November 29, 2017

The Nature Of The Adjustment To Come

A report from Wharton. “St. Louis Federal Reserve Bank president James Bullard joined Wharton finance professor Jeremy Siegel recently, along with Jeremy Schwartz, research director at WisdomTree, for a wide-ranging conversation about the future of interest rates, inflation, the state of the economy, overall monetary policy, the possible over-valuation of stock prices — and more.”

“Siegel: You mentioned Fed staff, and there are some very, very good people there. Then again, of course you could say virtually no one really foresaw the financial crisis. There are a number of people who said, ‘Are they the people you always want to listen to? Or do you want to have some independence and hear some other voices that might think differently in terms of what’s going to happen to the economy?’ How do you feel about that? I mean, would it be more captive than someone like Bernanke to the Fed staff?”

“Bullard: I’ll just give you my own take on the monetary policy debate. I say it’s a global debate that goes on 24 hours a day, 365 days a year. And so you’re getting input from all kinds of corners of the globe, and certainly from financial markets, the committee itself, the staff itself. But it’s not like it’s in a closed room where you’re not listening to the rest of the world.”

“You don’t really have to have a perfect alignment of backgrounds in order to get all of that input from all around the world. And I think we do that in some respects. So if you think about the run up to the financial crisis, it’s true that we did not predict the financial crisis, but I think there is some revisionist history that goes on because the housing bubble was a big topic of discussion for several years before it actually came to an abrupt end. And many people were talking about it, both inside and outside financial markets, and in academia.”

From the Australian Financial Review. “The Reserve Bank of Australia should get ahead of the US Federal Reserve, widely expected to increase rates next month for the third time this year, and normalise official interest rates before the pain of adjustment becomes worse, says former board member Warwick McKibbin.”

“Likening ongoing delays in raising the official cash rate from its emergency lows with postponing the closure of a doomed steel mill or car factory – the longer you wait the more it hurts younger workers when it does happen – Professor McKibbin says the central bank should clearly explain to business and households why 1.5 per cent is no longer appropriate.”

“Anticipating critics of normalisation – which may see the cash rate pushed towards 3.5 per cent – and who argue rate hikes will crunch heavily indebted households and cause an economic slump, Professor McKibbin said: ‘If we have become that vulnerable, do it now, not in a year when it’ll be much bigger. Let’s have a mild bump now rather than a big one later,’ he said, though he concedes the housing debt bubble is now so advanced that it is already too late for some households that have over-borrowed.”

“‘Given the long era of low interest rates since 2012 a greater concern should be on “overall macro-economic stability and asset prices,’ Professor McKibbin said. ‘I would make it clear what the view of the bank is on the nature of the adjustment to come and that it’s time for rates to move to a more normal level. It’s better to precede the Fed than follow the Fed. The worst place for a central bank is to appear to be in a state of complete chaos; where rates might go up or down. You don’t want that percolating out.’”

From the Siuslaw News in Oregon. “Florence’s current rental crisis began in earnest in the mid-2000s, though nobody seemed to notice. In fact, it was celebrated. This was the era of housing as quick investment. House flipping was the buzz phrase, with cable TV chock full of shows extolling the opportunities from the practice. Housing was always a safe bet.”

“‘You could buy a home in Florence for $120,000,’ Coastal Property Management co-owner Barry Nivilinszky said. ‘They were selling for $180,000. For investment purposes, the value would increase by 15 percent within a year. So, people were buying on the premise of letting it grow and reselling. And so, all of these homes were bought at top dollar.’”

“Nivilinszky started his business in 2004, right in the middle of that boom. He’s seen the rise, fall and rise again of the rental industry in Florence. Now he’s anticipating another fall. ‘We’re in the next housing bubble,’ he said. ‘But the bubble is not working for us today.’”

“Why the bubble is not working for Florence is a complicated story, and many financial experts believe it’s a global problem. One-bedroom homes in Australia are selling for $3 million while dilapidated houses in California run for $600,000 or more. As the prices go up, the working poor struggle to find affordable housing, with some workers in Florence resorting to living in their cars. ‘Houses here have finally started appreciating considerably,’ Nivilinszky said. ‘Owners are going, ‘Huh, I can finally get my money back and be done with it.’ That’s the attitude.’”

“Florence, along with the rest of the world, is experiencing a housing bubble. ‘They’re getting into the $250,000 range,’ said Dana Rodet, owner of Rodet Construction Co., Inc. ‘And they’re selling. I just had a friend put their home up for sale and the same day they had four offers. They sold it with a 15-day turnaround, paid with cash. There was another person who sold in a week. Unless something is so overpriced that it sits on the market for a while, homes are going pretty damn quick.’”

“Because current homes are selling so rapidly, retirees are turning to building their own homes. ‘Everybody is busy,’ Rodet said about the current state of construction. ‘You could be a lousy contractor and still be busy. There are a lot of new homes being built.’”

“Retirees are able to afford building homes because of another aspect of the current housing bubble. ‘People are moving here from out of state or out of town. We still have good prices for real estate for those who are coming in from California. I don’t know when the last time you visited California, but I don’t know if you can find a place for less than $650,000,’ Rodet said.”

“He said that a family member recently purchased a home in Costa Mesa that was built in the 1950s and hadn’t been upgraded since. ‘There was nothing new in there, and they paid $625,000,’ Rodet said.”

“People flip their house in California, take the cash, and buy or build a home to their liking in Florence. Building is where Dan Lofy of Lofy Construction comes in. He’s been in the thick of building new homes for out-of-towners, and the homes he’s building are expensive. ‘In 2008, the standard figure to build a home was about $135,000 to $155,000,’ he said. ‘The lowest you can get now is around $175,000, and that would be a terrible house.’”

“While the debate goes on in the U.S., globally countries are officially calling this a bubble — and there are signs that it’s bursting. In Australia, the housing market had seen extreme rises in prices. In two separate articles this month, the Daily Mail reported a ‘tiny’ one bedroom home in Melbourne hit the market for a ‘whopping’ $2.2 million, after the owners bought it for $875,000. The Daily Mail also reported that, ‘Australia’s ‘golden housing years’ are officially over with a full-blown crash expected if rates increase too quickly or not enough. In the U.S., the housing crisis is spreading coast to coast.”