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James Boyce

James Boyce

Posted: May 18, 2009 08:09 AM

The Darwin Depression: Where Are We Now?


Back in December, I wrote a post here called "The Darwin Depression" -- my basic premise being that the US economy, and in fact, the global economy was in the midst of the bursting of the largest asset bubble in world history, and as we returned to a level of financial sanity, it was going to be a long slow descent to a more normal standard of living.

This descent to normality means that we never will see assets, any assets, priced at the levels that we saw in 2005 and 2006 when the housing bubble and in turn the asset bubble it enhanced pushed the valuations of virtually everything we buy or touch to unsustainable levels.

The concept of "recovery" is one, therefore, that we must understand clearly as we move forward.

Will recovery mean that people will, once again, be able to rent summer houses in the Hamptons for $60,000 a month? No, of course not. As there has been lots of coverage of this small economic issue, let's look at this more closely.

Let's say a homeowner was used to getting $100,000 for a summer rental, and now is looking at only getting $50,000. Is that really a reduction of 50% or a return to a more normal level of sanity? I say the latter. But the economic impact of that drop is significant.

I have been told that some of the private schools in the Hamptons are seeing significant withdrawals for next year, why? Because the families that were sending the kids to the schools were paying the bills with the summer rental income, and now, no income.

Now, what happens to a private school that loses 35% of its 5th graders because of withdrawals? Well, that's a significant loss of income to the school, devastating perhaps in conjunction with the expected drop in fundraising and the value of the endowment.

Just as in the multiplier effect of money gains in an up cycle is enormous, so too is the depression multiplier in a down cycle. It's not that the homeowner is not getting the $50,000. It's the school is not getting paid, the landscape project is put off, a new car isn't bought, a vacation goes untaken. And so on.

Now, remember, $50,000 is a huge amount of money for a summer rental. Huge. It's just that it feels like a depression to those experiencing, but it's not.

We're seeing the same issue with all the stories of frugality spreading around. One of my favorites was from the Boston Globe talking about how, horrors, parents of graduating students from local universities were staying in the apartments of their children when attending graduation to save money.

Every set of parents doing that was probably taking $500 - $1,000 out of the local hotel economy, but, again, our parents and grandparents would not think anything of doing this and we shouldn't either.

Will it have an impact? Of course, but again I don't think it's a depression. It's just a return to how things should have always been.

From major league baseball, when older players demanding $5,000,000 a year to play are not being signed to starting salaries out of school for recent graduates that are falling fast, we are seeing a fundamental restructuring of the valuation of everything in our world.

How long will it take to get to the bottom? Well, again here's an interesting conundrum - what do we mean by the bottom? A bottom of the market is considered a buying opportunity because the market will go up from there.

The 'bottom' that people are so desperately searching for, in retail sales, in the housing market, is not really the bottom. It's the new reality, so as housing prices still have to fall 30% more, as boat sales slow to a normal level, as vacation patterns return to normal, as it all returns to normal, it will take years of Americans adjusting to the 'bottom.'

Growth off of that floor will be slow, and steady. But there will be growth.

Does this make me a pessimist? No. I don't think so. It's just the reality of a world gone deeply awry for the better part of a generation. It will take a long long time.

In the end, I am an optimist because I think the Darwin Depression will return America to some form of emotional and fiscal sanity. Who among us hasn't expressed frustration at the material culture we live in and are trying to raise our children in? Who hasn't been shocked at the prices of houses? Or watching young kids walk around with $200 cell phones? It's not normal and it was fueled by debt, enormous sums of debt, that were unsustainable.