ACADEMIC ASSETS

The Financial Crisis for Smarties

It is particularly urgent now for academics to attend to their savings and spending

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By PROFESSOR PENNYWISE

The year 2008 is ending in financial volatility and economic gloom. Is it possible to imagine any worse — or shall I say better — moment to launch a personal finance column for those in higher education? "Academic Assets" will be precisely that: a monthly column on financial issues facing faculty members, administrators, staff workers, and graduate students.

It is particularly urgent now to attend to your financial life. Let me use this introductory column to explain why. The general economic picture is bleak. Increase your savings rate now — and deploy the surplus more shrewdly — and you may sleep better at night while having an adequate cushion should the unthinkable happen.

An introduction: I have a Ph.D. — not in economics, though my scholarship speaks, in part, to the history of economic thought. On a modest academic salary, I was for many years sole provider for a family of five, until my spouse recently was hired as a university staffer. Along the way, I taught myself how to stretch a dollar, plan for retirement, conquer debt, meet health-crisis expenditures, and save for the kids' college, while developing an ever-deepening skepticism about the financial industry. The perspective I draw upon, then, is that of an academic who has made ends meet.

Pennywise hopes to help you avoid pound foolishness.

Let me recapitulate the past year's financial crisis. Those of you reading this in the comp-lit lounge, have no fear: I'm not going to go all technical-microeconomic on you. We don't need to spell out credit-default swaps, mortgage-backed securities, or derivatives — although we would have to do exactly that if we sought to fully comprehend the crisis. Of concern here are the outward manifestations. In what ways are this year's developments unusually scary?

First Bear Stearns, a major investment bank, collapsed. The largest mortgage-holding institutions in the nation, Fannie Mae and Freddie Mac, were placed under federal control. Then Lehman Brothers crashed, splattering all over the pavement. IndyMac, Wachovia, Washington Mutual, and Merrill Lynch either collapsed or were sold off at steep discounts. Merrill Lynch!

Cascading bank failures are ominous. To intuit that, you do not even need to know what investment bankers do besides wear Brooks Brothers suits and sip sublime scotch — much, much better whiskey than the discount brand Professor Duffer mixes with sours at the anthro department's New Year's Eve party.

Think how you would feel had you owned Lehman Brothers stock, worth more than $80 a share last year, and now worth precisely four cents. True, few academics have a portfolio of individual stocks, so instead imagine how you would feel if your savings account was with WaMu.

Actually, not so bad. Not a single savings-account holder has lost a penny in this crisis. The institutions that failed are mostly being absorbed by others. The imprimatur of the Federal Deposit Insurance Corporation, or FDIC, has prevented average savers from making bank runs.

Things are not going well, though. Imploding along with all the banks was the largest insurance company in the world, American International Group. Credit markets froze, meaning banks refused to lend to one another for fear that the borrowing institution might go under and not return the money. As a result, Congress was compelled to initiate a $700-billion bailout (aka "rescue package"). After years of telling us that the self-regulating, self-correcting free market is rational and must be left pristine, a panicky Wall Street raced straight to the government trough. The most conservative administration in American history wound up nationalizing, at least partially, a series of major financial institutions. Such are the paradoxes of history.

But I digress. Since we are not getting technical, I will neither blame the subprime crisis on predatory lenders nor mutter about Clinton-era deregulatory repeal of the Glass-Steagall Act nor insist that the rescue package is a form of state capitalism, not socialism, despite all the fulmination on talk radio.

My point is this: Economic cycles are normal. This is not normal. This is a crisis of the system itself.

Furthermore, this crisis is international. The British bank Northern Rock failed before all the American dominoes began to fall. Iceland, an entire government, has defaulted; Hungary and others teeter now on the brink. In China, 67,000 factories were closed in the first half of this year alone. Trillions and trillions of dollars of asset value have been wiped out in international markets. One bubble after another has burst. Virtually every asset class — homes, equities, commodities — has deflated. As I write, the major American stock indices have fallen by about 40 percent for the year and world stock values by more than half, according to Bloomberg data.

The global rescue packages have yet to restore liquidity. Credit markets remain constricted even though the FDIC has stepped in to insure interbank loans. Some banks spent rescue funds to acquire other banks.

It is frighteningly easy to imagine this crisis spinning out of control. During the Great Depression, equity values fell by upward of 80 percent, so we could still have another 50-percent decline to go, below present equity levels, if it were to get that bad. General Motors, Ford, and Chrysler are almost bankrupt. Michigan may be the next Iceland. Unemployment is rising. Consumer confidence has imploded. A deflationary spiral may be under way.

One thing seems certain: We are in for a sharp, prolonged recession. Another thing seems more possible than ever in recent memory: A worldwide depression may be unfolding. The economic contraction will likely be more severe than anything we've seen since the early 1980s, possibly the 1930s.

Yet nobody knows where this is heading. Don't let them tell you they do. After all, the major countries, scared out of their wits by the specter of another Great Depression, are injecting money into the global economy like there's no tomorrow. They are moving much more rapidly than they did after 1929. In the United States, if the new administration retools the rescue plan and initiates a series of confidence-restoring measures and fiscal stimuli, it may stabilize the markets. If that's so, this may actually be a buying opportunity for the lionhearted. However, the crisis may well prove stubborn. Two wars, the huge national debt, and projected shortfalls for Medicare and Social Security constrain fiscal options.

How will this affect academe?

Higher education is somewhat buffered from economic cycles, but this situation is completely new. Shrinking endowments are causing private institutions to scale back. Public universities will see state contributions tighten as entitlement expenses rise and tax revenues decline. Corporate and alumni donations will take a hit. Student enrollment might increase as frustrated job seekers look to add a credential, but enrollment may also fall as hard-pressed families find it harder to finance college. The likelihood is not just for belt tightening but for outright cuts.

Under the worst-case scenario — severe global depression — faculty lines will disappear, benefits and salaries shrink, and whole programs, and even institutuions, will vanish.

Scared? Keep an eye on what you can control. You cannot control the world economy. You cannot control your university's revenue streams. What you can control is your own saving and spending. If you become conscious of your own situation and plan wisely, if this crisis proves a catalyst for you to develop new smarts about your finances, you may actually position yourself well and derive lifelong benefit.

I will be by your side in this quest. In future columns, I'll begin to explain how to increase your savings rate and where to put your money in this uncertain, harrowing time. Until then, place your seat backs and tray tables in the upright position. We are almost surely in for further turbulence.

Professor Pennywise is the pseudonym of a professor in the humanities at a major public university in the Midwest who is merely a frugal academic, not a financial professional. Questions and suggestions for future columns may be sent to professorpennywise@yahoo.com.