Davos - US Consumer - Weakest Link In World Economy

DAVOS US consumer ´weakest link´ in world economy - Morgan Stanley UDPATE
Wednesday, January 26, 2005 11:24:51 AM
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In a bearish assessment of global economic prospects for 2005, Roach told an introductory meeting of the World Economic Forum that rampant US consumption had been the main driver of the spectacular rates of growth achieved in 2004

However, with economies all around the world increasingly reliant on exporting their goods to the US, a moderation in US spending could have serious repercussions for the global economy

"For me, something just doesn't add up. The self indulgent American consumer ... is an accident waiting to happen," said Roach, a long-time pessimistic on the US economy

Rather than using the fruits of the increased economic activity, US consumers are funding their massive spending spree through borrowing against the inflated values of their homes. "We are in the early stages of a residential property price bubble in the US. Consumers know this and that is why they are turning their homes into a massive ATM machine," explained Roach

US consumers "suck money" out of their properties to fuel imports from Asia. In turn Asian countries buy US dollars, keeping interest rates low and allowing US householders to borrow even more, according to Roach

"This is an utterly insane way to run the world economy. You know that, we know that, but the Federal Reserve is in denial about that," he said

Roach suggested that the Federal Reserve had engineered the boom in the US property market as a means of bolstering the US economy. By stoking house prices through low borrowing costs, the Fed ensured that US consumption and, by extension economic growth, remained robust, he said. "The Fed knows it is culpable as the bubbleblowers in keeping this asset-driven US economy alive," he said. With US rates rising from the "unconscionably" levels of recent years, there will inevitably be a fall back in US property price inflation and hence consumer spending, explained Roach. "When the music stops ... and US rates go up we'll see how asset-dependent the US consumer has become," warned Roach

Jacob Frenkel, vice chairman of US insurance giant American International Group, said rampant US consumption was just one of the economic imbalances capable of wreaking havoc on the world economy. The massive trade deficit the world's largest economy is running could also stop global economic growth in its tracks

"The US current account is not a a problem for the US. It brings about risks for the world economy," he said. "I'm not concerned not because of the fact that there is no way to deal with it (the current account deficit) but because of the way it is not being dealt with," he said. He called on the newly elected US government to face up to the soaring budget and account deficits by introducing measures to encourage saving and discourage consumption

Frenkel, a former head of the Israeli Central Bank, urged representatives at a forthcoming G7 Meeting of Finance Ministers to address profligate US fiscal spending. "There must be debates on US policy measures. They must not just a focus on the dollar," as a remedy for the US trade deficit, said Frenkel
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