Our $1.3 Trillion Government-Assisted Student Loan Crisis by Gary D. Halbert

FORECASTS & TRENDS E-LETTER
by Gary D. Halbert

June 2, 2015

IN THIS ISSUE:

  1. US 1Q GDP Revised to Negative Territory as Expected
  2. The Controversy Over the Government’s 1Q GDP Reports
  3. Could the US be Headed for a New Recession?
  4. Student Loan Debt at Record High – How Did This Happen?
  5. Student Debt is Ruining Credit Scores & Bad for the Economy
  6. Is Record Student Loan Debt Really a Crisis?

Overview

I have been wanting to address our exploding student loan crisis for over a year now, but the topic didn’t seem to fit into the normal themes I tackle. Yet in fact, it does: It represents just one more financial/debt crisis facing our country that will surely impact the economy and the investment markets at some point.

Student loan debt in the US topped $1 trillion in 2012 and by most estimates is over $1.3 trillion today. There are several reasons why student loan debt has skyrocketed – the disappointing economy, stagnant wages and the fact that more young adults have been staying in (or going back to) college longer rather than accepting low-paying or part-time jobs. Add to that the fact that college tuition has gone up significantly every year.

What many Americans don’t know is that the federal government has largely taken over the student loan program since the current occupant of the White House has been in office. In so doing, the standards for qualifying for student loans have dropped significantly. As a result, even more people are getting student loans and becoming more dependent on the government – by design.

But before we get into that lively discussion, let’s take a look at last Friday’s GDP report which reduced 1Q economic growth from modestly higher in the initial report at the end of April to decidedly negative (-0.7%) in the latest revision. We will also look at the latest controversy over whether the government’s estimates of 1Q GDP in recent years have been understated.

Because the second estimate of 1Q GDP was decidedly negative, that has forecasters swiftly downgrading their estimates for 2Q GDP growth. We will round-out today’s economic discussion with a question I raised last month: Could the US economy already be moving into a new recession? While I doubt it, we should at least think about it. Let’s get started.

US 1Q GDP Revised to Negative Territory as Expected

The US economy shrank at an annualized pace of -0.7% in the first three months of the year, according to government data released Friday morning – a tumble for a recovering economy that until recently seemed poised for takeoff. The Commerce Department initially reported a slight gain of 0.2% in late April, but the consensus for the second estimate was -0.8%.

A larger trade deficit and a smaller accumulation of inventories by businesses than previously thought accounted for much of the downward revision. There was also a modest downward revision to consumer spending growth.

In the 1Q, consumer spending rose only at a 1.8% clip, down from 1.9% in the initial report. The increase in spending was well below the 2.4% average since the US recovery firmly took root in 2010. Unless consumers spend more, the economy is unlikely to grow much faster in light of new headwinds such as a strong dollar and ongoing weakness in business investment.

The 1Q contraction, the country’s third in the aftermath of the Great Recession, provides a troubling picture of an economy that many figured would get a lift from cheap oil, rapid hiring and growing consumer confidence. Instead, consumers have proved cautious, and oil companies have frozen investment – all while a nasty winter caused havoc for transportation and construction, and the stronger dollar widened the trade deficit.

Student Loan Crisis

Though the US has shaken off nasty quarters in the past, including the 1Q of last year, this time the rebound doesn’t appear to be so dramatic. Over halfway through the second quarter, economists say growth again appears to be below expectations. Previously, many analysts expected 2Q growth of 3% or more, but are now paring those forecasts back to around 2%, or even less in some cases in light of last Friday’s downward revision for the 1Q. If the 2Q is 2% or less, that would leave the US with its worst first-half performance since 2011.

The downward revision to GDP was not the only bad news in the report. Corporate profits plunged by the most since 2008. Adjusted pretax corporate profits fell 5.9% in the 1Q after falling by 1.4% in the 4Q of last year. Profits have not declined for two months in a row since the middle of the 2007-2009 recession.

The Controversy Over the Government’s 1Q GDP Reports

Many analysts have long suspected problems with the government’s method of “seasonal adjustments” in its GDP reports, especially in light of chronically weak first quarters. Notables such as Federal Reserve Vice-Chairman Stanley Fischer and former Reagan economic adviser Martin Feldstein have recently asserted that GDP is less useful as a short-term economic indicator – especially with regard to its 1Q estimates which have been consistently low in recent years.

The problems with the government’s 1Q GDP estimates have been particularly acute since the US exited the recession in mid-2009. From 2010 to 2014, GDP has grown an average of just 0.6% in the 1Q, compared with almost 3% in the following three quarters.

Student Loan Crisis

Now we have yet another 1Q GDP disappointment in addition to those shown in the chart above. The Commerce Department has acknowledged that there may be flaws in the way they seasonally adjust the GDP numbers, in particular the 1Q estimates.

Seasonal adjustments, done correctly, are supposed to smooth-out such large swings from one quarter to the next. The underlying pace of annual US growth might not change, but it should show less unpredictability.

Mindful of the criticism, the US Bureau of Economic Analysis – which produces the actual GDP numbers for the Commerce Department – recently acknowledged flaws in its approach to estimating GDP and said that changes will be made which could lead to multi-year adjustments of 1Q GDP this summer.

In the meantime, market forecasters are paying closer attention to a recently created tool from the Atlanta Federal Reserve Bank called “GDPNow, which it says gives a better sense of how fast the economy is actually growing. The current GDPNow estimate for 2Q growth is only 0.8% versus around 2% for most forecasters, as noted above.

Could The US be Headed for a New Recession?

I mentioned this possibility in my May 19 E-Letter. A recession is defined as two or more consecutive quarters of negative economic growth, as measured by GDP. With last Friday’s report, we know that 1Q growth was negative. And just above, I noted that the Atlanta Fed’s GDPNow estimates 2Q growth of just 0.8%. What if that number is too optimistic?

The point is that if 2Q GDP growth should fall into negative territory, a new recession will have begun. Let me be clear: I’m not predicting this will happen; I mention it only as a possibility. Should it happen, it would

1, 23  - View Full Page