A company’s credit rating is a lot like a person’s credit score. The better the score, the more easily—and cheaply—you can borrow money through the debt markets. The highest score a company can get is AAA. The lowest is D. And for many years, companies strove to get that AAA rating. It wasn’t just the key to low borrowing rates, it was also a sign of solidity and reliability. And it came with serious bragging rights.
Back in the 80s, there were dozens of AAA-rated companies. Today, though, there are just two. Microsoft and Johnson & Johnson. That’s it. Most other companies appear to have given up aiming for that AAA gold standard. They don’t see the point. In fact, many companies seem quite happy to get a BBB-, which is the lowest rating that many investment companies will tolerate, and just one notch above a ‘high-yield’ or ‘junk’ rating.
How can this be? How is it that corporations have gotten okay with letting themselves go like this? We talk with Moody’s Analytics Chief Capital Markets Economist John Lonski and Bloomberg Credit Reporter Claire Boston about what’s changed in the bond market and why companies are content to get a passing grade.
The decadelong economic expansion has showered the U.S. with staggering new wealth driven by a booming stock market and rising house prices.
But that windfall has passed by many Americans. The bottom half of all U.S. households, as measured by wealth, have only recently regained the wealth lost in the 2007-2009 recession and still have 32% less wealth, adjusted for inflation, than in 2003, according to recent Federal Reserve figures. The top 1% of households have more than twice as much as they did in 2003.
This points to a potentially worrisome side of the expansion, now the longest on record. If another recession comes, it could be devastating for people who have only just recovered from the last one.
Wealth, also called net worth, is the value of assets such as houses, savings and stocks minus debt such as mortgages and credit-card balances. Net worth is different from income, the cash a household receives each month such as wages, dividends and government benefits. It is common for countries to have a highly skewed wealth distribution. Nonetheless, in the U.S., wealth inequality has grown faster than income inequality in the past decade, making the current wealth gap the widest in the postwar period, according to a study by Moritz Kuhn, Moritz Schularick and Ulrike Steins, economists at the University of Bonn.
Behind this trend: More than 85% of the assets of the wealthiest 1% are in financial assets such as stocks, bonds or stakes in private companies. By contrast, slightly more than half of all assets owned by the bottom 50% of households comes from real estate, such as the family home. Economic and regulatory trends over the past decade have not only favored stock over housing wealth, but have also made it harder for the less affluent to even buy a home.
Since 2009, home prices have outpaced incomes, making it harder for families to purchase their first home.
Home prices have increased 41% since 2009
Percentage change in price of a starter home
Income has grown 8%
Percentage change in median income
Note: Adjusted for inflation
Sources: CoreLogic (home prices); Commerce Department (incomes)
Until the mid-2000s, the net worth of households across the wealth distribution increased at roughly the same pace, keeping inequality stable. That started to change when housing prices took off in the early 2000s. For the bottom 50%, rising home values were more than offset by mortgage debt, which almost doubled between 2003 and 2007. For the top 1%, debt was flat between those years. When the housing bubble burst, many less-affluent households saw housing wealth wiped out; some lost their homes altogether.
Today, the bottom half of American households aren’t carrying so much debt compared with the prerecession peak, after adjusting for inflation. And starting in 2012, a recovery in home prices has allowed their net worth to inch up. But house prices, adjusted for inflation, have yet to reach their 2006 peak, according to the S&P CoreLogic Case-Shiller index. Meanwhile, a decade of rising equity prices has buoyed the 1% wealthiest households, pushing the value of their financial assets up 72% since the recession, after adjusting for inflation.
Paying the Mortgage
The bottom 50% of households saw a much bigger rise in mortgage debt during the housing boom than wealthier households
Aggregate mortgage debt, in trillions ($)
Note: Figures shown in 2019 dollars
Source: Federal Reserve
Structural economic forces have affected the wealth of the rich and the lower-middle class differently. The Fed kept interest rates near zero and bought bonds in the years after the crisis to revive the economy, in the process amplifying the run-up in asset prices. “Who owns that stuff? Rich people,” said Karen Petrou, managing partner at Federal Financial Analytics.
Meanwhile, the share of families in the bottom half who own a home has fallen to about 37% in 2016, the latest year for which data are available, from 43% in 2007, according to the Fed. Homeownership among the entire population has crept up since 2016.
For those who lost a house during the recession or never had one, getting a toehold in homeownership has become more difficult. Partly because of regulations designed to prevent another crisis, banks have toughened credit standards and down-payment requirements, said Susan Wachter, a University of Pennsylvania economist. Had the looser, prerecession credit standards stayed, the proportion of Americans who own their home would have been 5.2 percentage points higher in 2010-2013, a study by Ms. Wachter and three co-authors estimates.
“If no shock is happening then everything is fine, but if a shock is happening you have a much more fragile economy,” said Mr. Kuhn.
How can lawmakers address the gap in household wealth, if at all? Join the conversation below.
Leticia Segura ’s house in the West Humboldt Park neighborhood of Chicago lost about half its value during the recession, she said. Today, it is worth about $250,000, still almost $30,000 short of its value in 2007, she said.
Ms. Segura and her husband, Jesus, almost lost the home to foreclosure during the crisis after Mr. Segura lost his job and the couple fell behind on mortgage payments. A government program helped the couple get current, but they remained underwater on their mortgage until just a few months ago, meaning they owed more than their home’s value.
Today, both have new jobs and Ms. Segura feels more comfortable financially. But the couple remains cautious. They have set aside some money to cover the mortgage for three or four months should disaster strike again. “After that we’d just have to pray,” she said.
This is how the Trump administration should be getting ready, if it could just admit the peril.The Trump administration, in its predictably weird way, is flailing because of the idea that a recession might someday strike. White House officials told The Washington Post this month that they hadn’t yet done anything to prepare for this eventuality. Then President Trump added that “we’re very far from a recession” and claimed that any talk of one was a media conspiracy to hurt his reelection prospects. But he also said he was considering a payroll tax cut to protect against the downturn he’d said wasn’t possible. The following day, he reversed himself: That move was now off the table.
Perhaps the president is right and the threat is not imminent; no one knows for sure when it will hit, but based on a broad range of indicators, the risks are rising. At least his aides now seem to be mulling the possibility that the U.S. economy may fall into a recession on their watch — and considering the actions they might take if it does. The smartest thing they could do is cancel Trump’s China tariffs. (Waging a trade war while fighting a downturn is like punching the economy in the face while treating its bruises.) But given Trump’s victory-at-any-cost attitude, and the joy he evidently takes in contradicting expert opinion on this matter, the tariffs will probably remain.
What, then, can the administration do to soften the blow, whenever it lands? When I was the chief economist to Vice President Joe Biden — the implementer in chief of the 2009 Recovery Act — my colleagues and I divided preparations for a downturn into three parts: diagnosis, prescription and politics.
First, the type of recession informs the response. A freeze-up of the credit system when a swath of home loans (and bets on those loans) goes bad requires a different answer than a downturn caused by disrupted global supply chains and collapsing business and consumer confidence. The magnitude of the problem matters, too. The $800 billion Recovery Act passed in 2009, for instance, would have been an excessive stimulus to treat the much milder 2001 recession.
It is too soon to accurately diagnose the cause or depth of the next recession, but there are some hints worth minding. There’s no obvious bubble in credit markets, and most banks appear less exposed to a 2008-style crisis. The bigger problem appears to be trade-sensitive sectors like manufacturing and farming (which have less access to export markets that buy their goods) along with the increasing insecurity of the business community, which is causing executives to halt the kind of investment in jobs and structures that stimulates growth. Business investment declined slightly last quarter, down 0.6 percent. One producer of ear buds and headphones told The Post this month, for instance, that he suspended hiring after Trump tweeted his intention to slap another round of tariffs on Chinese imports.
Second, the prescription is already somewhat baked-in. Our system has a set of “automatic stabilizers,” programs that, without any new legislation, ramp up to help economically vulnerable people when the market fails. Unemployment insurance, which is a joint federal/state program, and the Supplemental Nutrition Assistance Program (SNAP) are examples of services that answered needs during the last recession. One similar but overlooked tool is the tax code itself. Because it is still progressive (income tax rates rise with income), if your salary takes a big enough hit, you can be pushed into a lower bracket and thus pay less in taxes.
Yet these automatic responders can offset only the mildest of recessions, and actions by the Trump administration have weakened their effect even more. By reducing personal and corporate tax rates, the 2017 tax cut has dampened the stimulus inherent in the code, as tax expert Bill Gale has noted (a less-progressive code means smaller changes in liabilities as people move between income brackets). Also, Trump’s approval of work requirements for health care and various low-income programs have restricted the number of people eligible to use them. A good recession plan would help restore access to such programs for the people who suddenly need the most help. Another problem, not of Trump’s doing, is that 18 state unemployment insurance coffers — including in highly populated states like California, New York, Texas and Illinois — do not meet the minimum Labor Department standard for recession readiness.
In other words, the administration and Congress need to get to work on a package of temporary measures that would pick up where traditional unemployment insurance and SNAP leave off.
One such measure should be state fiscal relief. Unlike the federal government, states must balance their budgets, even in recessions, and their actions typically involve layoffs and higher charges (like college tuition hikes). In the last recession, fiscal relief to states worked well and garnered bipartisan support. Plus, it’s administratively straightforward: Congress can temporarily bump up federal matches to federal/state programs, like Medicaid. Lawmakers would also need to move speedily to send states money to supplement their unemployment insurance systems. In the last crisis, lawmakers dithered while people’s unemployment checks ran out. In 2010, I battled with Congress for an extension as the job market was just beginning to recover and as many as 7 million unemployment insurance recipients were at risk of losing benefits. In later rounds, such squabbling caused millions more unemployed people to lose checks that they later received retroactively, a big administrative hassle that could have been avoided with planning.
Another tool, one often preferred by Republicans (and the only one Trump has touted so far), is tax cuts. About one-fourth of the 2009 Recovery Act went to tax cuts, and they can be useful in terms of putting money in the pockets of people who need it. But such plans make sense only if they’re well-targeted and temporary. Giving a tax cut to rich people who don’t need it, even in a recession, is a waste. Because they’re not income-constrained in the first place, they won’t increase their spending, delivering no extra stimulus.
The Trump administration has already floated a few tax cuts in this context, though it’s not clear if these are serious proposals. One idea his team has mentioned — cutting capital gains taxes — is a good example of a cut that wouldn’t help. Because 86 percent of its benefits would go to the top 1 percent, whose average income is north of $2 million, this cut wouldn’t do anything to offset the downturn. It would also be a permanent change that would cost the Treasury at least $100 billion over 10 years.The third step in recession prep is political. Because lawmakers control the purse strings, it is impossible to fight recessions without congressional support. The administration must get to work now to line up votes on both sides of the aisle on behalf of an anti-recession package. That requires compromises of the kind we don’t see much anymore. I recall President Barack Obama’s team having to toss a Recovery Act program I strongly supported — refurbishing public schools — to get the crucial support of a Republican senator.
One potentially serious constraint is that, because of the deficit-financed tax cuts and spending bills under Trump, we’ll be entering the next recession with a debt-to-GDP ratio that’s more than twice the historical norm (about 80 percent vs. 30 percent). That will surely make some Republicans skittish about expensive stimulus plans. But an inadequate fiscal response to a recession is totally counterproductive, meting out economic pain for no gain. Temporary anti-recessionary measures don’t hurt our long-term fiscal outlook (research by budget analysts Kathy Ruffing and James R. Horney shows that as of 2014, Recovery Act measures were contributing almost nothing to deficits). It’s the more permanent ones — unpaid-for tax cuts and spending bills — that do.
You fix your roof when the sun shines, and you plan for recession while you’re still in recovery. No question, economic clouds are gathering. But the sky remains at least partly sunny. Now is the time to get ready.
The freeze-up in business confidence, caused in part by the trade war, could wind up affecting consumer confidence.
These three things are all true:
- The United States almost certainly isn’t in a recession right now.
- t may well avoid one for the foreseeable future.
- But the chances that the nation will fall into recession have increased sharply in the last two weeks.
That is the unmistakable message that global investors in the bond market are sending. Longer-term interest rates have plunged since the end of July — a shift that historically tends to predict slower growth, interest rate cuts from the Federal Reserve, and a heightened risk that the economy slips into outright contraction.
This is happening in an economy that, by most indicators, is solid. The United States economy is growing at a roughly 2 percent rate and keeps adding jobs at a healthy clip. There is no sign of the kind of huge, obvious bubbles that triggered the last two recessions, the equivalent of dot-com stocks in 2000 or housing in 2007.
So if there’s going to be a recession in 2020 — if the pessimistic signals in the financial markets prove correct — how would it happen? There are plenty of clues, in the details of recent economic reports, in signals from the markets, and in the recent history of recessions and near recessions.
“It is potentially a self-inflicted-wound type of recession,” said Tara Sinclair, an economist who studies business cycles at George Washington University. “But how deep that gash goes depends on many other characteristics of the economy and the policy response thereafter.”
There are parallels to the past. Often, a recession results when some widely held belief about the world turns out to be false. In 2001, it was that a technology boom would fuel the economy and the stock market indefinitely; in 2007, it was that the housing market would never melt down across all regions at once.
This time around, the belief in doubt is that the world will only become more stable and interconnected over time, and that trade, currency and diplomatic relationships can be counted upon.
Recessions result not just when something bad happens in the economy; bad things happen all the time. Recessions occur when those initial shocks are multiplied, in ways that reverberate worldwide. The dot-com crash was accentuated by the Sept. 11 terrorist attacks in 2001 and a rash of corporate scandals. The 2007 housing bust in the United States became a global financial crisis in 2008 only because banks worldwide took huge losses on mortgage debt.
The starting point for the international tensions that could lead to a recession in the United States is business investment spending, especially in the industrial sector. As corporate C.E.O.s look around the world and make their plans for investment and hiring in the year ahead, they aren’t liking what they see.
The economies in China and many of its Asian neighbors are getting weaker, partly as a result of the trade war with the United States. The European economy, which has muddled along for years with low growth, may be tumbling into a recession, and if Britain crashes out of the European Union with no exit deal on Oct. 31, Europe could face still deeper challenges.
Already, a key measure of business capital spending in the United States, “fixed nonresidential investment,” was in negative territory in the second quarter. And in the nation’s factories, the rate of growth has slowed for five consecutive months, according to the Institute for Supply Management’s index. Although this measure still showed growth, the July reading was the weakest since August 2016.
The trade war between China and the United States is a big part of the reason. The conflict has made it difficult for many global firms to plan their operations — and in some cases, it may lead them to sit on their hands rather than invest. The American strategy has been more successful at escalating trade tensions than in resolving them, so companies do not know whether tariffs will go away soon or will be a continuing cost of doing business.
“The president says we’re going to get a great deal and a great deal soon, but he’s been saying that for over a year,” said Phil Levy, a former trade official in the George W. Bush administration and a chief economist at Flexport, a freight forwarder that works with many companies involved in international trade. “You end up paralyzed. You have to make plans, but there is risk all over the place, so businesses get cautious and hold back on investment.”
It’s not just companies directly involved in trade with China that may see reason to hold back on investment. The turmoil in financial markets spurred by the trade war could make businesses of all sorts more cautious.
Still, if the downturn remains confined to business spending, it will be hard — just as a matter of arithmetic — for an overall contraction to result. Consumer spending accounts for more than two-thirds of the American economy, versus about 14 percent for business investment.
So far, American consumers are spending enthusiastically, driving overall growth. But there are a few ways the freeze-up in business confidence could change that.
Turbulence in global markets — and the news reports attached to that turbulence — could reduce consumer confidence, and lead Americans to pull back on their buying. The University of Michigan survey of consumer sentiment fell sharply in its August reading, announced Friday.
Or more directly, if businesses pull back on investment spending, they may also make moves that reduce consumers’ incomes, including layoffs, hiring freezes and cuts to overtime.
If that’s the worst of it — trade wars, slower business spending and weaker overseas economies — the United States could probably weather it without falling into contraction. But there are risks out there that could multiply those shocks.
One is the buildup of corporate debt. Businesses have taken on more debt in an era of low interest rates, which leaves them more vulnerable to failure if the economy were to soften or interest rates were to rise. A pullback because of trade wars could cause a wave of bankruptcies that turns a mild slowdown into something worse.
“A highly leveraged business sector could amplify any economic downturn as companies are forced to lay off workers and cut back on investments,” the Federal Reserve chair, Jerome Powell, said in a May speech.
But the biggest risk multiplier may come out of the policy world. In past recessions, the Fed had plenty of room to cut interest rates as a stimulus measure, and fiscal policymakers have been willing to pour money into weaker economies.
The Fed’s main target interest rate is just over 2 percent now,compared with 5.25 percent heading into the last recession in 2007. Other global central banks have even less wiggle room.
And a polarizing president and a divided Congress are unlikely to find much common ground in stimulating the economy. In early 2008, for example, as a recession took hold, the George W. Bush administration negotiated a $152 billion stimulus package with a Democratic Congress to try to lessen the damage.
It seems unlikely that President Trump, heading into a re-election battle, would find the same harmony with Democrats today.
“You could get a widespread fiscal response to a recession,” said Megan Greene, a senior fellow at Harvard’s Kennedy School. “That would be really nice, but I’d also like a unicorn for my birthday.”
International coordination would be even harder in the current geopolitical moment. In the fall of 2008, finance ministers and central bankers of the Group of 20 major economies released a joint statement pledging to work together to end the financial crisis. With many nations facing inward, it is hard to imagine that today.
How would a 2020 recession happen?
The trade wars and a breakdown in international economic diplomacy
- cause businesses around the world to pull back. This
- leads to further tumbles in markets and job losses, prompting American
- consumers to become more cautious. High
- corporate debt loads create a wave of bankruptcies. And
- central bank policy proves impotent, combined with fiscal policy that is nonexistent.Chances of a near-term recession are only about one in three, in the view of most forecasters. But if it does develop, the big question will be whether the usual tools to fight it are up to the task.