Submitted by Businomics Blog

Fears of the subprime mortgage crisis spreading into other credit markets prompt the question of whether our economy could operate without the volume of credit that we’re used to.

Our economy could be healthy with much less credit than is common now. Businesses could operate with greater equity and retain more earnings. Consumers could defer spending until they had saved enough money for their purchases. It could work. There would be a loss of efficiency, but not a total breakdown of the economy.

However, a sudden transition from our present, credit-heavy economy into a credit-light economy would be disastrous. Many companies have business models based on financing receivables, inventory and capital spending. They could adapt over time, but not suddenly. On the consumer side, today’s buyers use credit. If tomorrow’s would-be buyers need to save for first, then in the meantime no big-ticket consumer purchases are made.

This fear of credit markets tightening outside of housing is the reason that economists are increasingly fearful of a recession. I share that fear, but as a fear, not a forecast. At this point, there are few, if any, credit worthy businesses or consumers unable to get the non-real estate financing that they want. On the business side, lenders are very happy to make commercial and industrial loans. In fact, such loans help banks to diversify away from real estate. Consumers, too, are finding non-housing credit fairly easy to get. The volume of automobile sales on credit demonstrates that we have not had a general crackdown on credit availability.

Here’s how to be alert to the possibility of a credit-driven recession: watch for stories about credit worthy businesses and consumers not able to get the non-real estate credit that they would have had access to a year ago. If you start hearing many such stories, then batten down the hatches; a recession is coming.

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