A Dangerous Parallel to the Great Depression Points to a Weaker Economy in 2006

The U.S. savings rate has turned negative, meaning Americans are spending more than they earn for the first time since the Great Depression. That’s no coincidence, warns a best-selling author, and it’s a clear sign that the economy could be weaker than expected in 2006.

According to data released by the U.S. Bureau of Economic Analysis, the personal savings rate – a tally of Americans’ unspent income – was a negative 0.2 percent in November. In all, Americans spent $39 billion more than they earned.

“There’s only one way to do that,” says Addison Wiggin, NY Times best- selling author of Empire of Debt: The Rise of an Epic Financial Crisis. “By going deeper into debt.”

Wiggin says that most of the borrowed money has come from homeowners drawing on their home equity as a source of cash. And while that money has helped boost the economy – the U.S.’s output of goods and services grew at an attractive 4.3 percent in the third quarter of 2005 – Wiggin warns the trend will be short-lived.

“People think they are getting richer because they have money to spend – but it’s really borrowed money. What really makes a person, or a nation, rich is not spending – it’s saving.”

It’s a lesson many investors may learn the hard way, Wiggin says.

“If house prices fall, or flatten out, the cycle of refinancing that has allowed consumers to borrow and spend will be broken. Once that happens, homeowners will have no choice but to slow their consumption.”

The effect on the economy could be dramatic. “In the United States, household consumption is 71 percent of GDP. So if consumption dries up, the rest of the economy will follow suit. It just gets worse when you consider that Americans are so deeply in debt and don’t have savings to fall back on.”

While Wiggin doesn’t know exactly how much longer Americans can continue the cycle of spending more than they earn, he predicts that consumers will be tightening their purse strings in the near future.

“This rate of consumer spending is unsustainable,” he says. “And a weaker economy in 2006 is a very grim possibility.”

For more from Addison Wiggin, see http://www.dailyreckoning.com.