Economic Numbers Don't Add Up

Is the economy getting better or not? If you look at the technical numbers (such as leading economic indicators), it is. If you look at what's driving those numbers, maybe not.

Why is this important to your retirement planning? Because overly optimistic assessments may cause you to take too much risk with your investments, slack-off in your savings, and neglect to keep paying down your debts. And those three things will derail your retirement plans. A healthy dose of skepticism can help keep you focused on your goals.

Let's look at a few economic numbers that may be inflating the health and sustainability of the recovery:

• About 9% of homeowners aren't paying their mortgages. Mark Zandi, an economist with Economy.com, estimates that this is creating about $60 billion of extra cash that consumers can spend on other things. Yet it can't continue forever. At some point, these individuals either have to pay a mortgage or rent, and that will eat up the extra cash. Defaulting on debts provides a short term spending boost, but not a long term solution.
• About 90% of all mortgages are financed by Fannie Mae and Freddie Mac. No private lender will touch the mortgage market. Why? Because if 9% of people aren't paying their mortgages, you can't lend them money at 5.5%. You would automatically lose money. Only the government can do that because it's prepared to bury the losses.
• Yet the government can't continue to support housing by underwriting hundreds of billions of dollars of loses for too much longer. The bailout for Fannie Mae and Freddie Mac already looks like it will exceed $400 billion. When the government has to stop funding losses, it's likely housing will suffer additional setbacks. Since the entire crisis started with housing, that's a concern.
• Consumer spending is up recently, yet wages aren't. Unfortunately, it looks like people are quickly going back to their old ways of spending just about every dollar they make. As the savings rate falls, it boosts consumer spending. But consumers can't fund economic growth forever by spending more than they earn. I don't know, maybe they can.
• Unemployment benefits can last up to a year and a half, and there are proposals to push it out to two years. This money is certainly necessary for those who receive it, and that extra cash is being spent in the economy. At some point, however, the unemployment benefits end, and that cash comes out of the economy. If there aren't more jobs, there won't be more spending. And the environment is not favorable for private business risk taking, which drives most job creation.
• And then we have the record increase in global government debt. Today, we have as much government debt as a percentage of GDP in the industrialized world as we did after World War II, when those debts were incurred to rebuild what the War destroyed. Yet this current debt is completely self-inflicted, and it's not being used to build much of anything. It's being used to pay debts we incurred from living beyond our means for the last 10 years.
• Governments will be forced to spend less over the next decade, and as that spending comes out of the economy, that gap needs to be filled by something. And right now there's not much out there to fill that multi-trillion dollar global deficit.

I would like the recovery to be fast and robust just like everyone else. But I find it hard to believe that a credit crisis that almost pushed us into a global depression can be solved so quickly. Although we have paid a high cost in terms of a two year recession, I expect there's still more to come, in one form or another. The hard part is that the problems can take years to surface, which often lulls people into a sense of complacency. Then they get the financial rug pulled out from underneath them.

Bottom line. Stay serious about how you're managing your personal finances. If the Fed's "Hail Mary" on the economy works, then great, it'll be easier on all of us. But if not, you should be prepared to handle the turmoil.

Learn More: Want to learn about a simple way to manage your personal finances and prepare for retirement, investigate my new book Your Money Ratios: 8 Simple Tools For Financial Security, available in bookstores and at amazon.com The Wall Street Journal called the book "one of the best finance books to cross our desks this year." WSJ 12/19/09.

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