Selloffs Suggest a Looming Credit Crunch

Because they offer a lower interest rate, at least initially, compared with a fixed-rate mortgage. In other words, to save a few bucks now, borrowers are taking on more interest rate risk just as interest rates are going against them. That shows just how unaffordable mortgages are right now to most people, and second, it shows that the blind speculative fervor of the last eight years is still a force to be reckoned with.

Considering the low level of interest rates, there hasn't been marked improvements in the health of the credit industry so far this year. Indeed, there are signs of stress. The large credit card lender MBNA (KRB Quote) missed the market's first-quarter earnings forecast because its borrowers are paying down loans more quickly than expected. Again, that shows that borrowers are balking at higher rates, but it also shows two other worrying trends. First, other credit card companies are likely charging lower rates than MBNA and taking away business. But that's foolishness, not competitiveness, at this point in the credit cycle. This is not the time to be taking share by driving down rates.

Second, it suggests that the borrowers are still borrowing on their homes' equity to pay down more expensive credit card debt. But when house prices cool off in the very near future, the luxury of cheap home-secured credit won't exist.

Given how sensitive the credit market is to changes in rates, there doesn't have to be a big catalyst to floor the U.S. economy. The Fed will of course try to forestall the inevitable by pushing the theory that the economy can grow its way out of its overleveraged state. But the only way the Fed thinks the economy can sustain its growth is by keeping rates low. What that does, however, is blow more air into the credit bubble, making the ultimate crunch much worse.

When the history books get written, the corporate crooks of the '90s will have a certain lasting notoriety -- and deservedly so. But the villain of our era will most certainly be the man who created and then sustained the biggest bubble the U.S. economy has ever had to deal with -- Detox's old friend, Fed Chairman Alan Greenspan.