Nov032015
Will housing hold back the economy for the next decade?
Housing will be the front lines in the battle over interest-rate policy during the next decade because higher rates will disproportionately impact housing.
The federal reserve signaled their intention to raise rates beginning in 2013. The infamous “taper tantrum” of May 2013, when mortgage rates rose from 3.5% to 4.5% in about 6 weeks, was a direct result of Ben Bernanke’s announcement that zero percent interest rates wouldn’t last forever.
We are now reaching the end of 2015, and to the surprise of most economists (but not readers here) it appears unlikely interest rates will rise this year; however, at some point interest rates will rise. The only questions are when, and by how much.
One school of thought is that rates will only rise as fast as incomes can support higher borrowing costs. Intuitively, this makes sense because if rates rise too quickly and borrowers can’t support the payments, the economy will suffer, and the federal reserve will be compelled to lower rates. Unfortunately, it may be more complicated than that.
Housing is the most sensitive component of the economy to changes in interest rates because housing is almost exclusively financed by long-term borrowing. Even small increases in borrowing costs have a large impact on the amounts borrowed. For example, for each 1% mortgage rates go up, borrowing costs rise 11%. A 1% rise in mortgage rates, similar to what happened in the taper tantrum, would price out a large number of marginal buyers.
So what happens if the strength of the economy warrants or demands higher rates but housing can’t absorb the higher costs? This is the big unanswered question.
If the economy starts to heat up, the federal reserve will be under pressure to raise rates to combat inflation. If they then raise rates, it will cause housing to sputter or tank, and since homebuilding is a significant part of the economy, a decline in housing will drag down everything else and prompt the federal reserve to lower rates again.
I believe the economic drag caused by the impact higher interest rates will have on housing will be the biggest economic story of the next decade. Housing will be the laggard holding back the economy for the foreseeable future.
Worries about the housing market are overblown
October 29, 2015, Mike Fratantoni
Lynn Effinger recently wrote an opinion piece here on HousingWire in which he surmised that we are in a housing bubble. He suggests that Fannie Mae and Freddie Mac (the GSEs), the Federal Housing Administration and the Federal Reserve are once again “setting the stage” for another housing crisis.
Lynn Effinger is right to be concerned about how policy has been used to reflate the old housing bubble; however, I have the same concerns with his premise as I have with everyone calling a housing bubble today: this bubble won’t pop. The old housing bubble was reflated with stable loan terms, and although to some that difference is semantic, it’s the difference that makes all the difference.
Regardless of what may happen with interest rates and prices, the people who borrowed money with conventionally amortizing, fixed-rate mortgages over the last eight years will not default. Further, even if we had an economic upheaval rivaling the Great Recession, any defaults would merely be can-kicked until the market regained health, just as lenders did over the last several years.
If anything, the overcorrection by regulators and trepidation by lenders has created an environment where borrowers and private capital are both left sitting on the sidelines, and access to credit remains quite tight relative to historical norms.
This is just wrong. Despite industry spin, mortgage lending standards are not tight. People with FICO scores below 620 can obtain FHA loans with only 3.5% down, and neither the FHA or the GSEs are subject to the 43% DTI cap until 2017. FHA standards are not much above subprime.
Real estate industry lobbyists, like the author of this article, continually support relaxed lending standards. In 2004 they watched all of their dreams come true as all mortgage standards were abandoned causing a large boost in transaction volume and much higher home prices. Rather than being the panacea they envisioned, the abandonment of lending standards inflated a massive housing bubble that pulled forward demand, caused a deep house price crash, lowered home ownership rates to 48-year lows, and caused an 80% reduction in new home construction — a condition the industry has not recovered from.
There is no question that the government remains a larger force in the housing market and is focused on protecting consumers. However recent actions by the FHA, the Department of Justice and the Consumer Financial Protection Bureau are more likely to constrain rather than expand the availability of credit.
They have levied significant penalties to hold lenders accountable and ensure that the mistakes made in the run up to the crisis never happen again. And as such, they have overcompensated and created an environment where qualified, responsible buyers are being kept from the home purchase market.
This is also bullshit.
Affluent commissioned salespeople, self-employed, newly employed, and retirees who don’t have steady paychecks have tremendous difficulty getting a mortgage because they either: report inconsistent income to the IRS, cannot provide extended income history from a new employer, or do not have sufficient current income to qualify but are trying to keep some cash in the bank or delay paying taxes on an IRA distribution. Those borrowers should not be given loans because they are likely to default.
In fact, the homeownership rate remains near a 26-year low in this country,
Actually, it’s at a 48-year low.
and credit still remains tight.
We’ve already established this is spin and bullshit.
The Mortgage Bankers Association’s Mortgage Credit Availability Index reinforces the notion that although credit has improved marginally over the last year, primarily for borrowers seeking jumbo loans, it is nowhere near where it was during the housing bubble (Chart here: MCAI Longview).
He is suggesting the complete abandonment of all lending guidelines during the housing bubble is the gold standard we should compare to. This is crazy.
Of course lending standards are tighter today than they were during the housing bubble because back then, we didn’t have any standards — literally. We had a program called the NINJA loan, which means no job, no income, no assets — and lenders actually gave people loans under those qualifying conditions! If you don’t need a job, income, or assets, what do you need? A pulse?
Furthermore, the CFPB’s Ability to Repay/Qualified Mortgage rules have effectively eliminated the unsustainable lending products and instruments that substantially contributed to the 2005-2007 boom, including no-doc loans, subprime, negative amortization, extended term loans, balloons, ARMs with deep teaser rates, among others.
This is true, and this is the primary reason I don’t believe we are in a housing bubble now. The reflation of the old housing bubble is blown with low mortgage rates applied to stable loan products.
Housing markets are driven by underlying changes in housing supply and demand.
And mortgage rates below 4%, which is the primary source of demand.
While new construction has picked up, we remain just above the pace of single-family starts seen at the worst point in the 1990-1991 recession. And inventories of homes remain extremely tight in many markets.
Housing demand is driven by the job market and demographics.
With an unemployment rate of 5.1%, we are approaching full employment. In terms of demographics, the Millennial generation, the largest in history, is now moving out of their parents homes and into their own.
He is ignoring the housing headwind nobody saw coming, the declining labor participation rate.
With the oldest millennials being in their early 30’s, simple math dictates a tectonic sea change is afoot. More housing, both rentals and owner occupied, will be required to meet the needs of the approximate 1.4 million new households annually for the decade ahead.
Compared to the roughly 600k households formed annually during the recession, this huge increase will require new homes that will need mortgages. (Household Formation). And incidentally MBA’s forecast calls for a slow but steady increase to meet this significant demand (Forecast).
These forecasts are overly optimistic, as all industry forecasts are, but the underlying trend he points to is there. We will need more housing units soon. Whether this be rental or owner-occupied remains to be seen, but the need will be there to house the next generation. If there is any bullish case to be made, it rests on this point.
It is not surprising that, given the depths of the last housing bubble, some are looking for an opportunity to predict the next one. A stopped clock is right twice a day.
That’s a pretty strong slam, particularly from an industry shill who completely missed the housing bubble. Consider this gem from a report he authored in 2006: “…even if home prices remain flat or even decline somewhat from their current level, it is unlikely that there will be large numbers of borrowers who are underwater as a result … we do not expect any significant decline in mortgage credit quality.” Prescient genius, right? He couldn’t have been more wrong. As a housing bull, his stopped clock is right again.
However in this case, the current regulatory environment and household formation trends reveals a different reality.
His core reasoning is correct. The current regulatory environment created stability in the housing market. Despite fears of another bubble, I believe house prices will remain stable, and perhaps even appreciate slightly as new household formation drives demand.
Everything depends on mortgage rates. If rates go too high too fast, the demand won’t translate into enough dollars to warrant new construction, but if rates remain low and rise only slowly, sales volume will reflect the demand of new household formation, and price will reflect the intersection between mortgage rates and wage growth.
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China’s Money Exodus
Here’s how the Chinese send billions abroad to buy homes
November 2, 2015
http://www.bloomberg.com/news/features/2015-11-02/china-s-money-exodus
Nobody is bringing this money back to China.
Wishful thinking.
No, it’s reality
People are moving their families here to avoid living in the pollution and corruption of China, headed for collapse
While it may be heading out today, that is not a permanent trend. It could just as easily reverse course.
I suspect most local realtors would see foreign capital flow driven markets (such as Irvine) as only one-way…inbound.
http://www.reuters.com/article/2015/09/30/china-banking-crime-idUSL3N1204B820150930
The chinese government will first completely block the flow with tons of arrests and maybe even some executions…then they will hold family members hostage until the money is returned.
If there’s truth to the reports that China wants its currency to become a reserve currency competing with the US Dollar, then its capital controls must loosen, not tighten.
I have a difficult time imagining the Yuan becoming a reserve currency. The true value of any currency is the sum of the assets, goods, and services in the underlying economy. So much of China’s wealth is an illusion created by ongoing currency manipulation. If capital controls do loosen, which is prerequisite to becoming a reserve currency, the assets in China, particularly the real estate assets would become revalued in other currencies. Who would invest in Chinese real estate without the explicit protection of real estate values by the Chinese government and central bank? Nobody would.
I do not believe the communist government will give up the power they hold over their currency.
Giving up it’s power is inevitable, but the time it will take may be massive.
Irvine will not become more Orange County white trash, I’m willing to bet the house on it.
“The Chinese spent almost $30 billion on U.S. homes in the year ending last March, making them the biggest foreign buyers of real estate. Their average purchase price: about $832,000. Same trend in Sydney, where Chinese investors snap up a quarter of new homes and are forecast to double their spending by the end of the decade.”
What if Chinese money spent on US housing doubles from $30B to $60B over the next decade? Irvine could be built-out by then. Great Park still has a lot of housing to develop and Orchard Hills has two more villages planned.
Maybe twenty years from now I’ll be able to tell fables about how omniscient I was back in 2015 to purchase a new Irvine house at 3.5% knowing that its value would double…
Maybe London or Hong Kong real estate values will continue to rise for the same reasons…
http://www.ritholtz.com/blog/wp-content/uploads/2015/10/ubs.jpg
I think it’s more likely ICE and the FBI are going to come rolling through your new neighborhood and seizing cars/houses/people than the amount doubling.
Couple of questions:
1) The money transfer methods described in the Bloomberg article (http://www.bloomberg.com/news/features/2015-11-02/china-s-money-exodus) are at best not exactly legal.
Given that fact, how does anyone produce an accurate accounting of how much money is actually being moved and for what purpose? Seems that $30B figure cited to purchase US real estate could just of been pull out of the sky for all I know.
2) Lets pretend for the moment that the $30B figure cited in the Bloomberg article is in fact accurate. In the grand scheme of things what % of all US real estate transactions does $30B actually represent?
So in summary, I am always skeptical of stories like this one, especially when they are used by the real estate industrial complex to promote fear, uncertainty and doubt.
There is no way they could possibly track any of this.
That’s exactly why it’s occurring.
This quote reminds me of our discussion from a few days ago:
Don’t you see that the end is near?
Expatriated money laundering has been occurring since biblical times. It’s a complete joke to expect it to end…as the people who could enforce any control are the ones who are doing it the most.
At some level controlling the flow of money is like controlling the flow of drugs. They can work to hold back the tide, but efforts to curb the laws of supply and demand are ultimately hopeless.
I was struck by the similarities between smuggling and getting money out of China. If China had a freely exchangeable currency, why would such controls be necessary?
Like estimating the drug trade, no accurate estimates are possible. People will inflate or deflate their estimates depending on their agenda.
Will Weakening the FSOC Put the Country at Risk of Another Financial Crisis?
Yes, it will
The Financial Stability Oversight Council (FSOC) was created out of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 in order to bring the financial regulatory community together to respond to risks to the financial system in order to prevent another financial crisis.
Attempts are being made by financial industry advocates to weaken the FSOC. Those advocates are accusing the Council of being overzealous in protecting the financial industry. Weakening the FSOC would only prevent the Council from identifying risks to the financial system, therefore putting the country at risk of another devastating financial crisis, according to an op/ed piece by Deputy Assistant Secretary for the FSOC at the U.S. Department of the Treasury Patrick Pinschmidt on MSNBC on Monday.
“Unfortunately, there is legislation pending in both houses of Congress that would heavily tip the scales back in Wall Street’s favor and leave our country vulnerable to another crisis,” Pinschmidt said. “These changes would take the council’s methodical process and mire it in a series of protracted, bureaucratic steps that would require the council to spend as many as four years studying a company before it could take any action. Some of these proposals would also raise the standard for action by the council to a dangerously high threshold, all but ensuring inaction despite the risk to financial stability.”
Senators demand answers on New Jersey zombie foreclosure crisis
According to a recent report from RealtyTrac, the state of New Jersey has more zombie foreclosures than any other, and now, the state’s two senators are asking why the problem is so bad and what can be done about it.
In a letter sent last week to the heads of the Department of Housing and Urban Development, the Federal Reserve Board, the Consumer Financial Protection Bureau, the Federal Housing Finance Agency and others, Sens. Cory Booker, D-NJ, and Robert Menendez, D-NJ, say that the prevalence of zombie foreclosures in the state is seriously impacting the state’s residents and its economy, and they want to know what the federal regulators are going to do about it.
“One of the enduring lessons of the Great Recession and the resulting foreclosure crisis is that economic problems are not confined with the four walls of a home,” Booker and Menendez write.
“The wider community impact of this crisis is undeniable,” the senators continue.
The senators write that banks’ reluctance to do anything with abandoned properties is “unacceptable” when there are so many others who would gladly fill those houses.
[Then force the banks to stop can-kicking bad loans, Senator. That would solve the problem immediately.]
The 800 day foreclosure timeline in NJ is the result of state law that says each foreclosed homeowner gets a trial in front of a judge before their home can be taken. If they want the problem to go away simply change the state laws to match Texas, where an eviction takes 30 days and foreclosure 70 days from start to finish. No lawyers necessary.
That explains part of the problem, but it doesn’t explain the plethora of zombie foreclosures. Those have no owner or occupant to fight the proceeding. It should be a simple administrative process to foreclose in these instances. The real reason those foreclosures aren’t happening is because the banks don’t want to absorb the losses.
I have a feeling that if your rentals were not in Nevada but rather New York, New Jersey, Florida, or Illinois, you would be singing a different tune when it came to evicting deadbeat loan owners. It makes no difference whether the borrower is contesting or even present, they are going to lose nearly 100% of the time, but these states have created so many layers of “due process” that it creates a massive backlog in the legal system, and the 800-1,000 day timelines are mainly the result of not being able to get time on the court’s dockets.
Why It Pays to List Your Home in Winter
Redfin begging for commissions
If you’re listing your home now, use these ideas to make a great cold-weather impression.
Spring may still be peak home-shopping season, since most families want to move when the kids are out of school. Yet it actually pays to list in the winter, when buyers tend to have more urgency: A study by online brokerage Redfin found that average sellers net more above asking price during the months of December, January, February, and March than they do from June through November, even in cold-weather cities like Boston and Chicago. And homes listed in winter sold faster than those posted in spring.
About 7.5 million people still owe more on their mortgages than their homes are worth
This is a huge deflationary force
The millions of foreclosures stemming from the Great Recession made for dramatic headlines. Now, the housing markets in many of the hardest-hit areas have recovered, and cities such as San Francisco, Los Angeles, and New York are even seeing record real-estate prices. Yet while the national housing market may be well on the way to recovery, the markets in some areas of the country are actually getting worse, according to a new report out from the Center for American Progress.
The report indicates that there are still more than seven million homeowners who are underwater in America—that is, they owe more on their homes than the homes are worth. In some 1,000 counties, the number of underwater homes is stagnant or increasing, threatening already struggling regions with the potential of more foreclosures, more empty and abandoned homes, and more people who opt to rent instead of buy, which drives up the price of apartments.
“It’s easy to say housing crisis is over but, for many parts of the country, it’s certainly not. The recession isn’t either,” said Sarah Edelman, one of the authors of the report.
When homes are underwater, their owners can’t draw on their home equity to invest in education or other big-ticket items. They also can’t rely on that equity as an option in the event of an emergency. It also makes selling their home an unappealing choice. Owners often cut back on spending and remain stuck in a state of limbo. As they wait for to see whether the banks foreclose, they often don’t know if they’ll be able to stay in their homes, or even rent an apartment in the same school district. A large number of homeowners with negative equity isn’t just bad for individual families, it can have profound implications for the economy, especially when it’s in as uncertain a state as it is now. A flood of foreclosures on the market can drive down values of other homes nearby, decreasing equity across a community.
The percentage of underwater homeowners is currently at 15 percent.
Ever since housing became first and foremost a tradeable financial instrument for banks/lenders (aka speculative commodity) the sector will continue to hold back the economy.
Some inconvenient facts:
*It is the time of short-term gains
*housing is a proven boom/bust asset class
*the math is what it is.
The huge percentage of underwater borrowers referenced in the article above clearly demonstrates that the deflationary pressures on home prices and mortgage debt is not abated.
http://www.nbcnews.com/business/real-estate/13-percent-homeowners-are-seriously-underwater-mortgages-n401081
The 7.5 million number consists of people who are 25% or more underwater.
Hundreds of billions of dollars in future bank sheet losses. The current amount is probably close to the entire original tarp amount.
Check Out Our Low, Low (Natural) Rates
http://graphics8.nytimes.com/images/2015/10/28/opinion/102815krugman1/102815krugman1-tmagArticle.png
Thomas Laubach and John C. Williams of the Fed have a new paper updating their estimates of the natural real rate of interest. For those new to the term, the natural rate is a standard economic concept dating back a century; it’s the rate of interest at which the economy is neither depressed and deflating nor overheated and inflating. And it’s therefore the rate monetary policy is supposed to achieve.
Laubach and Williams find that the natural rate has plunged in recent years, and is now very, very low. The particular statistical method they use is reasonable, but in any case — as they document — the result pops out for pretty much any plausible methodology. Basically, we’ve had multiple years of very low rates, with no hint of a runaway boom or an inflationary takeoff, so any reasonable estimate is going to say that these low, low rates are close to (and maybe above) the natural rate.
L-W attribute the decline in the natural rate largely to the slowing of potential output, which in turn reflects demography and what looks like a slowdown in technological progress. That’s more speculative. But the low natural rate is as solid a result as anything in real time can be.
This in turn tells you several things. It says that all the complaints that the Fed is artificially keeping rates low are nonsense; rates are low because that’s what the real economy wants, and the Fed’s only alternative would be to create a depression.
It also casts even more doubt on the wisdom of the Fed’s urge to raise rates. Nothing in the economic situation suggests that rates are too low right now. And don’t tell us that we need to start “normalizing”: all indications are that “normal” has changed a lot since 2008, and trying to set interest rates as if the old normal were still valid is a recipe for very bad outcomes.
Finally, if the natural real rate is zero or less, a 2 percent inflation target gives very little room for interest rate cuts to fight recessions. The case for raising the target — which means not raising rates if and when inflation finally creeps up to 2 percent — just keeps getting stronger.
In any case, the message about what the Fed should do now is clear: nothing.
“…the Fed’s only alternative would be to create a depression.”
This is what the anti-Fed crowd wants.
Puhleeeze!
Let’s review…
“rates are low because that’s what the real economy wants”
————————————————-
Thus, there is no need for the fed to create something (a depression) that already exists.
Rethinking Japan
But Japan and the world look different now, and trying to pin down that difference may help clarify matters.
It seems to me that there are two crucial differences between then and now. First, the immediate economic problem is no longer one of boosting a depressed economy, but instead one of weaning the economy off fiscal support. Second, the problem confronting monetary policy is harder than it seemed, because demand weakness looks like an essentially permanent condition.
The weaning issue
Back in 1998 Japan was in the midst of its lost decade: while it hadn’t suffered a severe slump, it had stagnated long enough that there was good reason to believe that it was operating far below potential output.
This is, however, no longer the case. Japan has grown slowly for the past quarter century, but a lot of that is demography. Output per working-age adult has grown faster than in the United States since around 2000, and at this point the 25-year growth rates look similar (and Japan has done better than Europe):
Photo
Credit
You can even make a pretty good case that Japan is closer to potential output than we are. So if Japan isn’t deeply depressed at this point, why is low inflation/deflation a problem?
The answer, I would suggest, is largely fiscal. Japan’s relatively healthy output and employment levels depend on continuing fiscal support. Japan is still, after all these years, running large budget deficits, which in a slow-growth economy means an ever-rising debt/GDP ratio:
Photo
Credit
So far this hasn’t caused any problems, and Japan has clearly been much better off than it would have been if it tried to balance its budget. But even those of us who believe that the risks of deficits have been wildly exaggerated would like to see the debt ratio stabilized and brought down at some point.
And here’s the thing: under current conditions, with policy rates stuck at zero, Japan has no ability to offset the effects of fiscal retrenchment with monetary expansion.
The big reason to raise inflation, then, is to make it possible to cut real interest rates further than is possible at low or negative inflation, allowing monetary policy to take over from fiscal policy.
I’d also add a secondary consideration: the fact that real interest rates are in effect being kept too high by insufficient inflation at the zero lower bound also means that debt dynamics for any given budget deficit are worse than they should be. So raising inflation would both make it possible to do fiscal adjustment and reduce the size of the adjustment needed.
MORE …
The Republicans are right. We in the media do suck.
The Republican presidential candidates are right. The media do suck.
But not for the reasons the candidates complained about Wednesday night.
We in the media suck because we have rewarded their rampant dishonesty and buffoonery with nonstop news coverage. Which, of course, has encouraged more dishonesty and buffoonery.
Hence the aggravating behaviors that candidates doubled down on during the debate, based on lessons that we in the media taught them. To wit:
Lesson No. 1: Lie, but lie confidently.
Look straight into the camera, and with complete conviction, say something that is not true. Maybe your lies will get fact-checked later, but if your certainty can sufficiently excite pundits in the interim, no one will care (or notice) that you lied.
Lesson No. 2: Invent your own math.
This is related to Lesson No. 1, but more quantitative. Or less, depending on how you look at it.
Lesson No. 3: If you can’t think of something better to say, just bash the media. (This is good advice for the media, too, as this column illustrates.)
At first it seemed risky when Trump attacked conservative darling and Fox News host Megyn Kelly for asking tough questions during the first debate. But his attacks paid off, earning him several news cycles’ worth of free advertising.
MORE ….
Too funny, true, and, in the end, really sad.
I remember reading the text of Paul Ryan’s acceptance speech for the VP nomination in 2012 and thinking it was a watershed moment in political history. His speech was loaded with Red Meat that was so factually challenged that even his supporters knew it was complete bullshit, but they applauded anyway. That’s when it became apparent to me that people decided they would rather hear someone spouting their ideological nonsense instead of truth, facts, or reality. When a significant portion of the electorate decides they wish to completely reject reality, we risk going down a dangerous path. Fascism has it’s roots in the same blind acceptance of propaganda.
Financial Repression over the next ten decade will hold back the economy more than the housing market.
As they have before in the aftermath of financial crises or wars, governments and central banks are increasingly resorting to a form of “taxation” that helps liquidate the huge overhang of public and private debt and eases the burden of servicing that debt.
Such policies, known as financial repression, usually involve a strong connection between the government, the central bank and the financial sector. In the U.S., as in Europe, at present, this means consistent negative real interest rates (yielding less than the rate of inflation) that are equivalent to a tax on bondholders and, more generally, savers.
http://www.bloombergview.com/articles/2012-03-11/financial-repression-has-come-back-to-stay-carmen-m-reinhart
You may be interested in knowing that this is a policy officially sponsored by the IMF:
http://www.imf.org/external/pubs/ft/fandd/2011/06/Reinhart.htm
This is exactly what’s coming. It also argues for taking on large amounts of cheap debt because inflation will exceed the interest rate on debt underwritten today.
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