Shopping 'zombies' offer US hope

By Julian Delasantellis

Like salmon driven upstream by instinctual forces beyond their control, there is something deep down, probably at the core of our DNA programming, that forces pundits to make predictions for the new year in early January. Here's my economic prediction for 2008. The American economy may very well come to resemble scenes from the two Dawn of the Dead movies.

And that's the good news.

First made in 1978 by horror maestro George Romero, as a sequel to his 1968 classic Night of the Living Dead, remade by Zack Snyder in 2004, Dawn of the Dead tells the story of the human race under siege from hordes of recently deceased risen zombies, ambulating about with no higher brain functions, only existing to feed lustily on the rapidly decreasing numbers of actual people still around.

In both the 1978 original and the 2004 sequel, a hardy group of human survivors seeks shelter and security in an abandoned shopping mall, barricading themselves from the zombies until some salvation for the human race can emerge.

But the zombies still come. They mill around aimlessly in the parking lot, (making them fine sporting practice for the survivors, with their high-powered rifles filched from the mall's sporting goods stores, shooting away what used to be the zombies' brains) occasionally attempting to overcome the survivors' improvised defenses to gain access to the mall. The survivors are astounded, but then they come to realize their mistake in seeking shelter in a shopping mall. The zombies, even with most of their brains decayed or shot away, still carry an inherent memory of the malls as a place that once held a central focus of their lives.

As one of the survivors put it: "They're after the place. They don't know why, they just remember. Remember that they want to be in here."

Mindless zombies haunting shopping malls as if by instinct, for reasons they barely know. You don't have to wait until the end of the world to see that - you can see it all the time, including during the recently concluded holiday shopping season, in any American shopping mall. And that just may be the salvation of the American economy after all.

We're now coming up on what I consider to be the first anniversary of the starter's pistol of the subprime crisis, HSBC Holdings' February 5, 2007, announcement of the problems at its Household Bank subsidiary that first alerted the financial world to the putrescent swamp that US housing finance had fallen into over the past few years.

I started writing about the seriousness of the problems with subprimes in March; slowly, a lot of the pundit community has followed suit. Many prominent economic analysts and forecasters, among them former Federal Reserve chairman Alan Greenspan, Economics Nobel Prize winner Joseph Stiglitz and Goldman Sachs chief US economist Jan Hatzius, are now putting the odds of a US recession (technically defined as two quarters - six months - of negative economic growth) at roughly 50-50.

Maybe they're right. But as someone who has followed every twist and tribulation of the subprime crisis since its inception, I'm starting to wonder if subprime's hype has outrun its reality.

Subprime is one crisis with multiple manifestations. First is the effect on the US housing sector.

A core reason why it is frequently so difficult to get a grip on just where housing is at any one moment is the fact that there are so many varied metrics that seek to provide snapshots.

You have reports on home sales. Home prices. Home inventories. New-home sales prices and volumes, existing-home prices and sales volumes, new-home starts, pending home sales, mortgages becoming delinquent, mortgages entering foreclosure; all available for the nation as a whole, and, more importantly, for the widely varied individual regional markets that, amalgamated, comprise the national housing picture.

It is true that, for the past year, most of the indicators have marched in lockstep in one direction - down. Still, you occasionally get outliers, reports that indicate things may not be as bad as they seem. Among these was the report on December 31 that sales of existing homes actually rose 0.4% in November. In contrast to sales of new homes - those omnipresent cookie-cutters, New England-style in the Arizona desert housing-development monstrosities that despoil the virgin landscape like indelible ink spots around America's outer suburbs - existing home sales seemed to have reached a plateau late in 2007, stabilizing at around an annual rate of about 5 million units.

Home prices are falling in the US, but it is important to keep that data in a geographical and historical perspective.

On all but the most superficial level of analysis, it is probably incorrect to think of a unified US housing market. The housing picture in the US more closely resembles an agglomerated average of all the different individualized local and regional housing markets.

Thus, the current price declines in US real estate values are concentrated in places such as the US Midwest, devastated by the continuing contraction in the US auto industry, and southern California and Florida, where real estate speculation was at its irrationally exuberant best up to the end of 2006. Most other markets have real estate prices stable to only declining marginally; in some markets, such as the Pacific Northwest and the area around Charlotte, North Carolina, real estate price appreciations continue, albeit at a more reasonable pace.

Here it is also important to look at the bigger picture. According to the Case-Shiller Real Home Price Index, US home prices fell about 3.4% in 2007. Even with the declines seemingly accelerating to around a 10% rate by the end of the year, that should be looked at in the context of a 52% rise in prices since 2001.

In other words, if you bought your home before, say, mid-2005, and unless you borrowed away the appreciated value of that home with home equity loans, your home can still be your piggy bank. You can still head to the mall with the other zombies.

It's true that every month about a quarter of a million Americans are losing their homes through foreclosure, and that number should continue through 2008. The subprime "teaser" mortgage resets should peak in April, then taper off into mid-2009. Still, if one is expecting the American consumer to go into spending mourning over the fate of his poor foreclosed brethren, one has not spent all that much time with American consumers lately.

Just before Christmas, the US television network ABC had on its Nightline news program the most insightful broadcast report I've seen yet on how American society is adapting to the subprime crisis. Far from being a dour and foreboding account of sad homeowners gathering their paltry belongings in preparation for foreclosure, the report showed happy, giddy prospective homeowners on big tour buses, on an excursion, organized by a Stockton, California real estate agent (who provided the snacks and drinks), to view recently foreclosed properties.

The atmosphere on the buses was more approbation than Armageddon, more game show than Gotterdammerung: "You wanna get a good deal off someone else's life-wrecking misfortune - come on down!"

"It hadn't crossed my mind," one prospective homeowner replied when asked if he was giving any thought to the misfortunes of the previous homeowner. "I look at it as more or less an opportunity."

An opportunity to then join the zombies at the mall's home furnishing store, no doubt.

The other side of the subprime crisis coin is what the subprime securities did to the balance sheets of America's proudest and most austere names of commercial finance.

Through much of the late summer and autumn, I elaborated on this site how it was then being revealed how some of the bluest names of American blue-chip finance, names like Bear Stearns, UBS, Merrill Lynch and Citibank, had treated subprime-related and originated debt securities not as the highly speculative investments they have now revealed themselves to be, but as hot dogs at the quintessentially American "sport" called competitive eating, greedily stuffing as many subprime securities down their fat portfolio gullets as their trading desks could find.

When it became obvious just how little real value these securities actually contained, the tumbrels rumbled down Wall Street and the heads rolled, most prominent among them Merrill Lynch chief executive officer (CEO)Stanley O'Neal and Citigroup CEO Charles Prince, along with roughly 100,000 other finance-related jobs. So far, US financial conglomerates have "written down" (ie admitted as most likely worthless) about US$80 billion of subprime-related debt. Everybody knows there will much more to come; that the total amount of writedowns may finally end up in the $250 billion to $400 billion neighborhood.

Still, as 2007 drew to a close, Wall Street seemed quite complacent with the prospect of around another $300 billion or so of American finance capital being wiped out of existence.

With the exception of mortgage insurers such as MBIA (who probably sang "Auld Lang Syne" for themselves after learning that they will soon have a Warren Buffett financed entity as a competitor), most of the stocks of America's finance industry have held at the lows of mid-November, before Federal Reserve chairman Ben Bernanke raised the white flag and indicated his willingness to continue cutting rates. Some, like Morgan Stanley and Goldman Sachs, even show signs of the beginnings of a rally.

Perusing comments from traders, I see some credit accruing to Bernanke from this at least temporary respite from the long fall off the cliff that most of the financial sector suffered in 2007. A lot more is being given to the real heroes of the end of 2007, the sovereign wealth funds (SWFs) , the huge Asian and Middle East pools of government capital that are beginning to fulfill my prediction that, flying out of the sun like Han Solo in the Millennium Falcon, they would save the day for plucky little American finance capital. ( I first wrote of the likelihood of US finance capital being rescued by SWFs in my August 21 ATol piece When the big guns fail, call in China, and when the rescues actually commenced, my November 29 ATol piece, Selling the US by the dollar).

With the belief now pervading the markets that the SWFs are going to be buying up American finance, US traders are commensurately less willing to sell its stocks, figuring that it's better to hold on to them now in order to sell them dearer to the SWFs later.

Am I saying that the subprime crisis is over, that its once again morning in America, that all Americans can once more, after morning services at the megachurch, settle down in front of the 50-inch plasma TV with rack upon rack of baby-back pork ribs to watch Dallas defeat all comers in the NFL playoffs?

Not in the least. If it turns out that the total subprime bill is substantially in excess of the current projected figure, say past $500 billion or more, the bloodletting on Wall Street will resume, as it will should a major financial institution actually shutter its doors and fail.

What I am saying is that for the first time since at least last spring, Wall Street seems to think that it can see the far side of the subprime crisis. Yes, there's plenty of bad news now, and plenty more to come, but bad news is an essential component of rising stock prices - the time to worry is when the news is all good, not all bad. An old stock market adage is that bull markets climb a wall of worry. At least for now, Wall Street seems to think that it can at last see over the wall.

Another old Wall Street adage, sometimes attributed to one of the barons Rothschild, is to "buy when there's blood in the streets". Maybe Stan O'Neal and Chuck Prince's headless corpses fit the bill for that.

What about the American consumer and homeowner, the other main actor in the subprime drama? A backbone of conservative, free-market economic theory is what is called the "rational expectations" school of economic thought. This theory states that economic actors, be they investors, business owners, farmers or consumers, keep tabs on the economic news of the day, make an informed assessment of what the news means for their individual future prospects and then act accordingly. They spend and/or invest more should they believe future prospects are bright and cut back if things look less promising.

If rational expectations were right there is no way we would have seen the roughly 3.6% rise in holiday retail spending that America saw for this just concluded holiday season. This was less than in the booming years of 2004-2006, but still, you only had to go back to 2002 to find a similarly "bad" holiday season. If you listened to many pre-holiday economic prognosticators, you might have thought that America was facing the worst holiday season since the soup kitchens and breadlines of the Great Depression, maybe the worst shopping season since the British burned Washington in the war of 1812.

Why didn't rational expectations work? Why did Americans ignore all the bad news to once again be zombies at the mall?

One thing that the rational expectations theorists probably didn't factor into their calculations as to why Americans ignore economic news is that Americans just hate economic news. Whenever it comes on the TV there is a mad, desperate scramble for the remote control to change the channel; anything, whether it be meetings of the local sewage treatment committee on the community affairs cable channel or Venezuelan soap operas, will get some viewing time in preference to actually watching economics news on TV.

Had it not be for the fact that the viewers of business cable channel CNBC have the most desirable demographics of all US television, in other words they're rich, the meager ratings of business and economics TV in America would not have survived past the 1980s.

So the reason that the news of the subprime crisis has not led to a greater contraction of US consumer spending is that most Americans have little or no comprehension or understanding of what the subprime crisis actually is. They know it involves big words and complicated concepts, and in high school or college they got out of their economics requirement by substituting another elective, basketweaving or woodworking, maybe "Contextual Critical Analysis of Bruce Springsteen-101".

What Americans do know is that they have jobs. At 4.7% the US unemployment rate is still very low, just 0.3% off the low for this cycle set in March, 2006. Former US president Harry Truman once said that Americans define a recession as a neighbor losing their job, a depression as them losing their own jobs. By that measure, with American employment still strong, Americans just don't see that much urgency in cutting back spending.

And that's what's keeping the US economy humming. If they don't see a few of the people they used to see in the neighborhood, because they've been foreclosed on and are thus now living in a rental property in a far less desirable location, well, that is sad, but look at the bright side. There's a lot less wait for the swings on the neighborhood jungle gym, or to get a latte every morning at Starbucks.

This is why it is so absolutely critical to follow the monthly US employment reports, starting with the report for December due out on the morning of January 4. As long as the US consumer has a job he is going to keep spending ("Saving? What's that, oh, I know, it's what the goalkeepers in soccer do!") and as long as the spending spree continues there is a safety net as to just how bad the subprime crisis is going to hurt the American, and by extension the world, economy.

Americans feel more secure if they see the headline unemployment number still low. A factor that is probably artificially keeping the employment numbers rosy is the fact that the layoffs in the US construction industry don't really show up in US employment numbers.

That is because it has been an unacknowledged but obvious fact that, for most of this decade, the boom in US real estate construction has been populated by America's signature reserve army of the unemployed, its undocumented, primarily Hispanic, illegal alien workforce. These workers weren't really counted among the officially employed during the boom, and, as housing construction employment now evaporates, they're not now counted as among the unemployed in the bust. (I wrote on the phenomenon of illegal immigrants building US housing in my March 29, 2007 ATol piece Exurbia-built on paradox and hypocrisy.) The hard-working builders of America's homes and hearths are proving to be as disposable as tissue paper, which, if you ever talk to the immigrants themselves, pretty much sums up how they feel America always saw them in the first place.

Like many other observers, I have been astounded at the continuing prosperity of the US economy during the latter half of 2007, a time when the nation's financial system essentially became dysfunctional.

The financial sector and "real" economic sectors are supposed to work in close tandem, with the financial system providing finance for investment and then having the real economy place the profits from that investment back into the financial sector to be turned into more productive new investments.

By all accounts, this transmission procedure broke down in the second half of 2007, as credit quality concerns arising from out of the subprime crisis caused lenders to pull back from loans to even the previously most creditworthy borrowers. Still, consumers kept spending, and the economy kept chugging along, posting a very impressive 3.9% growth rate for the third quarter of 2007.

Maybe we need a new metaphor for the relationship between finance and the real economy. Instead of being something like twin brothers working together in the family business, the free-market ideologues' total deregulation of the financial services industry in the early years of this decade has turned the real economy into the sound, sensible brother capably managing the family business, with the financial sector being the uncontrollably bipolar sibling, prone to extremes of giddy elation (as in the credit creation orgy of 2003-2006 that stoked the subprime crisis) and suicidal despair (as in the current crisis). Meanwhile, the real economy goes to work each day, earns a paycheck, supports its family and the country.

Squeezing the metaphor until it screams, proper regulation of the financial sector is like Prozac. In the colloquial jargon of psychopharmacology, the financial sector needs to get back on its meds.

In what is, according to some media reports, the bleakest time in finance history since the moneychangers were driven from the Temple, Americans keep spending. How can they not? As that the French are justifiably proud of their culture and cuisine, the Germans their engineering and manufacturing prowess, what is it that Americans can be more proud about than their continued willingness to exhaust 200 years of built-up treasure on cheap trinkets that they will dispose of and replace in six months? No matter what the politicians bleat on in the Iowa cornfields about the centrality of Jesus in American life, the country's real unifying faith, affirmed no matter what race, color, creed, gender, or sexual orientation, is mindless consumerism.

In this, the nation's 1,100 enclosed shopping malls are temples to this national faith, with the 500-store Mall of America, in Bloomington, Minnesota, the faith's new Vatican, its shining food court on a hill.

With the consumerist religion flourishing as it is in America, it will take more than what we've seen from the subprime crisis so far to shake the foundations of the faith. A moral philosopher or theologian might question the value of the new creed to its believers' souls; then again, isn't the whole point of being a zombie that you've lost your soul?

Julian Delasantellis is a management consultant, private investor and educator in international business in the US state of Washington. He can be reached at juliandelasantellis@yahoo.com.