The debate’s over: it’s slowing. No doubt about it. Now begins the next phase of the discussion: How long will it slow, how far will it dip, and will it bring recession?
Existing home sales declined 1.3% in June, the slowest since January and nearly 9% below the pace from a year ago, the National Real Estate Association reported yesterday. And while prices for existing homes kept rising last month, it was the weakest jump in more than a decade. But there are signs that something less is coming. Indeed, condo prices are already slipping on a year-over-year basis.
David Lereah, chief economist at the NREA, downplays the negative implications regarding yesterday’s news. “Over the last three months home sales have held in a narrow range, easing to a level that is near our annual projection, which tells us the market is stabilizing,” he said in a press release that accompanied NREA’s data update.
Is the transition to stability from red-hot bull market merely a step to a bear market in housing? No matter how you spin it, there’s no getting around the fact the housing market is cooling. By any number of metrics, the trend is clear. What’s more, there’s no mystery behind the falling volume of sales. Higher mortgages rates aren’t helping, which in turn is helping elevate the supply–a textbook case for predicting lower prices ahead.
Again quoting NREA’s Lereah, who explains that “a year ago we had a lean supply of homes and a sellers’ market, with monthly home sales at an all-time record high.” The lean supply has since blossomed into something meatier. Existing homes available for sale in June were at a 6.8-month supply at the current sales pace, up from a 4.4-month supply a year ago, according to NREA.
Paul Kasriel, who heads up Northern Trust’s economic research division, yesterday predicted that prices will fall for existing homes in the months to come so as to reduce the excess supply that currently prevails. “The knock-on effects of all this will be subdued consumer discretionary spending as those ‘home ATMs’ are not refilling as rapidly as before,” he wrote in a research note yesterday. “Another factor that will curtail consumer discretionary spending is slower income growth in housing-related industries as employment and sales commissions moderate further.”
The bottom line: the residential real estate market is now in a recession, Kasriel opines.
If so, that raises the stakes in the Fed’s ongoing struggle to balance inflation fighting with keeping economic growth intact. The United States now leads the industrialized world in inflation rates, based on the top-line year-over-year increase in June. The core rate of inflation is creeping higher as well. The Federal Reserve can’t ignore this, should it prove to be a trend with legs in the months ahead. The Fed’s data dependent, Bernanke recently remarked; in fact, depending on what the data reveals going forward, the Fed may be held hostage by the numbers.
For the moment, Fed Chairman Bernanke seems to be counting on a slowing economy to do the heavy lifting of nipping inflationary momentum in the bud. But as we wrote last week, a slowing economy doesn’t necessarily insure that inflation will follow, at least not initially.
Ben, quite simply, is in a bind, observes economist Robert Dieli, who runs MrModelonline.com, an independent consultancy. In an interview with CS today, he says that the central bank is effectively behind the inflation curve because it opted to raise rates slowly. As a result, Fed funds probably aren’t yet high enough to squelch inflation.
Dieli doesn’t think a softening housing market by itself will tip the economy into recession. But there are other factors conspiring. “Three-dollar-and-fifty-cent gasoline will probably have a bigger impact on consumer discretionary spending than housing,” he says.
No matter the details, a slowing economy at this moment presents a thorny challenge for the Fed, Dieli continues. Normally, at this stage of the business cycle, the Fed could/should be talking about cutting rates, or at least holding off on further hikes. But that’s a luxury the Fed can’t afford, courtesy of the slow and modest rate hikes over the past two years. What’s more, the bond market knows the Fed’s in a bind. “The bond market won’t blink,” Dieli says. Thus, the yield curve remains more or less flat, and may soon invert, handing the fixed-income set a victory of sorts, and no doubt emboldening the bond boys to engage in more of the same Fed bashing.
Dieli predicts that the Fed will raise rates again at the next FOMC meeting on August 8. The meeting after that, in late September, may provide a pause in hikes, depending on the data. But a Fed that’s publicly committed to running monetary policy based on the latest numbers, as per Bernanke, also opens itself up to surprises. Indeed, Dieli notes that if future inflation numbers are ugly, the pressure to tighten the price of money further will prove immense.
In fact, the great unknown can be boiled down to when (and if) Bernanke earns the bond market’s respect. The fact that long rates are still low relative to Fed funds suggests that day has yet to come.
Meanwhile, welcome to the world of uncharted waters, with Captain Ben as your guide. On-the-job training never looked so dangerous.