"Standup Economics"

This economy is a what?

    
Updated:    Saturday September 1,  2007

                        07:57 CDT 
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Bernanke's Housing Speech

Ah yes, a little retreat to a continuation of government site for a financial retreat?  Hmmm ...anyway, this is what I'd call a two-beer read:

Remarks by Chairman Ben S. Bernanke At the Federal Reserve Bank of Kansas City's Economic Symposium, Jackson Hole, Wyoming August 31, 2007 Housing, Housing Finance, and Monetary Policy

Over the years, Tom Hoenig and his colleagues at the Federal Reserve Bank of Kansas City have done an excellent job of selecting interesting and relevant topics for this annual symposium. I think I can safely say that this year they have outdone themselves. Recently, the subject of housing finance has preoccupied financial-market participants and observers in the United States and around the world. The financial turbulence we have seen had its immediate origins in the problems in the subprime mortgage market, but the effects have been felt in the broader mortgage market and in financial markets more generally, with potential consequences for the performance of the overall economy.

In my remarks this morning, I will begin with some observations about recent market developments and their economic implications. I will then try to place recent events in a broader historical context by discussing the evolution of housing markets and housing finance in the United States. In particular, I will argue that, over the years, institutional changes in U.S. housing and mortgage markets have significantly influenced both the transmission of monetary policy and the economy's cyclical dynamics. As our system of housing finance continues to evolve, understanding these linkages not only provides useful insights into the past but also holds the promise of helping us better cope with the implications of future developments.

Recent Developments in Financial Markets and the Economy I will begin my review of recent developments by discussing the housing situation. As you know, the downturn in the housing market, which began in the summer of 2005, has been sharp. Sales of new and existing homes have declined significantly from their mid-2005 peaks and have remained slow in recent months. As demand has weakened, house prices have decelerated or even declined by some measures, and homebuilders have scaled back their construction of new homes. The cutback in residential construction has directly reduced the annual rate of U.S. economic growth about 3/4 percentage point on average over the past year and a half. Despite the slowdown in construction, the stock of unsold new homes remains quite elevated relative to sales, suggesting that further declines in homebuilding are likely.

The outlook for home sales and construction will also depend on unfolding developments in mortgage markets. A substantial increase in lending to nonprime borrowers contributed to the bulge in residential investment in 2004 and 2005, and the tightening of credit conditions for these borrowers likely accounts for some of the continued softening in demand we have seen this year. As I will discuss, recent market developments have resulted in additional tightening of rates and terms for nonprime borrowers as well as for potential borrowers through "jumbo" mortgages. Obviously, if current conditions persist in mortgage markets, the demand for homes could weaken further, with possible implications for the broader economy. We are following these developments closely.

As house prices have softened, and as interest rates have risen from the low levels of a couple of years ago, we have seen a marked deterioration in the performance of nonprime mortgages. The problems have been most severe for subprime mortgages with adjustable rates: the proportion of those loans with serious delinquencies rose to about 13-1/2 percent in June, more than double the recent low seen in mid-2005.1 The adjustable-rate subprime mortgages originated in late 2005 and in 2006 have performed the worst, in part because of slippage in underwriting standards, reflected for example in high loan-to-value ratios and incomplete documentation. With many of these borrowers facing their first interest rate resets in coming quarters, and with softness in house prices expected to continue to impede refinancing, delinquencies among this class of mortgages are likely to rise further. Apart from adjustable-rate subprime mortgages, however, the deterioration in performance has been less pronounced, at least to this point. For subprime mortgages with fixed rather than variable rates, for example, serious delinquencies have been fairly stable at about 5-1/2 percent. The rate of serious delinquencies on alt-A securitized pools rose to nearly 3 percent in June, from a low of less than 1 percent in mid-2005. Delinquency rates on prime jumbo mortgages have also risen, though they are lower than those for prime conforming loans, and both rates are below 1 percent.

Investors' concerns about mortgage credit performance have intensified sharply in recent weeks, reflecting, among other factors, worries about the housing market and the effects of impending interest-rate resets on borrowers' ability to remain current. Credit spreads on new securities backed by subprime mortgages, which had jumped earlier this year, rose significantly more in July. Issuance of such securities has been negligible since then, as dealers have faced difficulties placing even the AAA-rated tranches. Issuance of securities backed by alt-A and prime jumbo mortgages also has fallen sharply, as investors have evidently become concerned that the losses associated with these types of mortgages may be higher than had been expected.

With securitization impaired, some major lenders have announced the cancellation of their adjustable-rate subprime lending programs. A number of others that specialize in nontraditional mortgages have been forced by funding pressures to scale back or close down. Some lenders that sponsor asset-backed commercial paper conduits as bridge financing for their mortgage originations have been unable to "roll" the maturing paper, forcing them to draw on back-up liquidity facilities or to exercise options to extend the maturity of their paper. As a result of these developments, borrowers face noticeably tighter terms and standards for all but conforming mortgages.

As you know, the financial stress has not been confined to mortgage markets. The markets for asset-backed commercial paper and for lower-rated unsecured commercial paper market also have suffered from pronounced declines in investor demand, and the associated flight to quality has contributed to surges in the demand for short-dated Treasury bills, pushing T-bill rates down sharply on some days. Swings in stock prices have been sharp, with implied price volatilities rising to about twice the levels seen in the spring. Credit spreads for a range of financial instruments have widened, notably for lower-rated corporate credits. Diminished demand for loans and bonds to finance highly leveraged transactions has increased some banks' concerns that they may have to bring significant quantities of these instruments onto their balance sheets. These banks, as well as those that have committed to serve as back-up facilities to commercial paper programs, have become more protective of their liquidity and balance-sheet capacity.

Although this episode appears to have been triggered largely by heightened concerns about subprime mortgages, global financial losses have far exceeded even the most pessimistic projections of credit losses on those loans. In part, these wider losses likely reflect concerns that weakness in U.S. housing will restrain overall economic growth. But other factors are also at work. Investor uncertainty has increased significantly, as the difficulty of evaluating the risks of structured products that can be opaque or have complex payoffs has become more evident. Also, as in many episodes of financial stress, uncertainty about possible forced sales by leveraged participants and a higher cost of risk capital seem to have made investors hesitant to take advantage of possible buying opportunities. More generally, investors may have become less willing to assume risk. Some increase in the premiums that investors require to take risk is probably a healthy development on the whole, as these premiums have been exceptionally low for some time. However, in this episode, the shift in risk attitudes has interacted with heightened concerns about credit risks and uncertainty about how to evaluate those risks to create significant market stress. On the positive side of the ledger, we should recognize that past efforts to strengthen capital positions and the financial infrastructure place the global financial system in a relatively strong position to work through this process.

In the statement following its August 7 meeting, the Federal Open Market Committee (FOMC) recognized that the rise in financial volatility and the tightening of credit conditions for some households and businesses had increased the downside risks to growth somewhat but reiterated that inflation risks remained its predominant policy concern. In subsequent days, however, following several events that led investors to believe that credit risks might be larger and more pervasive than previously thought, the functioning of financial markets became increasingly impaired. Liquidity dried up and spreads widened as many market participants sought to retreat from certain types of asset exposures altogether.

Well-functioning financial markets are essential for a prosperous economy. As the nation's central bank, the Federal Reserve seeks to promote general financial stability and to help to ensure that financial markets function in an orderly manner. In response to the developments in the financial markets in the period following the FOMC meeting, the Federal Reserve provided reserves to address unusual strains in money markets. On August 17, the Federal Reserve Board announced a cut in the discount rate of 50 basis points and adjustments in the Reserve Banks' usual discount window practices to facilitate the provision of term financing for as long as thirty days, renewable by the borrower. The Federal Reserve also took a number of supplemental actions, such as cutting the fee charged for lending Treasury securities. The purpose of the discount window actions was to assure depositories of the ready availability of a backstop source of liquidity. Even if banks find that borrowing from the discount window is not immediately necessary, the knowledge that liquidity is available should help alleviate concerns about funding that might otherwise constrain depositories from extending credit or making markets. The Federal Reserve stands ready to take additional actions as needed to provide liquidity and promote the orderly functioning of markets.

It is not the responsibility of the Federal Reserve--nor would it be appropriate--to protect lenders and investors from the consequences of their financial decisions. But developments in financial markets can have broad economic effects felt by many outside the markets, and the Federal Reserve must take those effects into account when determining policy. In a statement issued simultaneously with the discount window announcement, the FOMC indicated that the deterioration in financial market conditions and the tightening of credit since its August 7 meeting had appreciably increased the downside risks to growth. In particular, the further tightening of credit conditions, if sustained, would increase the risk that the current weakness in housing could be deeper or more prolonged than previously expected, with possible adverse effects on consumer spending and the economy more generally.

The incoming data indicate that the economy continued to expand at a moderate pace into the summer, despite the sharp correction in the housing sector. However, in light of recent financial developments, economic data bearing on past months or quarters may be less useful than usual for our forecasts of economic activity and inflation. Consequently, we will pay particularly close attention to the timeliest indicators, as well as information gleaned from our business and banking contacts around the country. Inevitably, the uncertainty surrounding the outlook will be greater than normal, presenting a challenge to policymakers to manage the risks to their growth and price stability objectives. The Committee continues to monitor the situation and will act as needed to limit the adverse effects on the broader economy that may arise from the disruptions in financial markets.

Beginnings: Mortgage Markets in the Early Twentieth Century Like us, our predecessors grappled with the economic and policy implications of innovations and institutional changes in housing finance. In the remainder of my remarks, I will try to set the stage for this weekend's conference by discussing the historical evolution of the mortgage market and some of the implications of that evolution for monetary policy and the economy.

The early decades of the twentieth century are a good starting point for this review, as urbanization and the exceptionally rapid population growth of that period created a strong demand for new housing. Between 1890 and 1930, the number of housing units in the United States grew from about 10 million to about 30 million; the pace of homebuilding was particularly brisk during the economic boom of the 1920s.

Remarkably, this rapid expansion of the housing stock took place despite limited sources of mortgage financing and typical lending terms that were far less attractive than those to which we are accustomed today. Required down payments, usually about half of the home's purchase price, excluded many households from the market. Also, by comparison with today's standards, the duration of mortgage loans was short, usually ten years or less. A "balloon" payment at the end of the loan often created problems for borrowers.2

High interest rates on loans reflected the illiquidity and the essentially unhedgeable interest rate risk and default risk associated with mortgages. Nationwide, the average spread between mortgage rates and high-grade corporate bond yields during the 1920s was about 200 basis points, compared with about 50 basis points on average since the mid-1980s. The absence of a national capital market also produced significant regional disparities in borrowing costs. Hard as it may be to conceive today, rates on mortgage loans before World War I were at times as much as 2 to 4 percentage points higher in some parts of the country than in others, and even in 1930, regional differences in rates could be more than a full percentage point.3

Despite the underdevelopment of the mortgage market, homeownership rates rose steadily after the turn of the century. As would often be the case in the future, government policy provided some inducement for homebuilding. When the federal income tax was introduced in 1913, it included an exemption for mortgage interest payments, a provision that is a powerful stimulus to housing demand even today. By 1930, about 46 percent of nonfarm households owned their own homes, up from about 37 percent in 1890.

The limited availability of data prior to 1929 makes it hard to quantify the role of housing in the monetary policy transmission mechanism during the early twentieth century. Comparisons are also complicated by great differences between then and now in monetary policy frameworks and tools. Still, then as now, periods of tight money were reflected in higher interest rates and a greater reluctance of banks to lend, which affected conditions in mortgage markets. Moreover, students of the business cycle, such as Arthur Burns and Wesley Mitchell, have observed that residential construction was highly cyclical and contributed significantly to fluctuations in the overall economy (Burns and Mitchell, 1946). Indeed, if we take the somewhat less reliable data for 1901 to 1929 at face value, real housing investment was about three times as volatile during that era as it has been over the past half-century.

During the past century we have seen two great sea changes in the market for housing finance. The first of these was the product of the New Deal. The second arose from financial innovation and a series of crises from the 1960s to the mid-1980s in depository funding of mortgages. I will turn first to the New Deal period.

The New Deal and the Housing Market The housing sector, like the rest of the economy, was profoundly affected by the Great Depression. When Franklin Roosevelt took office in 1933, almost 10 percent of all homes were in foreclosure (Green and Wachter, 2005), construction employment had fallen by half from its late 1920s peak, and a banking system near collapse was providing little new credit. As in other sectors, New Deal reforms in housing and housing finance aimed to foster economic revival through government programs that either provided financing directly or strengthened the institutional and regulatory structure of private credit markets.

Actually, one of the first steps in this direction was taken not by Roosevelt but by his predecessor, Herbert Hoover, who oversaw the creation of the Federal Home Loan Banking System in 1932. This measure reorganized the thrift industry (savings and loans and mutual savings banks) under federally chartered associations and established a credit reserve system modeled after the Federal Reserve. The Roosevelt administration pushed this and other programs affecting housing finance much further. In 1934, his administration oversaw the creation of the Federal Housing Administration (FHA). By providing a federally backed insurance system for mortgage lenders, the FHA was designed to encourage lenders to offer mortgages on more attractive terms. This intervention appears to have worked in that, by the 1950s, most new mortgages were for thirty years at fixed rates, and down payment requirements had fallen to about 20 percent. In 1938, the Congress chartered the Federal National Mortgage Association, or Fannie Mae, as it came to be known. The new institution was authorized to issue bonds and use the proceeds to purchase FHA mortgages from lenders, with the objectives of increasing the supply of mortgage credit and reducing variations in the terms and supply of credit across regions.4

Shaped to a considerable extent by New Deal reforms and regulations, the postwar mortgage market took on the form that would last for several decades. The market had two main sectors. One, the descendant of the pre-Depression market sector, consisted of savings and loan associations, mutual savings banks, and, to a lesser extent, commercial banks. With financing from short-term deposits, these institutions made conventional fixed-rate long-term loans to homebuyers. Notably, federal and state regulations limited geographical diversification for these lenders, restricting interstate banking and obliging thrifts to make mortgage loans in small local areas--within 50 miles of the home office until 1964, and within 100 miles after that. In the other sector, the product of New Deal programs, private mortgage brokers and other lenders originated standardized loans backed by the FHA and the Veterans' Administration (VA). These guaranteed loans could be held in portfolio or sold to institutional investors through a nationwide secondary market.

No discussion of the New Deal's effect on the housing market and the monetary transmission mechanism would be complete without reference to Regulation Q--which was eventually to exemplify the law of unintended consequences. The Banking Acts of 1933 and 1935 gave the Federal Reserve the authority to impose deposit-rate ceilings on banks, an authority that was later expanded to cover thrift institutions. The Fed used this authority in establishing its Regulation Q. The so-called Reg Q ceilings remained in place in one form or another until the mid-1980s.5

The original rationale for deposit ceilings was to reduce "excessive" competition for bank deposits, which some blamed as a cause of bank failures in the early 1930s. In retrospect, of course, this was a dubious bit of economic analysis. In any case, the principal effects of the ceilings were not on bank competition but on the supply of credit. With the ceilings in place, banks and thrifts experienced what came to be known as disintermediation--an outflow of funds from depositories that occurred whenever short-term money-market rates rose above the maximum that these institutions could pay. In the absence of alternative funding sources, the loss of deposits prevented banks and thrifts from extending mortgage credit to new customers.

The Transmission Mechanism and the New Deal Reforms Under the New Deal system, housing construction soared after World War II, driven by the removal of wartime building restrictions, the need to replace an aging housing stock, rapid family formation that accompanied the beginning of the baby boom, and large-scale internal migration. The stock of housing units grew 20 percent between 1940 and 1950, with most of the new construction occurring after 1945.

In 1951, the Treasury-Federal Reserve Accord freed the Fed from the obligation to support Treasury bond prices. Monetary policy began to focus on influencing short-term money markets as a means of affecting economic activity and inflation, foreshadowing the Federal Reserve's current use of the federal funds rate as a policy instrument. Over the next few decades, housing assumed a leading role in the monetary transmission mechanism, largely for two reasons: Reg Q and the advent of high inflation.

The Reg Q ceilings were seldom binding before the mid-1960s, but disintermediation induced by the ceilings occurred episodically from the mid-1960s until Reg Q began to be phased out aggressively in the early 1980s. The impact of disintermediation on the housing market could be quite significant; for example, a moderate tightening of monetary policy in 1966 contributed to a 23 percent decline in residential construction between the first quarter of 1966 and the first quarter of 1967. State usury laws and branching restrictions worsened the episodes of disintermediation by placing ceilings on lending rates and limiting the flow of funds between local markets. For the period 1960 to 1982, when Reg Q assumed its greatest importance, statistical analysis shows a high correlation between single-family housing starts and the growth of small time deposits at thrifts, suggesting that disintermediation effects were powerful; in contrast, since 1983 this correlation is essentially zero.6

Economists at the time were well aware of the importance of the disintermediation phenomenon for monetary policy. Frank de Leeuw and Edward Gramlich highlighted this particular channel in their description of an early version of the MPS macroeconometric model, a joint product of researchers at the Federal Reserve, MIT, and the University of Pennsylvania (de Leeuw and Gramlich, 1969). The model attributed almost one-half of the direct first-year effects of monetary policy on the real economy--which were estimated to be substantial--to disintermediation and other housing-related factors, despite the fact that residential construction accounted for only 4 percent of nominal gross domestic product (GDP) at the time.

As time went on, however, monetary policy mistakes and weaknesses in the structure of the mortgage market combined to create deeper economic problems. For reasons that have been much analyzed, in the late 1960s and the 1970s the Federal Reserve allowed inflation to rise, which led to corresponding increases in nominal interest rates. Increases in short-term nominal rates not matched by contractually set rates on existing mortgages exposed a fundamental weakness in the system of housing finance, namely, the maturity mismatch between long-term mortgage credit and the short-term deposits that commercial banks and thrifts used to finance mortgage lending. This mismatch led to a series of liquidity crises and, ultimately, to a rash of insolvencies among mortgage lenders. High inflation was also ultimately reflected in high nominal long-term rates on new mortgages, which had the effect of "front loading" the real payments made by holders of long-term, fixed-rate mortgages. This front-loading reduced affordability and further limited the extension of mortgage credit, thereby restraining construction activity. Reflecting these factors, housing construction experienced a series of pronounced boom and bust cycles from the early 1960s through the mid-1980s, which contributed in turn to substantial swings in overall economic growth.

The Emergence of Capital Markets as a Source of Housing Finance The manifest problems associated with relying on short-term deposits to fund long-term mortgage lending set in train major changes in financial markets and financial instruments, which collectively served to link mortgage lending more closely to the broader capital markets. The shift from reliance on specialized portfolio lenders financed by deposits to a greater use of capital markets represented the second great sea change in mortgage finance, equaled in importance only by the events of the New Deal.

Government actions had considerable influence in shaping this second revolution. In 1968, Fannie Mae was split into two agencies: the Government National Mortgage Association (Ginnie Mae) and the re-chartered Fannie Mae, which became a privately owned government-sponsored enterprise (GSE), authorized to operate in the secondary market for conventional as well as guaranteed mortgage loans. In 1970, to compete with Fannie Mae in the secondary market, another GSE was created--the Federal Home Loan Mortgage Corporation, or Freddie Mac. Also in 1970, Ginnie Mae issued the first mortgage pass-through security, followed soon after by Freddie Mac. In the early 1980s, Freddie Mac introduced collateralized mortgage obligations (CMOs), which separated the payments from a pooled set of mortgages into "strips" carrying different effective maturities and credit risks. Since 1980, the outstanding volume of GSE mortgage-backed securities has risen from less than $200 billion to more than $4 trillion today. Alongside these developments came the establishment of private mortgage insurers, which competed with the FHA, and private mortgage pools, which bundled loans not handled by the GSEs, including loans that did not meet GSE eligibility criteria--so-called nonconforming loans. Today, these private pools account for around $2 trillion in residential mortgage debt.

These developments did not occur in time to prevent a large fraction of the thrift industry from becoming effectively insolvent by the early 1980s in the wake of the late-1970s surge in inflation.7 In this instance, the government abandoned attempts to patch up the system and instead undertook sweeping deregulation. Reg Q was phased out during the 1980s; state usury laws capping mortgage rates were abolished; restrictions on interstate banking were lifted by the mid-1990s; and lenders were permitted to offer adjustable-rate mortgages as well as mortgages that did not fully amortize and which therefore involved balloon payments at the end of the loan period. Critically, the savings and loan crisis of the late 1980s ended the dominance of deposit-taking portfolio lenders in the mortgage market. By the 1990s, increased reliance on securitization led to a greater separation between mortgage lending and mortgage investing even as the mortgage and capital markets became more closely integrated. About 56 percent of the home mortgage market is now securitized, compared with only 10 percent in 1980 and less than 1 percent in 1970.

In some ways, the new mortgage market came to look more like a textbook financial market, with fewer institutional "frictions" to impede trading and pricing of event-contingent securities. Securitization and the development of deep and liquid derivatives markets eased the spreading and trading of risk. New types of mortgage products were created. Recent developments notwithstanding, mortgages became more liquid instruments, for both lenders and borrowers. Technological advances facilitated these changes; for example, computerization and innovations such as credit scores reduced the costs of making loans and led to a "commoditization" of mortgages. Access to mortgage credit also widened; notably, loans to subprime borrowers accounted for about 13 percent of outstanding mortgages in 2006.

I suggested that the mortgage market has become more like the frictionless financial market of the textbook, with fewer institutional or regulatory barriers to efficient operation. In one important respect, however, that characterization is not entirely accurate. A key function of efficient capital markets is to overcome problems of information and incentives in the extension of credit. The traditional model of mortgage markets, based on portfolio lending, solved these problems in a straightforward way: Because banks and thrifts kept the loans they made on their own books, they had strong incentives to underwrite carefully and to invest in gathering information about borrowers and communities. In contrast, when most loans are securitized and originators have little financial or reputational capital at risk, the danger exists that the originators of loans will be less diligent. In securitization markets, therefore, monitoring the originators and ensuring that they have incentives to make good loans is critical. I have argued elsewhere that, in some cases, the failure of investors to provide adequate oversight of originators and to ensure that originators' incentives were properly aligned was a major cause of the problems that we see today in the subprime mortgage market (Bernanke, 2007). In recent months we have seen a reassessment of the problems of maintaining adequate monitoring and incentives in the lending process, with investors insisting on tighter underwriting standards and some large lenders pulling back from the use of brokers and other agents. We will not return to the days in which all mortgage lending was portfolio lending, but clearly the originate-to-distribute model will be modified--is already being modified--to provide stronger protection for investors and better incentives for originators to underwrite prudently.

The Monetary Transmission Mechanism Since the Mid-1980s The dramatic changes in mortgage finance that I have described appear to have significantly affected the role of housing in the monetary transmission mechanism. Importantly, the easing of some traditional institutional and regulatory frictions seems to have reduced the sensitivity of residential construction to monetary policy, so that housing is no longer so central to monetary transmission as it was.8 In particular, in the absence of Reg Q ceilings on deposit rates and with a much-reduced role for deposits as a source of housing finance, the availability of mortgage credit today is generally less dependent on conditions in short-term money markets, where the central bank operates most directly.

Most estimates suggest that, because of the reduced sensitivity of housing to short-term interest rates, the response of the economy to a given change in the federal funds rate is modestly smaller and more balanced across sectors than in the past.9 These results are embodied in the Federal Reserve's large econometric model of the economy, which implies that only about 14 percent of the overall response of output to monetary policy is now attributable to movements in residential investment, in contrast to the model's estimate of 25 percent or so under what I have called the New Deal system.

The econometric findings seem consistent with the reduced synchronization of the housing cycle and the business cycle during the present decade. In all but one recession during the period from 1960 to 1999, declines in residential investment accounted for at least 40 percent of the decline in overall real GDP, and the sole exception--the 1970 recession--was preceded by a substantial decline in housing activity before the official start of the downturn. In contrast, residential investment boosted overall real GDP growth during the 2001 recession. More recently, the sharp slowdown in housing has been accompanied, at least thus far, by relatively good performance in other sectors. That said, the current episode demonstrates that pronounced housing cycles are not a thing of the past.

My discussion so far has focused primarily on the role of variations in housing finance and residential construction in monetary transmission. But, of course, housing may have indirect effects on economic activity, most notably by influencing consumer spending. With regard to household consumption, perhaps the most significant effect of recent developments in mortgage finance is that home equity, which was once a highly illiquid asset, has become instead quite liquid, the result of the development of home equity lines of credit and the relatively low cost of cash-out refinancing. Economic theory suggests that the greater liquidity of home equity should allow households to better smooth consumption over time. This smoothing in turn should reduce the dependence of their spending on current income, which, by limiting the power of conventional multiplier effects, should tend to increase macroeconomic stability and reduce the effects of a given change in the short-term interest rate. These inferences are supported by some empirical evidence.10

On the other hand, the increased liquidity of home equity may lead consumer spending to respond more than in past years to changes in the values of their homes; some evidence does suggest that the correlation of consumption and house prices is higher in countries, like the United States, that have more sophisticated mortgage markets (Calza, Monacelli, and Stracca, 2007). Whether the development of home equity loans and easier mortgage refinancing has increased the magnitude of the real estate wealth effect--and if so, by how much--is a much-debated question that I will leave to another occasion.

Conclusion I hope this exploration of the history of housing finance has persuaded you that institutional factors can matter quite a bit in determining the influence of monetary policy on housing and the role of housing in the business cycle. Certainly, recent developments have added yet further evidence in support of that proposition. The interaction of housing, housing finance, and economic activity has for years been of central importance for understanding the behavior of the economy, and it will continue to be central to our thinking as we try to anticipate economic and financial developments.

In closing, I would like to express my particular appreciation for an individual who I count as a friend, as I know many of you do: Edward Gramlich. Ned was scheduled to be on the program but his illness prevented him from making the trip. As many of you know, Ned has been a research leader in the topics we are discussing this weekend, and he has just finished a very interesting book on subprime mortgage markets. We will miss not only Ned's insights over the course of this conference but his warmth and wit as well. Ned and his wife Ruth will be in the thoughts of all of us.

Last Parties in the Hamptons?

Cars

Trucks

Money Gaming

Stopping Ron Paul

The Dirty Hands at BLS

Grimm's Fair Tales

Personal income increased $61.9 billion, or 0.5 percent, and disposable personal income (DPI) increased $57.3 billion, or 0.6 percent, in July, according to the Bureau of Economic Analysis. Personal consumption expenditures (PCE) increased $37.8 billion, or 0.4 percent. In June, personal income increased $45.7 billion, or 0.4 percent, DPI increased $36.5 billion, or 0.4 percent, and PCE increased $16.1 billion, or 0.2 percent, based on revised estimates.

 

(I'm laughing so hard at this - way over the consensus 0.3%, it's hard to paste it all in with a straight face...)

 

Private wage and salary disbursements increased $26.9 billion in July, compared with an increase of $28.7 billion in June. Goods-producing industries' payrolls increased $1.2 billion, compared with an increase of $5.2 billion; manufacturing payrolls increased $1.9 billion, compared with an increase of $4.2 billion. Services-producing industries' payrolls increased $25.7 billion, compared with an increase of $23.5 billion. Government wage and salary disbursements increased $1.9 billion, compared with an increase of $3.8 billion.

 

(The capper is the savings rate - which was 'statistically revised from a big negative number to a positive number a month or so back - this is rich!)

 

Personal saving -- DPI less personal outlays -- was $72.2 billion in July, compared with $52.0 billion in June. Personal saving as a percentage of disposable personal income was 0.7 percent in July, compared with 0.5 percent in June. Saving from current income may be near zero or negative when outlays are financed by borrowing (including borrowing financed through credit cards or home equity loans), by selling investments or other assets, or by using savings from previous periods. For more information, see the FAQs on "Personal Saving" on BEA's Web site.

 

(and just when I thought I'd read it all...)

Real PCE -- PCE adjusted to remove price changes -- increased 0.3 percent in July, compared with an increase of less than 0.1 percent in June. Purchases of durable goods increased 0.5 percent, in contrast to a decrease of 1.8 percent. Purchases of nondurable goods increased 0.4 percent, compared with an increase of 0.1 percent. Purchases of services increased 0.2 percent, compared with an increase of 0.3 percent.

PCE price index -- The PCE price index increased 0.1 percent in July, compared with an increase of 0.2 percent in June. The PCE price index, excluding food and energy, increased 0.1 percent, compared with an increase of 0.2 percent.

Department of Silliness

Libretto Check

Urgent: Something Sunday?

Just in from the predictive linguistics team at www.halfpasthuman.com:

"Igor here.

Clif has worked all day yesterday and all last night. And was back at it at 4 this morning when I checked in. We have a large data bubble of datas which are showing up for Sunday, 9-2.

Clif says that he will have part 1 posted by Saturday afternoon at the latest since so much of the data says that Sunday and Monday will be very nasty here in US.

He probably ain't wrong about this one. And I think that he is probably right about the 19th too. But anyway part 1 by late Saturday.

Everybody guard your pies. Igor out. "

No, I have no idea what the bubble is that is showing up in the 'time scanning' technology, but something 'out of the blue' Sunday/Monday seems to be coming...

Update: GDP

Happy numbers from happygov today:

Real gross domestic product -- the output of goods and services produced by labor and property located in the United States -- increased at an annual rate of 4.0 percent in the second quarter of 2007, according to preliminary estimates released by the Bureau of Economic Analysis. In the first quarter, real GDP increased 0.6 percent.

The GDP estimates released today are based on more complete source data than were available for the advance estimates issued last month. In the advance estimates, the increase in real GDP was 3.4 percent (see "Revisions" on page 3).

The increase in real GDP in the second quarter primarily reflected positive contributions from personal consumption expenditures (PCE) for services, exports, nonresidential structures, federal government spending, state and local government spending, and equipment and software that were partly offset by a negative contribution from residential fixed investment. Imports, which are a subtraction in the calculation of GDP, decreased.

The Market's Prison Camp Psychology

Web Bot Hits

Labor Suit

Republicorp Values

Trouble Over Bridged Waters

Computering

Strange, Stranger, Strangest

Stranger

Strangest

Release Events

Diamonds are for...

Dumb and Dumber

EarthLink Cuts

To Much Dough?

Publishing Opportunity

On Your Side?

Katrina Turns Two

Bush Library

The 9 MM Workshop

Update: The Fed's Thinking

As expected, the FOMC (Fed Open Market Committee) meeting notes were just posted.  I'll let you read them for yourself - I bolded a few things....

Minutes of the Federal Open Market Committee August 7, 2007 A meeting of the Federal Open Market Committee was held in the offices of the Board of Governors of the Federal Reserve System in Washington, D.C., on Tuesday August 7, 2007 at 8:30 a.m.

Present:

Mr. Bernanke, Chairman Mr. Geithner, Vice Chairman Mr. Hoenig Mr. Kohn Mr. Kroszner Mr. Mishkin Mr. Moskow Mr. Poole Mr. Rosengren Mr. Warsh

Ms. Cumming, Mr. Fisher, Ms. Pianalto, and Messrs. Plosser and Stern, Alternate Members of the Federal Open Market Committee Messrs. Lacker and Lockhart, and Ms. Yellen, Presidents of the Federal Reserve Banks of Richmond, Atlanta, and San Francisco, respectively Mr. Madigan, Secretary and Economist Ms. Danker, Deputy Secretary Ms. Smith, Assistant Secretary Mr. Skidmore, Assistant Secretary Mr. Alvarez, General Counsel Mr. Baxter, Deputy General Counsel Ms. Johnson, Economist Messrs. Connors, Evans, Fuhrer, Kamin, Rasche, Sellon, Slifman, Tracy, and Wilcox, Associate Economists Mr. Dudley, Manager, System Open Market Account Mr. Struckmeyer, Deputy Staff Director, Office of Staff Director for Management, Board of Governors Messrs. Clouse and English, Senior Associate Directors, Division of Monetary Affairs, Board of Governors Ms. Liang and Mr. Reifschneider, Associate Directors, Division of Research and Statistics, Board of Governors Messrs. Dale and Reinhart, Senior Advisers, Division of Monetary Affairs, Board of Governors Mr. Blanchard, Assistant to the Board, Office of Board Members, Board of Governors Mr. Meyer, Visiting Reserve Bank Officer, Division of Monetary Affairs, Board of Governors Ms. Dykes, Project Manager, Division of Monetary Affairs, Board of Governors Mr. Luecke, Senior Financial Analyst, Division of Monetary Affairs, Board of Governors Mr. Driscoll, Economist, Division of Monetary Affairs, Board of Governors Ms. Low, Open Market Secretariat Specialist, Division of Monetary Affairs, Board of Governors Mr. Connolly, First Vice President, Federal Reserve Bank of Boston Messrs. Judd and Rosenblum, Executive Vice Presidents, Federal Reserve Banks of San Francisco and Dallas, respectively Ms. Mosser and Mr. Sniderman, Senior Vice Presidents, Federal Reserve Banks of New York and Cleveland, respectively Mr. Cunningham, Vice President, Federal Reserve Bank of Atlanta Mr. Chatterjee, Senior Economic Adviser, Federal Reserve Bank of Philadelphia Mr. Hetzel, Senior Economist, Federal Reserve Bank of Richmond Mr. Weber, Senior Research Officer, Federal Reserve Bank of Minneapolis

---

In the agenda for this meeting, it was reported that advices of the election of Eric S. Rosengren as a member of the Federal Open Market Committee had been received and that he had executed his oath of office. By unanimous vote, the Federal Open Market Committee selected Brian F. Madigan to serve as Secretary and Economist until the selection of a successor at the first regularly scheduled meeting of the Committee in 2008. The Manager of the System Open Market Account reported on recent developments in foreign exchange markets. There were no open market operations in foreign currencies for the System's account in the period since the previous meeting. The Manager also reported on developments in domestic financial markets and on System open market operations in government securities and federal agency obligations during the period since the previous meeting. By unanimous vote, the Committee ratified these transactions. The information reviewed at the August meeting suggested that economic activity picked up in the second quarter from the slow pace in the first quarter. On average, the economy expanded at a moderate pace during the first half of the year despite the ongoing drag from the housing sector. While the growth of consumer spending slowed in the second quarter from its rapid pace in prior quarters, wages and salaries increased solidly and household sentiment appeared supportive of further gains in spending. Business fixed investment picked up in the second quarter after little net change in the preceding two quarters. Inventories generally appeared to be well aligned with sales at midyear. Overall inflation receded in June because of a decline in energy prices, while the core personal consumption expenditure (PCE) price index rose a bit less than its average pace over the past year. Private nonfarm payroll employment continued to increase at a healthy pace; the rise in July was about equal to the average increase over the first half of the year. Solid hiring in the service sector was partly offset by declines in construction and manufacturing employment. Most of the drop in construction employment occurred in jobs typically associated with nonresidential construction. Both the average workweek and aggregate hours ticked down in July. The unemployment rate edged up to 4.6 percent; it had remained between 4.4 percent and 4.6 percent since September 2006. Industrial production picked up in the second quarter after little net change over the preceding two quarters. The increase was largely attributable to a smaller drag from inventory liquidation and a modest improvement in net exports. Manufacturing production rose solidly in the second quarter because of substantial increases in the output of light motor vehicles, other durable consumer goods, business equipment, construction supplies, and materials. Production in high-tech industries rose relatively modestly in comparison to its longer-run growth. The growth of real consumer spending slowed considerably in the second quarter after substantial increases earlier in the year. The deceleration primarily reflected sharply slower growth in outlays for goods as purchases of motor vehicles decreased noticeably. Although a spike in energy prices eroded real income growth in the second quarter, there were solid gains in wages and salaries. Despite continued softness in house prices, household wealth moved markedly higher in the second quarter, mostly reflecting rising equity prices. Demand for housing in the second quarter was restrained by higher interest rates and by tightening credit conditions in the subprime mortgage market. Sales of new and existing homes in the second quarter were down substantially from their average levels in the second half of 2006. In June, single-family housing starts held steady at their May rate, although adjusted permit issuance slipped further. The combination of decreased sales and unchanged production left inventories of new homes for sale still elevated. House-price appreciation continued to slow, with some measures again showing declines in home values. Outlays for nonresidential construction rose rapidly in the second quarter. Business spending on equipment and software, other than transportation equipment, posted a solid increase after being flat, on net, in the preceding two quarters. The rise was led by a rebound in purchases of industrial machinery. Expenditures for computers, software, and communications equipment grew moderately in the second quarter after a brisk first-quarter increase. Spending on transportation equipment again declined sharply. The drop was largely a continuation of the payback from exceptionally strong purchases of heavy trucks in 2005 and 2006 in anticipation of tighter emissions standards on diesel engines. New orders for medium and heavy trucks edged up in the second quarter, though they remained at low levels, suggesting that the downturn in business spending on motor vehicles may be ending. Real nonfarm inventory investment was a roughly neutral influence on real GDP growth in the second quarter after having held down the growth rate by an average of 1 percentage point in the previous two quarters. Businesses made considerable progress in reducing the apparent inventory overhangs that had emerged at the end of 2006. In the motor vehicle sector, low rates of assemblies in the first half of this year left inventories of domestic light vehicles at the end of the second quarter fairly well aligned with sales; however, inventories rose again in July as production accelerated and sales remained weak. More broadly, the number of purchasing managers who viewed their customers' inventory levels as too high in July only slightly exceeded the number who saw them as too low. The U.S. international trade deficit widened in May, as a rise in imports more than offset an increase in exports. Within imports, most categories of goods recorded an increase, as did services. The value of oil imports rose sharply, boosted by a jump in the price of imported oil. The increase in exports was largely attributable to capital goods, including aircraft, computers and semiconductors, and industrial supplies. Economic activity in advanced foreign economies expanded somewhat less rapidly in the second quarter than in the prior quarter, but nonetheless appeared to have grown faster than trend, reflecting upbeat business and consumer confidence as well as favorable labor market conditions. Although many of those economies recently experienced sharp declines in equity prices and widening credit spreads amid deepening concerns about credit quality, these developments occurred too late in the intermeeting period to have any apparent effect on incoming data. In Japan, survey evidence suggested that its economy expanded moderately. Survey evidence indicated high levels of economic sentiment and strong capital spending plans among large manufacturers. In the euro area, survey measures of business and consumer confidence remained near record highs in July, and labor market conditions generally continued to improve in May and June. In the United Kingdom, real GDP growth rose in the second quarter, an increase driven mainly by robust expansion in the service sector. Canada's growth seemed to continue to pick up from its disappointing rate posted in much of last year. Recent data indicated that economic activity in emerging-market economies remained generally strong. The Chinese economy continued to expand at a rapid pace, and activity elsewhere in emerging Asia appeared to have accelerated. In Latin America, Mexican indicators pointed to a weaker-than-expected rebound in the second quarter, whereas Brazil and Argentina appeared to have experienced solid growth. While equity prices fell and bond spreads widened in several emerging-market economies, particularly in Latin America, there was no evidence that this increased volatility had yet weighed on economic activity. U.S. headline consumer price inflation slowed in June as energy prices flattened out after a rapid increase over the preceding three months. Core PCE prices rose 0.1 percent in June, as a decline in the price index for core goods nearly offset a rise in the index for core services. The readings on core PCE price inflation in recent months had been held down, in part, by declines in prices of some categories of goods, such as apparel, that tend to be volatile on a monthly basis. Household surveys conducted in early July indicated that the median expectation for inflation over the next year remained unchanged from June's elevated level despite declines in gasoline prices in both months. Median expectations of longer-term inflation ticked up and were near the top of the narrow range that had prevailed over the past few years. The employment cost index rose somewhat faster in the second quarter than over the preceding three months, and the twelve-month change was slightly higher than that of a year ago. At its June meeting, the Federal Open Market Committee (FOMC) maintained its target for the federal funds rate at 5-1/4 percent. The statement announcing the policy decision noted that economic growth appeared to have been moderate during the first half of the year, despite the ongoing adjustment in the housing sector. The economy seemed likely to continue to expand at a moderate pace over coming quarters. Readings on core inflation had improved modestly in recent months. However, a sustained moderation in inflation pressures had yet to be convincingly demonstrated. Moreover, the high level of resource utilization had the potential to sustain those pressures. The Committee's predominant policy concern remained the risk that inflation would fail to moderate as expected. Future policy adjustments would depend on the evolution of the outlook for both inflation and economic growth, as implied by incoming information. Market participants had largely anticipated the FOMC's decision at its June meeting to leave the target for the federal funds rate unchanged, although the accompanying statement expressed greater concern about inflation than investors reportedly had foreseen and caused the expected path for the federal funds rate to edge higher. Expectations for a policy easing diminished somewhat more in the wake of favorable economic news early in the period. Subsequently, the semiannual Monetary Policy Report to the Congress and the accompanying testimony, which reported lower projections for real GDP growth than investors apparently expected, appeared to prompt a downward shift in investors' expected path for the federal funds rate. Later in the intermeeting period, growing apprehension that turmoil in markets for subprime mortgages and some low-rated corporate debt might have adverse effects on economic growth led investors to mark down their expectations for the future path of policy considerably further. At the same time, measures of long-horizon inflation compensation based on inflation-indexed Treasury securities edged down. Financial market conditions were volatile during the intermeeting period, particularly over the last few weeks of the interval. Yields on nominal Treasury securities fell on balance, possibly reflecting an increased preference by investors for safe assets as well as revisions in policy expectations. Conditions in markets for subprime mortgages and related instruments, including segments of the asset-backed commercial paper market, deteriorated sharply toward the end of the period. Credit conditions for speculative-grade corporate borrowers tightened substantially, as investors pulled back from higher-risk assets. Spreads on speculative-grade bonds increased to near their highest levels in the past four years. A number of high-yield bond and leveraged loan deals intended to finance leveraged buyouts were delayed or restructured, though other high-yield bonds were issued. In contrast, credit conditions for investment-grade businesses and prime households were relatively little affected by the market turbulence. Issuance of investment-grade bonds continued. Yields on investment-grade corporate issues rose relative to yields on Treasury securities, but because yields on Treasuries declined, yields on investment-grade bonds were about unchanged on net. Nonfinancial commercial paper outstanding posted a modest gain in July, while the pace of bank lending to businesses picked up from an already solid clip. Mortgage loans and consumer credit appeared to remain readily available to households with strong balance sheets, although late in the period some evidence pointed to diminishing availability of jumbo mortgages. Broad stock price indexes declined substantially, on net, over the intermeeting period despite generally solid second-quarter earnings reports. Share prices of financial firms fell especially sharply, reportedly a reflection, in part, of concerns about exposures to subprime mortgages and about the effect of a potential slowdown in merger activity on operating profits. The foreign exchange value of the dollar against other major currencies fell, on balance. Growth of home mortgage debt likely slowed again in the second quarter, mainly reflecting the decline in home-price appreciation over the past year and the drop in home sales. Overall consumer credit expanded moderately through the year ending in May. The debt of nonfinancial businesses expanded at a robust pace in the second quarter but slowed in July. After rising at a rapid pace in the first half of the year, M2 grew at a more moderate rate in July. In preparation for this meeting, the staff lowered somewhat its forecast of real GDP growth in the second half of 2007 and in 2008. The reduction was in part due to the annual revision of national income and product accounts (NIPA), which revealed somewhat less rapid growth in output and productivity during the past three years than previously reported and led the staff to trim its estimates of the growth rates of structural productivity and potential GDP; the reduction also reflected less accommodative financial conditions and the softer tone of some near-term indicators. The near-parallel revisions to the forecasts for potential and actual GDP left the staff's projections for resource utilization about unchanged. Although part of the recent favorable monthly readings on core PCE price changes was expected to be transitory, the staff revised down slightly its forecast for core PCE price inflation in the second half of 2007; however, in light of slower growth in structural productivity and prospects of somewhat greater pressure from import prices, the staff left its projection for core PCE inflation unchanged for 2008. Overall PCE inflation was expected to slow in the second half of 2007 from the elevated pace of the first half, as the effects of the sizable increases in food and energy prices earlier this year abated, and then to move down a bit further in 2008. In their discussion of the economic situation and outlook, meeting participants indicated that they still saw moderate economic expansion in coming quarters as the most likely outcome but that the downside risks to growth had increased. Participants reported that economic expansion had continued at a moderate pace in many regions of the country despite further weakness in the housing sector. Going forward, most participants anticipated that growth in aggregate demand would be supported by rising employment, incomes, and exports, with the result that growth in actual output probably would remain close to growth of potential GDP despite the ongoing adjustment in the housing sector. Several mentioned that the revisions to the NIPA pointed to a modest downward adjustment in projected growth of actual and potential GDP, but thought that potential output growth was likely to be a bit higher than forecast by the staff. However, recent spending indicators had been mixed, and credit conditions had become tighter, suggesting greater downside risks to growth. Participants generally expected that core inflation would edge lower over the next two years, reflecting a slight easing of pressures on resources, well-anchored inflation expectations, and the waning of temporary factors that had boosted prices last year and early this year. Participants anticipated that total inflation would slow as well, particularly if market expectations of a modest decline in energy prices in coming quarters were to prove correct. But they were concerned that the high level of resource utilization and slower productivity growth could augment inflation pressures. Against this backdrop, the Committee agreed that the risk that inflation would fail to moderate as expected remained its predominant policy concern. Participants agreed that the housing sector was apt to remain a drag on growth for some time and represented a significant downside risk to the economic outlook. Indeed, developments in mortgage markets during the intermeeting period suggested that the adjustment in the housing sector could well prove to be both deeper and more prolonged than had seemed likely earlier this year. Participants noted that investors had become much more uncertain about the likely future cash flows from subprime and certain other nontraditional mortgages, and thus about the valuation of securities backed by such mortgages. Consequently, the markets for securities backed by subprime and other non-traditional mortgages had become illiquid, and originations of new subprime mortgages had dropped sharply. While these markets were expected to recover over time, it was anticipated that credit standards for these types of mortgages would be tighter, and interest rates higher relative to rates on conforming mortgages, in the future than in recent years. However, participants also observed that mortgage loans remained readily available to most potential borrowers, and that interest rates on conforming, conventional mortgage loans had declined in recent weeks, providing some support to the housing sector. Participants thought that consumer expenditures likely would expand at a moderate pace in coming quarters, supported by solid gains in employment and real income. Though growth in consumer spending had slowed in the second quarter, the slowing likely reflected temporary factors in part, including some payback from unusually strong growth in prior quarters and the surge in gasoline prices. Several participants noted the risks that house prices could decline significantly and that credit standards for home equity loans could be tightened substantially as factors that could weigh on consumer spending. However, the sizable upward revision--from negative to positive--in estimates of the personal saving rate during the past three years suggested somewhat less need for households to rebuild their savings. Participants expected that business investment would be supported by solid fundamentals, including high profits, strong business balance sheets, and moderate growth in output. Recent financial market developments were thought unlikely to have an appreciable adverse effect on capital spending. Although lenders recently appeared to be less willing to extend credit for financial restructuring, the supply of credit to finance real investment did not appear significantly diminished. Funding had become more costly and difficult to obtain for riskier corporate borrowers, but there had been little net change in the cost of credit for investment-grade businesses. Also, businesses in the aggregate continued to have sufficient internally generated funds to finance the expected level of real investment. Nonetheless, participants recognized that conditions in corporate credit markets could change rapidly, and that adverse effects on business spending were possible. Moreover, heightened asset market volatility and the associated increase in uncertainty, if they were to persist for long, could lead businesses to pare capital spending plans. Still, participants judged that continued growth of investment outlays going forward was the most likely outcome. Rapid economic growth abroad and the decline in the foreign exchange value of the dollar in recent quarters were seen as likely to boost U.S. exports and thus support the economic expansion. Some participants also anticipated that growth in government purchases of goods and services would support continued growth in output. The data on core inflation received during the intermeeting period were favorable, but meeting participants believed that the readings for the past few months likely had been damped by transitory factors and did not provide reliable evidence that the recent level would be sustained. Still, participants thought that a slight decrease in pressures on resources and the stability of inflation expectations likely would foster over time a gradual moderation in core inflation. Participants anticipated that total inflation would slow as well, particularly if market expectations for a modest decline in energy prices in coming quarters were to prove correct. Participants remained concerned about factors that could augment inflation pressures, including the continuing high level of resource utilization and slower trend growth in productivity. Some also pointed to the strength of aggregate demand worldwide and the depreciation of the dollar, and their potential effects on the prices of imports and globally traded commodities, as contributing to upside risks to U.S. inflation. Several participants noted significant increases in wages in their Districts, particularly in the service sector, but it was also observed that that overall gains in labor compensation had remained moderate, suggesting that sustainable rates of resource utilization could be slightly higher than typically estimated. On balance, participants continued to agree that risks to the outlook for sustained moderation in inflation pressures remained tilted to the upside. In their discussion of monetary policy for the intermeeting period, Committee members again agreed that maintaining the existing stance of policy at this meeting was likely to be consistent with the overall economy expanding at a moderate pace over coming quarters and inflation pressures moderating over time. The expansion would be supported by solid job gains and rising real incomes that would bolster consumption, and by increasing foreign demand for goods and services produced in the United States. The ongoing adjustment in housing markets likely would exert a restraining influence on overall growth for several more quarters and remained a key source of uncertainty about the outlook. The recent strains in financial markets posed additional downside risks to economic growth. Members expected a return to more normal market conditions, but recognized that the process likely would take some time, particularly in markets related to subprime mortgages. However, a further deterioration in financial conditions could not be ruled out and, to the extent such a development could have an adverse effect on growth prospects, might require a policy response. Policymakers would need to watch the situation carefully. For the present, however, given expectations that the most likely outcome for the economy was continued moderate growth, the upside risks to inflation remained the most significant policy concern. In these circumstances, members agreed that maintaining the target federal funds rate at 5-1/4 percent at this meeting was appropriate. In light of the recent economic data, anecdotal information, and financial market developments, the Committee agreed that the statement to be released after the meeting should indicate that economic growth was moderate during the first half of the year and that the economy seemed likely to continue to expand moderately in coming quarters, supported by solid growth in employment and incomes and by robust economic growth abroad. Members also agreed that the statement should incorporate their view that downside risks to growth had increased somewhat, and should mention volatile financial markets, tighter credit conditions for some households and businesses, and the ongoing correction in the housing market. In addition, the Committee agreed that the statement should again note that readings on core inflation had improved modestly in recent months but did not yet convincingly demonstrate a sustained moderation of inflation pressures, and that the high level of resource utilization had the potential to sustain inflation pressures. Against this backdrop, members judged that the risk that inflation would fail to moderate as expected continued to outweigh other policy concerns. At the conclusion of the discussion, the Committee voted to authorize and direct the Federal Reserve Bank of New York, until it was instructed otherwise, to execute transactions in the System Account in accordance with the following domestic policy directive: "The Federal Open Market Committee seeks monetary and financial conditions that will foster price stability and promote sustainable growth in output. To further its long-run objectives, the Committee in the immediate future seeks conditions in reserve markets consistent with maintaining the federal funds rate at an average of around 5-1/4 percent." The vote encompassed approval of the text below for inclusion in the statement to be released at 2:15 p.m.: "Although the downside risks to growth have increased somewhat, the Committee's predominant policy concern remains the risk that inflation will fail to moderate as expected. Future policy adjustments will depend on the outlook for both inflation and economic growth, as implied by incoming information." Votes for this action: Messrs. Bernanke, Geithner, Hoenig, Kohn, Kroszner, Mishkin, Moskow, Poole, Rosengren, and Warsh. Votes against this action: None. It was agreed that the next meeting of the Committee would be held on Tuesday, September 18, 2007. The meeting adjourned at 1:25 p.m. Notation Vote By notation vote completed on July 18, 2007, the Committee unanimously approved the minutes of the FOMC meeting held on June 27-28, 2007.

Market Reaction?  We'll see later in the session as the market weighs the notes - which seem to my read to be a lot longer and o-pen to interpretation than the Greenspan notes. I feel like there will be an Econ 406 quiz at the end of this one... 

Want my opinion?  The Fed is not being clear enough.  The market doesn't like equivocation and there's a little something in the statement for everyone.  That makes me nervous as hell.  I expect most investors will feel the same way...but we'll see how the close looks today.  1987 or 1929, anyone?

GSOD

If This were 1929 or 1987...

Piling On

Bye Bye Gonzalez?

Rumors are flying about about the possible resignation of Alberto Gonzalez as US Attorney General.  NY Times says it will happen later today.

Let me see: Laying the foundation for torture, extending federal wiretapping, refusing Congressional demands,  suspending habeas corpus, massive expansion of Executive power and the diminution of Congress role in national conduct of foreign policy?  Yeah, I'd say it's time to resign, too.

Now, if Michael Chertoff takes over from him, who will watch Homeland Security?

Web bot project subscribers have to chalk up another hit: Bushco resignations ramping up late summer/fall.  The tally: Rove, Gonzalez, snow...who will be next to jump ship? Stay tuned.

Pumping the Economy

If you got the feeling over the past couple of weeks that things are not all rosy, like they're made out to be on the TV/LameStreamMedia, you're right.  But, the signs of financial desperation to keep the economy afloat are subtle, so an extra slug of the bean this morning while we go through some of the tell-tale signs that all is not as pretty, as we might wish.

---

"Hi George,

Dawned on me this week that gasoline prices, at least here in San Diego, have dropped some $.50+/ gal. in the last 3 months or so. No one seems to be commenting on it and I wonder if it's an attempt to soften the overall implosion of the economy for the average person. Just strange when crude is over $70 and it means nothing to the pump price...

Keep up all the great work and let's have at least an entertaining September..."

This reader email is a great example of what I call "Street Level Economics".  Sure enough, if you check this morning's papers, you'll find headlines like "Price at gas pump slides 3-cents in two weeks"

To be sure, the headlines seem contradictory.  One headline says that "Oil trades near one-week high on improved US economic outlook."  But, another headline claims that "Oil prices drop on profit taking".  And, yet another suggests that no, what we are seeing is: "Oil sheds gains: Hols near $71 on supply worries."   All of which seems confusing enough that the average person (including me) could be left head-scratching and wondering WTF?

Here's the point:

• Oil companies don't want to see a recession in America any more than do big retailers, home builders, or any other industry group.  In order to keep people rolling (as in driving) they want you to consume as much of their product as they can produce, at the highest possible price point.  While it's true that they could make more per gallon by bumping up the price at the pump, the consumers of America are a little gun-shy about spending right now because with refi's drying up, things like long driving vacations for the Labor Day weekend can be easily put on the back burner.  Who needs to drive, anyway, with HDTV and lots to watch over the weekend, anyway?  So, as a result, the oil companies price their product for maximum [price * volume] revenue.

• The wholesalers are keeping prices firm (peak oil, peak debt, and peak consumption being all intermarried and all) because they know that the whole world will consume more energy than replacement energy is discovered for a very long time to come.  Even though places like Africa hold promise of being able to make up for much of the Middle East's declining output over time, the ugly reality is that Africa is not a highly stable place and as the Gulf Times reports today, "Western oil firms face growing troubles in African countries." 

There, don't you feel more comfortable with those momentarily weak gasoline prices?

---

Add to this, the sweetheart deals that the Fed is pushing at the discount window (and doing things like taking unpriceable collateralized whatever's as security) - a previously unheard of practice -  and you can see just under the surface, how really, really, dangerously close to a mini-crash like 1987 we are. Next week, for example.

---

The New York Times piece Sunday forecasting "Drop foreseen in median price of U.S. homes" comes as little surprise.  Along the same line, being an UrbanSurvival reader, the headline that "Flips, scams blames in California housing decline" will come as no shocker to you, either. 

About two years ago I told a former colleague who lived in the Golden State that refinancing his home to 100% plus was a very, very bad idea.  I'm usually right on such things, over time.  But, at least I can say I tried to warn 'em.

---

Not that the R word (as in "recession") is exactly a secret:  "Ex-treasury Secretary Larry Summer warns of risks 'greater than any since aftermath of 9/11' reports Ambrose Evans-Pritchard."  OMG  (which I interpret as Oh My Goodness, of course): When do I cross over from being a nut job/lone voice in the wilderness, to being an economic sage?

Peak Oil = Peak Revenue

People in Trinidad & Tobago are looking at their current production rates and wondering what happens to government tax revenues when oil and gas output declines.  No government's going to take declining revenue laying down...

---

You know, I was having a hard time understanding why people were fighting Sri Lanka so much.  Mystery solved!  Oil leases are being let in the area between Sri Lanka and India.  Aha!

Now, when I read headlines like "Sri Lanka says kills 9 rebels in northwest clashes" and "Sri Lanka defuses suspected rebel bomb near pageant" I read is as fight over future oil/resources.

Career of the Future

Noticing the recent spate of kidnappings in places like Nigeria, I got to asking myself one of those odd/Monday morning kinds of questions:  How long before vocational schools and distance-learning universities start offering courses on how to be a Hostage Negotiator?  Look at all the stories out that using the term "hostage" - it's an eye-popper.  Yet, rather than worry about the obvious social implications, why not figure out a way to profit by it?  Being a certified hostage negotiator seems like it might be one of those 'jobs of the future' - along with being a machinist, which I argue will be one of the trades repatriated to America (on-shored) once the mania of off-shoring runs its course, and that's a cinch as the dollar collapses...

Terra's Intrusions

The week starts off with more "terra intrudes" that the linguistics reports from www.halfpasthuman.com have been talking about since the first of the year.  The 'flood' meme is alive and well ion the Midwest, where water is still in the streets of many cities, in particular, those in Ohio.

---

Too much water one place, and not enough in another.  That's the case with the Utah wildfires which has thousands of homeowners fleeing.  And in Greece, the wildfire death toll continues to mount.

---

Hurricane Dean leftovers are bringing muggy weather and a few thunder-bumpers to the Southland (local parlance for LA).

---

Having gone through what has been an extreme milk summer here in East Texas, I keep waiting for more folks to see that the changes in weather this year are not going to be good for food prices by next spring.  Oh, it's not out in the mainstream yet- and I don't expect it until late winter, but there are a few headlines crossing even now that beg the question "What's the weather doing to food prices going forward?"  "Cold weather cuts Kenya's tea output 4 percent in July" says a Reuters report out of Africa. "Warm weather worries livestock producers" in Australia.

---

PartZero of the www.halfpasthuman.com linguistic series focused out to May 2008 is posted - lots of high immediacy values being processed.  Big emotional release period due to start a week from today...seat blets?

Invest in Wheaties?

Every once in a while I get a craving for a bowl of Wheaties - and given the price of wheat lately, I'm beginning to wonder if Wheaties might not be such a bad investment.  "OK, Ure, what's this about?" you're asking.  Well, "Soaring wheat prices raise Japanese food costs" is one reason, and another is a report out of France: "Wheat price surge bites baguettes."  Seems to me that Wheaties have held their price better than Countrywide stock, lately...

Murder Suspects

Russia has arrested 10 people in connection with the murder of a Russian reporter.

New Trade War

As I explained last week, I'm looking at the scuffles over Chinese imports (pet food/pajamas, shrimp, toys, etc) and US exports to China as mere the public work-out of China's apparent refusal to sign up for more puffed up US consumer debt paper (of the kind currently decaying on global markets). 

So, when I see headlines like "China says US also to blame for toy safety scares" I take it with a grain of salt: "Subprime crisis will slow China's currency gains" says a Bloomberg report.

Gold Up?

Here's the kind of headline I like: "Gold may climb on demand for dollar alternative, survey says." 

News from Elliott Wave International

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Write when you get rich,

 

George Ure, The People's Economist

 

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