U.S. Economy: Banks won’t Lend, Consumers won’t Spend

Earlier this week, a pointed message from the White House told commercial banks and lending institutions to "stop hoarding money." It seems the Bush administration and U.S. lawmakers were a bit put off by the fact that banks just got some sweetheart legislation to help them out, as well as an infusion of cash and guarantees from the U.S. government, and then refused to use those benefits for their intended purpose. Namely, to put money into the hands of businesses and consumers who need to borrow money. Said Treasury Secretary Henry Paulson, "Our purpose is to increase confidence in our banks and increase the confidence of banks, so they will deploy – not hoard – their capital."

At the same time, it appears that U.S. consumers are so frightened of the national and global economic problems that they’re holding onto their cash tightly. This is an abrupt turnaround from the typical "spend now, pay later" mentality that drives the U.S. economy (as well as a number of consumers into insurmountable credit card debt). To illustrate the point of reduced consumer spending, a Commerce Department report release today showed that consumer spending actually shrank 0.3% in September, and was flat during July and August as consumers were in a "wait and see" mode with regard to the country’s financial situation. September decrease was the largest drop in the consumer spending figure since 2004 and the quarterly figure was the biggest drop in 28 years.

Along with consumer spending, the U.S. Gross Domestic Product (GDP) fell 0.3% for the third quarter, and economists have every expectation that it will fall again in the fourth quarter, meeting the true definition of recession (two consecutive quarter of declining GDP growth). Unlike with past recessions, this one would hit consumers harder than in the past, as most of the problems underscoring the GDP decreases revolved around falling home prices and tight credit markets. Bush administration officials and Ben Bernanke, chairman of the Federal Reserve, are attempting more options to help get the economy back on track, with a 0.5% Fed Funds rate cut coming earlier in the week by the Fed and the White House looking at more options to assist homeowners facing foreclosure. Summing up the situation, Lawrence Summers, a Treasury Secretary in the Clinton administration, said "I think it’s very, very important not to hold out the prospect of silver bullets that will correct these crises. I think one just has to be really careful and sober about recognizing there are very serious risks in the situation…and that the process of improvement will take time."