Chuck Ponzi July 28th, 2008
For anyone interested in why interest rates on property are still going up, here’s a great chart courtesy of Paul Krugman’s Opinion column today:
I’m predicting whatever lift we saw this summer from decent rates (muting the crash underway), will disappear and the next leg down of prices will continue. This dead cat bounce is dead!
I will be officially revising my 2008 Socal Real Estate estimates based on recent action.
Chuck Ponzi July 7th, 2008
Anyone who hasn’t seen the charts for Freddie Mac (FRE) should really take a look at them. This is definitely a crash in the making. As of this writing, FRE is down 22% today on news that FRE and FNM CDSs have widened 10BPS. That is quite an increase.
The funny thing is, I remember less than a year ago, discussions about how Freddie Mac and Fannie Mae were well capitalized, preeminently prepared for any disaster, and frankly, as unsinkable as the Titanic. Little good that has done. We may be witnessing a historic crash of epic proportions, greater by far than the crash we have seen to date. To put it in perspective, FRE and FNM have pretty much been the only thing that have kept the real estate market together in the US over the past year.
Consider for a moment this statement regarding the mortgage insurance statistics from the GSEs.
There are more hard numbers available to support MI’s recent surge. MICA, the trade association representing the private mortgage insurance industry, began reporting rising volume monthly after February 2007. For example, mortgage insurers wrote 190 percent more business this year, through April, than in the comparable period of 2006, when subprime/Alt-A were in their heyday.
To put that sort of gain into proper context, consider that even GSE production is only up 160 percent — and they are doing an estimated 80 percent of all new mortgage lending. By inference, MI providers have made huge gains in market share.
Let that sink in for a moment: GSEs are doing an estimated EIGHTY PERCENT of all mortgage lending, up 160 percent. IN AN ACTIVELY FALLING MARKET. Any implied “worst case scenario” imagined last year of the US government bailing out the grossly irresponsible GSE lending facilities is quickly not only becoming a reality, but would represent a necessity unless the entire lending business in the US becomes STATE OWNED.
State owned lending?
Is that such a bad idea? I mean, we pretty much have so many controls that we expend an enormous amount of government money in oversight, what’s so wrong with giving the federal government the right to nationalize the largest lenders as they fail?
I’ll write the next part only partially tongue in cheek.
Lending is perhaps one of the great debatable rights of Americans in the 21st century. We have become so conditioned by its availability to believe that it is owed to us. We need it, we want it, we should have it. If we want to create our own financial ruin, and by extension the country’s entire financial ruin, we should be able to do so. It is our right as Americans. By this rationale, we should allow all Americans the right to open access to low-cost lending much like clean air, clean water, food and drugs free of harmful contaminants, and an interstate transportation system.
For example, if free enterprise were required to finance our transportation systems, we would be required to pay for every trip we consume on local and long-distance roads. This is where economics has a hard time playing the role of moral coach, because, frankly, Economics is concerned with the free market and the most efficient method of delivering the utility people desire. Governments have typically only concerned themselves with PUBLIC NEEDS. Therefore, the big question is, is real estate lending a PUBLIC NEED?
I am certain that many could make the argument for and against, but perhaps the question needs to be viewed in a longer timeframe. Is lending STABILITY more important as an ongoing public need to ensure the ability to liquidate lending and homes in an orderly manner? What controls and insurances should the government provide? How should the government handle lending standards and manipulation? Could there be a cross-control against lying using collaboration with the IRS? What kinds of manipulations would this open up the home lending business to? Would the government “crowd out” any potential competitors and therefore stifle competition? Has the current role of home lending harmed the public more than it has helped?
In any case, the general public perception is that home lenders have harmed America, and therefore must be harshly dealt with. I don’t agree with that. I personally believe that the problems is on its way to being fixed by the free market, and frankly I’m not happy with the directors of the GSEs getting away with fat pensions, stock options, and the like while the public swallows the bad debt. On the other hand, it would end, once and for all, the deceptive practices and level the playing field by nationalizing lending. Frankly put, the government could recapitalize easier than a private entity or a stock-owned entity.
I have to say that I oscillate between incensed outrage and cold acceptance of the reality. There is no simple answer to that. Lending has changed forever (hopefully).
Chuck Ponzi June 21st, 2008
If you’re not in the know on the recent bailout news, there are 3 main points to be aware of:
1. It seems that Bank of America essentially wrote the Dodd Bailout Bill along with Countrywide (merger expected soon). They have probably the most to gain with a generous bailout bill. It helps noone since it doesn’t resolve the fundamental problem of affordability in house, in fact it makes the problem worse. Ever wonder why the 90’s in Japan were referred to as the “lost decade”? It’s because their banking system did the same thing we’re trying to do here. Anyone else see the problem with not punishing gambling banks and housing speculators?
2. The “Subprime Six” were a group of lawmakers given special treatment in exchange for what? What exactly did Senator Dodd besides favorable treatment in his housing financing? What else could be lurking in his past? If you haven’t read about the “Subprime Six”, follow the link. Investor Business Daily, the Wall Street Journal, and the LA times have picked up the story. It’s a story of insider grift and political pandering. If it weren’t so real and true, it might remind me of one of my favorite film lines:
Stuart: Well, it’s a well-known fact, Sunny Jim, that there’s a secret society of the five wealthiest people in the world, known as “The Pentavret.” Who run everything in the world, including the newspapers, and meet tri-annually at a secret country mansion in Colorado known as “The Meadows.”
Tony: So, who’s in this “Pentavret?”
Stuart: The Queen, the Vatican, the Gettys, the Rothschilds, and Colonel Sanders before he went tits up. Oooh, I hated the Colonel, with his wee beady eyes and that smug look on his face. “Oooh you’re gonna buy my chicken, oooh…”
Charlie: Dad? How can you hate the Colonel?
Stuart: Because he puts an addictive chemical in his chicken that makes you crave it fortnightly, smartass.
3. For all of the crap that our President Bush gets, at least he has the foresight to threaten a veto to said bill. There should be no bailout, not just because it’s not fair and would embolden speculators, but because it’s destined to put our banking system in jeapordy for the forseeable future with taxpayers footing the bill. It’s generally understood that this bill has to be done and voted on by July 4th if it is to carry. Any senator that signs this (if it passes) is hopefully going to be thoroughly trounced in the upcoming elections. This is not only unreasonable, it’s unamerican. This place is going to hell in a handbasket. If something like that goes through, I’ll be posting a list of every person that voted for it and their political affiliation here as a feature story.
So, what do I recommend? I’d say get a year’s worth of food and 6 month’s worth of remaining expenses together, if our politicians have any say in it, this is going to be one whopper of a crash and accompanying recession. On the lighter side of things, our grandchildren will be still paying so that people like this can “keep” their homes (and by homes, I mean plural, because, isn’t every good American not just entitled, but guaranteed to own more than one house?).
Chuck Ponzi April 1st, 2008
Hard to believe this crappy site has lasted a whole 3 years. I was one of the first, and thank god, finally, I was exonerated as a non-insane person.
Makes me so proud.
Chuck Ponzi February 26th, 2008
Sometimes it just tickles the funny bone.
And, a flashback is always great. Someday, we will see this as an example of how wrong people too close to it can call it:
So Subprime Blows Up; So What, Says Cramer
Chuck Ponzi October 28th, 2007
I have to admit, one of my guilty pleasures is both listening to Peter Schiff and following his advice. His theories have given my portfolio a great push forward. This is a great example of taking on the domestic bull in relationship to our declining dollar. There will be a time to buy USD again, but that time is not now.
I believe a lot of that timing will come from Bernanke’s will to crush the housing bubble. If he doesn’t, it’ll be a long time before we can get well again. We need to take the tough medicine.
Chuck Ponzi October 8th, 2007
Some longer time readers will remember a post that I made back in April of this year titled “Chuck Ponzi’s Law of Unintended Consequences“. That post detailed the bail-out idea du jour… foreclosure moratoriums.
I always enjoy a discussion of how the mortgage mess that we find ourselves in can be “fixed” by using nontraditional methods. For each of the parties arguing the solution, it often involves directly benefitting them, while the cost is to be borne by another group… “the marks”.
Mike Shedlock’s analysis of the CRL (Center for Responsible Lending) and FDIC’s proposed solutions is particluarly interesting. His post is properly titled “The Debt Slave Act of 2005 Revisted“, which makes perfect sense considering how consumers have effectively been cut off from the one chance to make a clean break after devastating financial problems. Instead, the newer law attempts to weed out deadbeat habitual spendthrifts from performing frequent and repeated filings to wipe the board clean every few years. Instead, it has made it difficult enough to file bankruptcy that there is little to no possible way out. In addition, with pledges to repay, many become debt slaves to past problems, unable to leave them in the past.
Don’t get me wrong, I’m definitely for personal responsibility in life, perhaps even too much; but the law as it currently stands puts a burden on already destitute people. It has served to benefit lenders most of all. So, it is with some twisted satisfaction that I read what Mish has to say on the matter… all of with which I agree.
First, he quotes a CNN Money article (shortened excerpt)
One consumer group estimates that 600,000 foreclosures could be avoided over the next two years by making a simple change to the bankruptcy code.
The Center for Responsible Lending (CRL) calls it a tweak, but it could be a significant change for homeowners and the market for mortgage-backed securities.
CRL’s proposal - reflected in a House bill recently introduced - would make changes to the regulations for Chapter 13 bankruptcies, which don’t wipe out debts, but rather establish a repayment plan.Under current law, when a person files for Ch. 13 bankruptcy, judges cannot reduce mortgage debt owed on a person’s primary residence, although they may modify mortgages on investment property or second homes.
Under the House bill, the bankruptcy judge would have the option of reducing what the homeowner owes the lender. Say a homeowner’s property is worth less than what he owes. The judge could reduce the principal to match the home’s current market value as well as reduce the loan’s interest rate.
Mish also quotes the FDIC’s proposal:
The heat on U.S. mortgage lenders and servicers was turned up a few degrees this week when the country’s chief bank regulator publicly proposed that they permanently freeze interest rates on subprime adjustable-rate mortgages (ARMs) for many homeowners.
“Keep it at the starter rate. Convert it into a fixed rate. Make it permanent. And get on with it,” Federal Deposit Insurance Corp. Chairman Sheila Bair said in prepared remarks at an investor’s conference.
That solution is nearly as bizarre.
Now, before too many of my readers go off on rants considering how this is supremely unfair… consider 2 things: first, if balances on loans can be decided in a court and lowered as a judge feels inclined, how many banks will want to loan money, and secondly consider what Mish has to say regarding “fixing” the ARMs:
It should not take a genius to figure out that if ARMs rates are “frozen” at a point where the market does not think rates should be, there simply will be no more ARMs offered. Furthermore, to cover the cost of existing ARMS, prices would rise on new fixed rate mortgages. Oddly enough, price fixing ARMs would not even help the person most at risk because that person cannot afford the teaser rate, let alone the cost of a current ARMS rate. Thus price fixing ARMs is a sure fired guaranteed way to cause a continued weakness in home prices, if not an actual out and out crash.
Which reminds me of the original Chuck Ponzi Law of Unintended Consequences:
If there is any chance that someone can get bailed out by someone else, they will, and you will have to pay for it from your own pocket.
Now, I’m considering that I have to add that while you may need to pay for it, anything other than letting the market deal with it efficiently will likely crash it anyway. In the end, it is the same thing that my first Econ professor in college always said was the #1 rule of economics: TNSTAAFL “There’s No Such Thing As A Free Lunch”. No such thing.
I am willing to bet that any artificial means of attempting to “solve” the problem will only make it worse, both for the person they are trying to help, and the overall group of people. The only people helped by the above solutions are those who have ALL of the following:
This way, only the most qualified can purchase. At current prices, there are likely only 1 to 2% of the people in the entire Southern California region who could fit this bill for an average home. And, frankly, there is no way these people will live in an “average” SoCal home. Imposing the suggested “solutions” will only serve to do three things:
The deeper the credit crunch, the harder and farther housing prices will have to fall to meet demand. The harder and further prices fall, the more likely that good paying homeowners will walk away from an underwater mortgage. More foreclosures dropping prices and deeper credit crunch will turn off MEW (Mortgage Equity Withdrawals) which is what has been keeping the consumer (along with their credit cards) in clothes, vacations, and Plasma TV’s. A crumbled consumer is a crumbled economy.
When the service on debt becomes more than the income, defaults are certain. Since US wages have been in real decline (against inflation), and the US dollar in severe decline, the loss of purchasing power has become an unbelievable crush. Anyone who has not felt and seen the substantial inflation over the past 2 years has either been asleep or dead. Even high-end wage earners have felt the sting of higher prices.
All of this leaves me very pessimistic about the local economy that has been so built on the fortunes of real estate. I fear we may have much, much worse things ahead of us compared with the past few months.
Chuck Ponzi October 2nd, 2007
If you do any amount of reading in financial publications or blogs lately, the word inflation has been thrown around quite a bit. However, few words seem so clear in economics yet are shrouded in half-truths. What is inflation? If you ask 10 different people, you’ll get 10 different answers. Even academics differ on what inflation is, even the definition of the word. While one might suppose it is monetary expansion, another only sees its effect on prices. Others argue it is the relative growth of the first in relation to the economy that drives the second. Still others argue that “it’s different this time” and the old rules don’t apply; in a way they are correct.
It is no secret that in the past few years, we have seen substantial monetary expansion. Such is not necessarily the case today. A fellow blogger, Mike Shedlock, notes that we are in a very slow monetary growth period compared to years past in his post: “Is the Fed Deflating?”
It is very easy to prove the statement “the Fed is not massively printing” but people believe what they want to believe. However, Fed policies have been such to enable super easy credit transactions to take place by holding interest rates too low too long. When interest rates are held too low, asset bubbles build and credit/debt transactions soar. So does the velocity of money. But the Fed ignores these bubble (in fact even embraces them) as long as consumer prices are held in check.
Mish hit upon some very important points:
1. Inflation is time-lagged.
2. Bubbles are not inflation.
3. People believe what they want to believe regardless of the facts.
Inflation is Time Lagged
Inflation has a place in any money. Yes, even vaunted and irreproachable monies like gold can and have experienced periods of strong inflation when the purchasing ability of gold declined significantly. One such gold inflation periods happened with the California Gold rush in 1849, and later after the discover of dissolving ore in potassium cyanide in 1887.
Indeed, money produces nothing, it is merely a confidence play, though some have industrial uses (gold as an electrical conductor, or paper money as a combustible material to name a couple). Money is a confidence game… nothing more, nothing less. Only barter economies approach removing the “confidence” value. These tend to be terribly inefficient, and are not likely to return, regardless of what happens to our monetary supply. In fact, in today’s global liquid markets, many other assets have taken the place of money as a hedge to traditional fiat currency systems systematic devaluation.
Monetary inflation is valuable to prevent price deflation. In fast-growing economies, where gross domestic output is increasing as well as a growing population, if money were to become scarce, prices would need to drop to reflect that scarcity. To the counterpoint, monetary deflation is also valuable to prevent price inflation. If money is plentiful, removing that money from the market keeps prices from spiraling higher and higher. These facts are accepted in economics textbooks covering basic supply and demand relative to the money supply, and is well understood in all economics circles. So, if the answer is so simple, why don’t we simply measure one and react with the other?
You shouldn’t be surprised that our Federal Reserve has tried just that.
Unfortunately, other factors keep popping up that throw the next administration for a loop.
First, it was productivity as a deflationary force.
Then, it was a credit orgy as an inflationary force.
Then, it was a “savings glut”, reserve currency, or some other reason as a deflationary force (stockpiling dollars, removing them from spending).
As you can see, managing supply and demand is not as simple when poor information is available about who is holding the currency, and what they intend to do with it. Especially since there is a time-lag.
Basically, introducing currency into a system does not provide an immediate change in prices. This works in excellent principle in economics textbooks in perfect countries with names like “utopiaville” and “Gilligan’s Island” where perfect information abounds and prices immediately reflect available money. In addition, money is instantly used on whatever provides the most utility.
Unfortuately, humans are irrational, greedy, and inefficient. Prices are sticky. Expectations vary wildly and change in an instant. In this environment, a steady, stable central bank that moves slowly and ignores short-term glances while focusing on the long-term is likely to be the most successful. There are no heroes in this arena. Middle of the road beaurocracts are the name of the game. However, when forced by the situation, herculean pushes against inflation and short-term fixes such as the time when Paul Volker crushed the inflation of the 1970’s in the US with double-digit Fed fund rates.
Unfortunately, this is not the 1970’s.
Bubbles are not Inflation
This is the era of financial bubbles. These are extremely irrational price moves of assets where fundamental values detach from the current values. Increasing investment and overdependence on a specific asset class produce outsized gains, and more pile on, creating a self-fulfilling prophecy of higher prices and greater inflation.
Then it happens.
The bubble pops. It becomes self evident that the prices moves were irrational, and it painfully returns to it’s longer-term trend. Bubbles are not price inflation, they are driven by inflation. The only way that bubbles can form is by a single enabling forces: monetary inflation. Instead of the money chasing a fixed set of goods and inflating their prices, humans instead choose to purchase assets. That’s not inflation. It may look like it, but it’s only temporary, not systemic.
Before you begin to think that I am a current FED apologist, consider what I believe to be the root of financial bubbles… monetary inflation. That is controlled by the Federal Reserve.
People Believe What They Want
Regardless of the facts. Much like the crush of public opinion when the housing bubble was in full-blown effect, there is now a crush of opinion beginning to build about systemic inflation. Indeed, there is a growing believe in the infallibility of precious metals as a store of wealth. This has all the seeds of a future bubble in precious metals. If asked where I believe the next bubble will be, I’d put my money on precious metals. (and have put some)
Getting back to inflation, however, inflation is much like anything in the financial world… it acts like virus, and once it has infected enough, it spreads on its own, creating a self-fulfilling expectation of increasing prices. Expectations (or confidence) is the name of the game.
Unfortunately, like a virus, the only way to kill it or severely wound it is to remove its source of food… money. If people expect things to cost more in the future, they will stockpile that thing now, increasing demand for it and consequently prices. It is possible that much of the inflation of the 1970’s was a reaction to many Americans stockpiling food, water, and other resources in the shadow of the cold war. The same way that people fearing being priced out forever, they purchase more than they need now in the chance that they might need it in the future. Many people bought houses much larger, and in much greater quantity than their needs or abilities dictated in an attempt to remove that fear of running out.
Summing it up
Are we experiencing inflation? It depends on what you consider to be inflation. Prices are rising of many consumer goods. Conversely, a massive bubble is violently deflating. People’s incomes are not growing as quick as prices.
However, I can be confident about making one prediction. If housing prices in bubble areas do not come down fast enough, wages will need to increase faster than they have been. And, the Fed will allow the first while fighting the latter. As they say… don’t fight the FED.
Chuck Ponzi August 14th, 2007
For those who might have missed it, the OC register did a great piece on a single street in Santa Ana that highlights just how out of hand the subprime lending got in our little Orange County.
While there are plenty of references to how the real estate market moved on the way up, one of the best descriptions is that of the Plankton Theory submitted by Bill Gross (Pimco’s “Bond King”), it is everpresent that the foundation of the housing market lies not only in entry-level homes and buyers, but also in lower-priced communities. Without that “first house”, there is no property ladder.
However, the reckless lending was aimed directly at “getting people on the ladder”. No matter how you look at it, these were in many cases people who would have never been able to buy a home, either because their credit, income, or both would not support it. In many cases, these would-be homeowners have trouble with their day-to-day finances, much less than the kind of commitment required to buy, pay for, and maintain a home in the long-run. No doubt about it, in the long run, buying a house is generally a smart move, but those who struggle with daily living expenses often do so, not because of their income, but rather their lack of financial restraint.
The OC Register takes us down Camile Street in Santa Ana:
A year ago, Angelita Medina Albarran, 47, a garment worker at St. John Knits, took out two loans from Fremont Investment & Loan to cover the entire $600,000 purchase price for 919 W. Camile St., a 1,450-square-foot bungalow. Her five grown children help pay the mortgage – $4,000 a month and scheduled to rise in May.
“La droga,” Medina Albarran said. That’s Spanish for “drug” – Mexican slang for a crippling debt. The people of West Camile Street, she said, are “endrogados” – hooked on debt.
With what happened to Fremont, New Century, and other imploded lenders that reads like the who’s who of subprime lending, it is unlikely that these drug addicts will be getting another fix. When you consider that these people were paying $400 per square foot to live in one of the worst neighborhoods in Southern California, you can just begin to see the problem. When I first moved to California in 1999, few places cost $400 per square foot, and only in the poshest neighborhoods (Beverly Hills, Bel Aire, just to name a couple).
This was truly subprime central:
A Register analysis of federal housing data pinpointed West Camile Street as a center of the subprime borrowing binge. In 2005, 75 percent of the home loans in the surrounding census tract were subprime.
That’s the highest concentration of subprime loans in Orange County and one of the densest in California. More than 200 neighborhoods in California, particularly in south Los Angeles and the Inland Empire, were similarly dependent on subprime lending. So were at least three dozen counties in other states.
What this means is that all of the wealth that was “created” in the last few years was primarily created by former entry level buyers selling and buying larger and so on up the food chain. When these plankton are gone, there is no food for the chain and it dies off.
From April through June a record 17,408 California homes were lost to foreclosure, according to DataQuick Information Systems, a La Jolla real estate tracking company. The Center for Responsible Lending, which opposes predatory lending, estimates that 23 percent of subprime mortgages made in Orange County last year will end in foreclosure. That would be about 2,500 of the 11,000 homes bought with subprime mortgages, or 7 percent of the 36,000 homes bought last year in Orange County.
That would be only a small portion of what the larger problem is. I wouldn’t be surprised to see 10 to 20% of the homes bought last year to enter foreclosure. Never before has there ever been this kind of speculation, never before has there been so little to lose put down by buyers.
In a related link, another article trumpets that “OC is Home to many of the Top 10 Subprime Lenders”
Their list is as follows:
1. Argent Mortgage (Orange)
2. New Century Mortgage (Irvine)
3. Fremont Investment & Loan (Brea)
4. Option One (Irvine)
5. National City Bank of Indiana (Indianapolis)
6. Countrywide Home Loans (Calabasas)
7. Long Beach Mortgage Company (Seattle) a.k.a. WaMu
8. WMC Mortgage (Burbank)
9. Ameriquest (Orange)
10. Accredited Home Lenders (San Diego)
While you might marvel that these top 10 represent over 40% of the subprime market, it is perhaps even more surprising to know that all but 2 are Southern Californian companies. (although, I might count Long Beach Mortgage as well), but that these 90% of the top 10 by number and volume. The remainder of the market is perhaps not as concentrated, but make no mistake, lending is the biggest business here.
When we feel the pinch, it will be doubly bad. Not only were we selling the stuff, we were snorting it too.
Remember, kids, drugs kill.
I’ll leave you with this moment of zen. 21% of the outstanding loans in Orange County are of the subprime variety, and I’d wager a guess at at least that many Alt-A. Much of those sources of lending are over 10% now, and even Jumbo Prime loans have jumped to rates and spreads not seen since 2000. Since the median income has not made a substantial move in the past 7 years, you’d be believing a lie if you heard anyone tell you that OC housing prices won’t come down hard. They will.
Chuck Ponzi August 6th, 2007
The action around MBS’s and other derivatives related to the housing market reminds me of an often quoted speech given by Alan Greenspan.
“This vast increase in the market value of asset claims is in part the indirect result of investors accepting lower compensation for risk. Such an increase in market value is too often viewed by market participants as structural and permanent… But what they perceive as newly abundant liquidity can readily disappear. Any onset of increased investor caution elevates risk premiums and, as a consequence, lowers asset values and promotes the liquidation of the debt that supported higher asset prices. This is the reason that history has not dealt kindly with the aftermath of protracted periods of low-risk premiums.”
While he didn’t do enough to prevent asset bubble from forming, at least he understands what the aftermath does. “newly abundant liquidity can readily disappear”.
It reminds me of a post I made back in the heady days of September 2005, Greenspan’s Interesting Clarity. Yes, nearly 2 years of blogging ago.
Where does this lead us? Well… we’re acting a bit like the japanese in our debt lending by accepting low risk premiums, and the longer this goes on, the greater the risk to all participants, lenders and borrowers. If liquidity were to be suddenly shored up by investors demanding a greater return for thier risk, or if percieved risk were to suddenly jump, borrowing would become much more difficult for buyers. Interest rates will increase accordingly. Even established buyers might not be able to purchase homes due to restricted risk premiums; all of which will only serve to slow the real estate market and put the power of purchasing into well qualified buyers.
It has been my assertion that the housing bubble was caused not by low interest rates, but by excess liquidity that banks could only farm out by lowering lending standards. It was this easy credit that was extended to a whole set of the population that had never before been entrusted with credit; this caused “neverending” demand. Much like college students that max out their first credit card, only to find that the payments exceed their income, many of today’s buyers will be unable to make payments in the future.
Our little “deflationary concern” may soon turn into a financial meltdown since problems tend to spiral: Increases of forced sales trigger lower prices, which triggers lower spending and more foreclosures; lower spending triggers more layoffs; foreclosures trigger financial losses for banks and MBS holders; financial losses triggers less liquidity; less liquidity triggers higher interest rates; which triggers more defaults on ARMs and HELOCs… the list of effects could go on forever. Our economy is increasingly dependent on house price appreciation, but 2 things keep these trees from growing to the sky.
1. Credit has limits, since some risk premium must be attached to borrowing money, and interest must be charged. Investor sentiment is everything here.
2. Even a leveling off will decrease construction jobs that will kick-off the above process, so increasing growth is necessary to keep the merry-go-round going.
As you can see, it is easier to predict WHAT is going to happen, opposed to WHEN it is going to happen. It was surprising to me that the housing boom ended with a consumer-led paring back of purchases, as I had expected the lending environment to tighten considerably before it did. What this likely means is that while it postphoned the inevitable crash, it will likely only amplify the severity of the downturn. As they say, the bigger they are, the harder they fall.
However, not trying to be a Monday morning quarterback, but had the FED raised rates twice more as I had hoped they would, they would have had an additional half-point lowering room when the credit event happened. The fact that they did not either says that they did not understand the extent of the credit market’s problems and attendant risk mongering, or they simply believed (and perhaps still do) believe that the credit markets can self-correct without affecting unemployment, or currency attractiveness. It may be that with the weakness exhibited by the currency, Ben B. should likely be raising rates when the world is calling for cutting them. It’s always easier to get out in front of the problem than cleaning up after the mess, but when has the Federal reserve done that since Paul Volker?
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