationships among those players and others, intended to reduce risk, ended up accelerating it.
However, there is one clear and present danger to the financial system that almost no one seems to be discussing in public. In fact, multiple experts whispered about it to me and said they discuss it behind closed doors but don’t breathe a word elsewhere for fear of becoming the target of a presidential tweetstorm. So I’ll do it, at the risk of being called a peddler of “fake news.” I think the biggest danger of financial problems exploding into a worldwide meltdown involves … Donald Trump.
No, I’m not talking about Trump’s economic and regulatory policies, which people can legitimately disagree about. I’m talking about the way Trump behaves. This is a guy with minimal impulse control, someone who makes up stuff on the fly, tweets it, publicly undercuts his subordinates, insults opponents and allies, and goes back on his word so frequently that no major player in the worldwide financial system is likely to trust him.
Based on what I saw a decade ago, I feel comfortable telling you that if trust and cooperation between the United States and other major financial powers are lacking, relatively small problems could metastasize rather than being cured or, at least, treated.
Let’s look at some of today’s financial problems, which I don’t think will cause a crisis because they’re, well, obvious.
The first danger is that U.S. interest rates are on the way up, regardless of whether Trump succeeds in bullying the Federal Reserve into abandoning its rate-raising program. The Fed cut short-term rates, which it controls directly, to virtually zero a decade ago to stimulate the economy and boost the prices of assets, especially stocks. It also went to extraordinary lengths to force down long-term rates.
Now, both short and long rates are going back up. A major reason: the increase in current and future federal budget deficits created by last year’s tax bill, which will require massive federal borrowing.
Higher interest rates drive down the market value of existing bonds and hurt prices of houses and other assets. I don’t know where the stock market is going — who does? — but higher interest rates will exert downward pressure on it.
Here are some other problems: House prices, especially in high-income areas and in parts of blue states targeted by last year’s tax legislation (which limited annual deductions for state and local income and real estate taxes to $10,000), seem to be weakening. Given that home equity is most people’s biggest financial asset, you can see why this is a problem. As is the fact that some mortgage lenders seem to be reducing down payment requirements and making riskier loans.
Subprime auto loans are growing rapidly, possibly because they performed relatively well during last decade’s meltdown. Back then, subprime auto loans performed better than subprime mortgages, apparently because financially stressed borrowers realized that their lives could be devastated in an eye blink by having their car repossessed and being unable to drive to work, but it would take a lot longer for lenders to repossess their homes.
Therefore, quite rationally, they gave car payments priority over house payments. Now, however, people seem to be taking out subprime loans for multiple cars, which could reduce their incentive to keep making payments if their finances hit the wall.
Student loan debt is a huge, growing and widely recognized problem. But while it’s in crisis territory for many students and their co-signers, I don’t think it threatens the financial system.
Corporate debt — especially from private-equity firms buying companies and from corporations trying to make predatory “activist investors” happy by going into hock to buy their own shares — is very high. And it’s having an impact. Consider the collapse of private equity-owned Toys R Us, which couldn’t generate enough profit to cover its buyout debt. The tanking of Toys R Us has led to problems for landlords, who typically borrow heavily to finance shopping centers. And to mass layoffs. Dozens of other retail chains, most of them burdened by debt (which makes it far harder for them to compete with the likes of Amazon), are closing stores.
That throws thousands of people out of work.