The economic crisis we are in started with housing so it would only make sense that a recovery in the housing sector is what is needed to bring us out of it.
Unfortunately all of the news on housing has been pretty grim. It started Tuesday with word that existing home sales for July dropped 27.2% from July of 2009. And July of 2009 wasn’t a really good month. Wednesday it was reported that new homes sales in July drop 12.4% from June and 32.4% from July 2009.
News outlets attributed the poor numbers to the expiration of government subsidies provided in the stimulus package. Those subsidies ran out at the end of April and the hope was that organic demand would take over by this stage in the uh er recovery.
This is coming on the news from Aug. 10 that the Federal Reserve would not — as expected — begin its exit strategy from quantitative easing but continue to “reinvest principal payments from agency debt and agency mortgage-backed securities in longer-term Treasury securities. The Committee will continue to roll over the Federal Reserve's holdings of Treasury securities as they mature.”
This is not a sign of recovery as the Fed must reduce its holdings before it even begins to bring the Fed Funds rate above the emergency zero rate policy level.
But what about the banks? To a large degree they caused the problem and what do they get? Well they get to borrow money basically for free and purchase U.S. Treasuries, which earn interest on money we provide them. When discussing this in a previous blog one commentor wrote, “Lets see, I form a bank and borrow $10 million from the Fed discount window at 1/4% interest per annum, or $25,000; I then lend it back to the Government by purchasing 10-year Treasuries yielding 3.93% interest, or $393,000. My profit is $368,000 on funds I didn’t own in the first place.”
Not a bad gig if you can get it. But it doesn’t seem to make sense as until banks let loose with lending no recovery is possible. Yes I know that loose lending standards is partly what got us into the mess but why should the banks be getting healthy with the rest of the economy suffering. The government is supposed to support prudent risk taking. Why give money to banks and provide an incentive for them to horde it. Doesn’t seem like an efficient use of capital.
Former Federal Deposit Insurance Corporation (FDIC) Chairman Bill Isaac pointed out in Futures' July cover story the problems of a pro-cyclical accounting and regulatory standards. Basically we let banks have a party in good times and become rigid when things get tough. It would make more sense to require they put capital away for a rainy day when things are growing and have a little more leniency when the economy is struggling. As he noted, the pro-cyclical approach makes the booms more frothy and the busts more painful.
But getting back to housing, it is hard to say whether banks are to blame or not. If too many people where buying houses who could not afford them and now we are back to using more prudent standards for offering loans, that seems to indicate that the pool of buyers has shrunk even without a recession. That we are in the worst recession since the Great Depression shrinks that base further. That is a little more ominous as it means we will not get back to that level of housing demand; at least not for a while and not without real organic growth.
And the Fed keeps on delaying its exit strategy. If low interest rates aren’t leading to increased lending why not push them higher so people other than banks can earn interest?