During the early years of this millennium, accommodative financing buoyed consumer spending and provided major support for the economic expansion that occurred following the 2001 recession and the Sept. 11 tragedy.
Unfortunately, the lax regulatory environment of this period led to abuses and excesses that resulted in the subprime mortgage crisis.
The subprime crisis was exacerbated by the extremely complicated system that was established to resell mortgages into the broader financial market (mortgage-backed securities).
These securities were intended to disperse risk so that more funds could be made available for mortgage lending. In the frenzy of the housing bubble, however, financial companies became highly leveraged so they could purchase more of these supposedly lucrative securities, thus making themselves extremely vulnerable to collapse when the bubble burst and foreclosures soared.
Ultimately, the crisis decimated not just the housing market, but the financial industry along with it.
By October 2008, the financial market had fallen into the worst turmoil since the Great Depression. The government was forced to take over lending giants Fannie Mae and Freddie Mac to ensure their continued operation.
Soon thereafter, the Fed provided insurance giant AIG with an $85 billion loan to prevent it from going under (because it would have taken many main street firms along with it).
When these measures failed to calm the financial markets, Treasury Secretary Henry Paulson and Fed Chairman Ben Bernanke proposed a $700 billion bailout of the entire financial system that would remove all bad debt from the banking system's books to allow a fresh start.
While the final bailout legislation is more conservative and less sweeping, hope remains that this compromise will succeed where earlier measures failed.
This program should allow the financial system to achieve firmer financial footing, although getting there will take considerable time given the complexity of the problem.
A process is being created in which the government will purchase mortgages and mortgage-backed securities from troubled financial firms.
However, establishing the proper price for these assets will be complicated. This will involve a "reverse auction," in which the sellers compete against one another to sell their securities to the U.S. Treasury lowest price wins, although the hope is that prices will remain high enough to ensure the continued financial stability of the sellers.
Unfortunately, this process won't immediately have a positive impact on financial markets or lending standards. Instead, it will likely be several quarters, and perhaps a full year, before conditions stabilize enough to encourage a sufficient increase in lending to jump-start the economy.
In the meantime, the U.S. economy is in for a very rough period. From the fourth quarter of 2008 at least through the middle of next year, the economy will grow very slowly and will probably decline in one or more of these quarters.
Businesses are likely to lay off employees, consumers will rein in spending and even exports will see little growth as U.S. problems spill over to the world's other economies. Bottom line: There will be very little support for economic growth.
By late 2009 and 2010, after the capital positions of banks have shown improvement, the economy will begin to grow again. At that point, the pent-up demand from this weak period will encourage the pace of economic growth to pick up very strongly.
For furniture manufacturers and all of the nation's main street firms it's just a matter of remaining solvent until that happens.
Chart 1: The lax regulatory environment following the 2001 recession led to abuses and excesses that resulted in the subprime mortgage crisis.
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