For those thinking of traveling abroad this Labor Day weekend, the problems with subprime lending may serve to keep you grounded. The downturn in the US economy, mainly as a result of the housing recession will cause many people to change their minds about that vacation. But those that do venture abroad will find things a lot cheaper due to the recent appreciation in the US dollar.
The economic slump affects the prospective traveler in a number of ways (all negative). First, the housing recession has spread to other parts of the economy, depressing wages in a variety of sectors. If you are getting paid less, you have less money to spend on discretionary items like travel. Second, your purchasing power is tied to not only your income, but also your wealth. And the largest component of net worth for most Americans is the value of their home. What the subprime crisis (and the broader housing decline) has done is cause that value to depreciate, lowering your net worth and ability to spend money on foreign vacations.
Subprime problems will also prove detrimental to travel in more general ways. Going abroad on the Labor Day holiday is a luxury, and the ability to pay for that luxury requires certain things. We have discussed how American consumers have less real money to spend, but many times, vacation decisions are made on the basis of how we feel about our economic health. Consumer confidence in this country is at a multi-year low, partly due to so many people losing their homes in the subprime fiasco. And since consumer spending accounts for 2/3 of our economy, the low confidence is only likely to perpetuate itself, creating conditions where no one feels up to traveling.
Lastly, we have to consider that many people pay for vacations by borrowing money. The most direct effect of the subprime issue is the tightening of the credit market. Banks are so afraid to lose money on loans (or at least, some loans) that they have begun charging higher interest rates to cover their losses. Higher borrowing costs mean that last vacation before summer ends just got more expensive.
There is a silver lining to those that just have to show off those white clothes one last time. I said that banks have become gun-shy with loans; that feeling of fear is true with regard to investors and traders as well. Everyone wants to get out of risky investments in case everything blows up on them. And when fear pervades the marketplace, traders turn to the world’s safest investment: US Treasury bonds. People love buying the debt of the world’s largest economy because it is the world’s most liquid asset, and the US government will never (absolutely never) default on its debt obligation.
What does this mean for American travelers? Well, to buy US Treasury bonds, you need US dollars. As the demand for Treasuries increases, the value of the US dollar goes up. And that’s been the direction of the American currency for the past two weeks against all the other major currencies (Euro, Pound, Swiss Franc, etc.) except for the Japanese yen (a more complicated story). That means it’s cheaper to visit Europe, Australia or New Zealand than at any other time this summer. So if the housing slump hasn’t gotten you down, take advantage of the dollar strength while you still can and realize a discount on the last warm weather holiday of the year.