A year to begin again
Toolbox
Published: January 4, 2009
It's over.
In two words that's about the best thing I can say about 2008, a year that tested our financial patience and fortitude. We have faced a crisis of confidence not only in our nation's financial leadership but also the personal reality of being forced to weigh our own financial future after double-digit losses to our retirement savings.
So maybe what we wake up to each morning is not a Great Depression reincarnated but it sure is depressing and does not appear to be getting better. The media tends to rush to draw parallels between 1930 and today's challenging economic times but the truth is that we will not see unemployment at depression-like 20 percent levels and every other home on your block will not have a foreclosure sign on the front lawn by spring.
I prefer to think of our current economic environment as the Great Recession. (Remember you heard it here first!) Companies are "rightsizing" given the new economic truths and cutting prices to lash inventories that were clearly over the top. Consumers are no different, rightsizing their budgets in anticipation of the need to save more for retirement and planning for more bad news and possibly the loss of a job or a salary cut.
The price of oil has tumbled to its lowest level in 58 months mostly because demand has plummeted. I read the other day that the Oil Price Information Service estimates we are paying about a "billion dollars per day less than we were in July" for gasoline.
We are in the midst of extreme deflationary environment and we need to fight that deflation before it gets so bad that we spiral into the capital D word. Not to get on the parallel bandwagon, but the Consumer Price Index fell by 1 percent in October which was the greatest monthly price decline since, you guessed it, 1930.
It would seem that we should all be jumping for joy that gas prices are declining, sales at the mall abound and the consumer is in the driver's seat. But deflation is not a good thing. Why is deflation so bad and what effect does it have on your financial future?
Deflation's effect on our financial markets can be lasting and difficult to recover from. When real estate prices deflate as they are now and loans backing them decline in tow, this causes loan losses to rise and dry up new lending as banks just don't want to take more chances. This trickles down to all loans and soon new businesses that have great promise can't get money.
Your spending habits this holiday season are probably a good example of the downside of deflation. I know mine were. Did you put off buying something in November thinking that if you just waited a few weeks, the price would go down and you could pick up a bargain? When we all do this, consumers (who drive the economy) slow it down and cause prices to fall further which exacerbates the downward pressure even more.
In this environment, it's important to pay down debt as much as possible. The higher your debt, the more you are forced to pay with what will be a dwindling supply of future dollars.
In the months to come, we are going to see the government take steps to curb deflation by printing money and infusing cash into the economy. That's why the Fed is cutting interest rates, the government is propping up big business and Obama is talking about massive infrastructure programs.
There is a downside to curbing deflation and that's the other evil nemesis to our hard earned dollars, inflation. Inflation erodes purchasing power and can destroy the future value of your investments.
In 2009, our nation's leaders are going to need to find a balance between growing the economy, restoring confidence in our monetary system at all levels but not letting the infusion of cash get out of hand. In the long run, it would be better for our economy if gas prices were steady and the CPI rose slightly by a few percentage points a year. Slow and steady builds wealth and gives comfort to businesses and consumers.
This year is over and 2009 is a blank page waiting to be written. A few smart moves could be the start of a best seller.
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