What's the Probability of a Recession?

The San Francisco Fed assesses the chance of a recession and finds that "while the probability of a recession over the next year may now be somewhat elevated, it does not appear to be nearly as high as the yield curve suggests":

Is a Recession Imminent?, by John Fernald and Bharat Trehan, FRBSF Economic Letter: The sharp slowdown in housing and the inverted yield curve have led to concerns that the odds of a recession have risen. For instance, Dow Jones Newswire reported on November 2 that one model based on the yield curve put the probability of a recession over the next four quarters at more than 50%. This Letter presents and discusses various estimates of the probability of recession. Our review of the evidence suggests two conclusions: First, recessions appear difficult to predict; second, while the probability of a recession over the next year may now be somewhat elevated, it does not appear to be nearly as high as the yield curve suggests.

Indicator models for predicting recessions

One way to predict the likelihood of a recession would involve simulating a large structural model of the U.S. economy. But economists disagree about the structure of the economy, so several have suggested using indicator models instead. The indicator models constructed by James Stock and Mark Watson (SW) are among the best known. Their work in this area preceded the 1990-1991 recession and continued through December 2003 (see, for instance, SW 1989). Their recession index (which estimates the probability of recession six months hence) and variations thereof are themselves a function of two indexes for Leading and Coincident Indicators. Unfortunately, their real-time performance has not been wholly satisfactory. The first index failed to predict the 1990-1991 recession, and a variation failed to predict the 2001 recession.

Of course, the SW indicators are not the only ones that failed. SW (2003) discusses this widespread failure and argues that it is hard to predict recessions because each is caused by a unique set of factors. For instance, income and consumption data did not provide much evidence portending a recession in 2001, but industrial production data did, because the recession was associated with IT manufacturing. By contrast, in the 1990-1991 recession, consumption did slow. Thus, "without knowing these shocks in advance, it is unclear how a forecaster would have decided in 1999 which of the many promising leading indicators would perform well over the next few years and which would not" (p. 88).

It should be noted that the SW approach definitely has had successes; the version used by the Chicago Fed, for instance, did a reasonably good job in real time of signaling a (coincident) slowdown in activity early in the 2001 recession. What does the index say now? As of October 25, the three-month average of the Chicago Fed's National Activity Index (2006) stood at -0.25. A value below zero implies that growth is below trend; values below -0.7 are associated with an "…increasing likelihood that a recession has begun" (p. 2).

Information from the yield curve

The yield curve is perhaps the best known of all the indicator models used to predict recessions. We begin with a model developed by Wright (2006) that uses information on the term spread and the funds rate. As Figure 1 shows, this model has done a reasonably good job of predicting recessions. Based on data for November 8, the model estimates a 47% probability of recession over the next four quarters. As a reference point, note that over 1964:Q1-2005:Q2, 27% of the four-quarter periods after any given quarter contained a recession; however, over 1984:Q1-2005:Q2, a period when output growth was noticeably less volatile than before, this frequency falls to only 15%.

There is reason to be skeptical about the current high estimate of the probability of recession, because the unusually low rates at the long end of the yield curve are not well understood; indeed, former Fed Chairman Greenspan famously pointed out that this behavior is a conundrum (2005). Wright attempts to deal with these problems by estimating several alternative versions, but the results are virtually indistinguishable from the base model. Hence, the statistical evidence does not clearly indicate how to incorporate the low long-term yields into the probability estimates.

Concern about the behavior of long-term yields could be allayed by adding other variables to the forecasting equation. For example, Dueker (2005) included real GDP growth and CPI inflation (in addition to the spread and the funds rate) and estimated a vector autoregression to improve the modeling of the dynamics of the process. Unlike the SW models, real-time estimates from the Dueker model made at the end of 2000 placed the probability of recession in mid- to late 2001 above 50%. Figure 2 shows the business conditions index that underlies this probability; this version is updated and based on currently available data. When this index falls below zero (as it did in 2000), the recession probability rises above 50%. Although the figure indicates that business conditions have deteriorated recently, they remain comparable to those prevailing around 1995-1996, a period when the economy had slowed but did not enter a recession. While the model predicts some further deterioration in business conditions over the next year, it does not see much more than a 10% chance of a recessionary quarter over this period.

Survey evidence

Surveys, such as the well-known Blue Chip survey and the Survey of Professional Forecasters, represent subjective probability assessments and could incorporate judgmental adjustments to model forecasts. In November, the Blue Chip survey asked a special question on the odds of a recession in the next 12 months. The consensus was 24.8%; the average of the highest ten responses was 36.5%, and the average of the lowest ten was 14.8%. Earlier, the consensus was 25.1% in September and 26.9% in August.

Although these numbers are well below those from the yield curve model, they also are not that different from those recorded before the beginning of the last recession in March 2001; for example, in every month from May to September 2000 and again in November 2000, the consensus probability of recession varied from a low of 16% to a high of 23%. Moreover, respondents found it hard to tell if the economy was in a recession in real time; for instance, when asked whether the economy had entered a recession in June 2001, 93% said no.

The Survey of Professional Forecasters regularly asks respondents to provide separate estimates of the probability that real GDP growth will be negative in the current quarter and the subsequent four quarters. Figure 3 displays data for three of these five quarters; for example, regarding the forecast for 2006:Q3, the line labeled "current quarter" shows the mean probability of negative real GDP growth as estimated in 2006:Q3, and the line labeled "2 quarters earlier" shows this probability as estimated in 2006:Q1.

Larger version

Recently, the probabilities have crept up, with the third quarter survey results indicating close to a 10% chance of recession in 2006:Q4 and a 19% chance in 2007:Q2. Still, these levels are around the middle of the range that prevailed during the boom years of the late 1990s (see the line labeled "2 quarters earlier," for instance). Furthermore, probabilities from this survey did not give much warning of the last recession, as even the current-quarter estimate did not rise substantially until after the recession had begun.

An assessment

Because the single-equation model based on the yield curve and the funds rate appears to have performed better historically than other models, it makes sense to take its pessimistic forecast seriously. Yet there also are mitigating factors to consider. For example, the ability of the yield curve to forecast recessions is often attributed to the fact that the long-term rate reflects market expectations about future developments in the economy. But in that case, one would expect professional forecasters to have this information as well, leading to survey probabilities similar to those from the yield curve. At a minimum, forecasters should be incorporating information from the yield curve into their forecasts.

A more concrete reason to be cautious about this forecast lies in the recent behavior of long-term rates, which argues for reducing the weight one places upon the term spread and relying upon other variables when making forecasts. The Dueker model provides one way of doing so, and its forecast (based on data through August) is noticeably more optimistic. However, deciding what to include brings us back to the problem discussed by Stock and Watson: The forecast we get depends on the indicators we add to the term spread. In particular, adding data on the housing sector is sure to lead to more pessimistic forecasts.

That said, our review of the available surveys, indicators, and model forecasts leads to estimates of the probability of recession that are all lower than the one based on the term spread and the yield curve. Furthermore, financial markets exhibit little evidence of distress: the Dow has hit record highs recently, and various risk spreads (such as the rate on corporate bonds relative to Treasuries) remain at low levels. Taken together with our inability to explain the unusually low level of long-term rates, this suggests to us that while the probability of recession might have gone up somewhat in recent months, it is not yet at worrisome levels.

Finally, not only are recessions hard to predict, it is even hard to tell that the economy is in a recession once it has begun. This is especially true in the low volatility regime that has prevailed since the mid-1980s. Here, the evidence suggests that it may be useful to supplement data from the surveys with data from indicator models that attempt to measure the current state of the economy.

Update: Both Brad DeLong and Greg Mankiw also discover this article.

Comments

[anne]

Well, I know what the yield curve has been telling us about economic gloom for more than a year but what investment markets are telling is that low long term interest rates and stable growing economies internationally are encouraging, and I continue to be cautiously optimistic as investors surely should be. With the exception, as usual, of the most dangerous of developed markets, Japan, this has already been another terrific international investment year, broad and deep, from stocks to commercial real estate and selectively abroad in housing. Long term interest rates are low, while the dollar has moderately weakened. Housing is the domestic problem, but unless the labor market weakens I remain encouraged.

[Nouriel Roubini has not been harmed in the making of these comments.]

[anne]

http://flagship2.vanguard.com/VGApp/hnw/FundsByName

Vanguard Fund Returns
12/31/05 to 11/22/06

S&P Index is 14.4
Large Cap Growth Index is 9.8
Large Cap Value Index is 19.0

Mid Cap Index is 13.8

Small Cap Index is 16.2
Small Cap Value Index is 19.2

Europe Index is 29.4
Pacific Index is 5.2
Emerging Markets Index is 22.2

Energy is 16.8
Health Care is 9.1
Precious Metals is 30.6
REIT Index is 36.7

Long Term Bond Index is 3.6
Intermediate Term Bond Index is 4.0

[anne]

http://www.mscibarra.com/products/indices/stdindex/performance.jsp

National Index Returns [Dollars]
12/30/05 - 11/22/06

Australia 25.2
Canada 17.5
Finland 29.4
France 30.6
Germany 31.4
Hong Kong 23.3
Japan -0.2
Netherlands 27.8
Norway 34.0
Sweden 35.2
Switzerland 27.0
UK 26.0

[anne]

http://www.mscibarra.com/products/indices/stdindex/performance.jsp

National Index Returns [Domestic Currency]
12/30/05 - 11/22/06

Australia 18.5
Canada 14.8
Finland 18.0
France 19.1
Germany 19.9
Hong Kong 23.8
Japan -1.4
Netherlands 16.5
Norway 26.3
Sweden 19.3
Switzerland 18.3
UK 13.1

[maria]

Anne: Recessions are unpleasnt ideas and there is a built in American reluctance to face up to what is unpleasant. You have to factor the ingrained optimism of Americans into the mix. It helps that Roubini was not born in America and comes from a world of different attitudes.

[maria]

Actually the yield curve has NOT predicted a recession up to quite recently. The formula has passed the 50% mark only in the last month.

[maria]

Wright's formula puts the chance today at 51.3%.

[ilsm]

How good is it?

Net interest paid in the federal budget in:

1965 was 7%
1985 was 14%
2005 was 7%

Eyeballing the debt to GDP charts at AngryBear it was about the same on those 3 years.

Is someone printing money?

[anne]

Hopefully there will be no recession, but I do not know and find technical analysis all too sterile to pay close attention to more than valuations. What I have found however is that our economy has become increasingly resistant to economic shocks or disruptions these 25 years. I believe the same economic resistance and resilience is being shown through Europe, Australia and Canada, while Japan is always a mystery.

Developed economy and market resilience in the last decade, through shocks and strains, increasingly impresses me though I cannot explain what appears to be happening to myself properly. So, I am hopeful the housing slowing we have can be compensated for by commercial real estate activity, but, I am cautious.

[anne]

Also, I have been reading debt-mongers predict doom dire doom for too long to think doom must be now. We had a nutty Governor of California who decided doom was here unless there was a dramatic vehicle registration tax increase. Californians however like to cars and trucks a lot, so another Governor was set in place. "Hasta la vista, baby." Interestingly, Californian dire doom has not yet come. I would much prefer better fiscal policy, but there are more important problems to attend to before becoming a debt-monger.

[Stephen Roach has not been harmed in the making of these comments.]

says...

Anne - quit spamming this board with the Vanguard garbage

[anne]

The nice thing about paying attention to Vanguard and Morgan Stanley funds and indexes, is that we have an immediate comparative reflection of investor thinking from bond to stock markets internationally. Vanguard managed funds, by the way, can be especially useful as reflections since the funds are managed for little turnover and there is minimal cost to mask actual performance.

What I consider of special importance in how significant and stable long term returns have been for stocks, including real estates investment trusts, and bonds even through an historically severe bear market.

[anne]

So, we have a prime testing of how flexible and resilient the American economy has become since 1980. Can we continue to grow through a sustained period of Federal Reserve tightening and an important slowing of the housing market? The strength of the international economy even through an American recession in 2001, gives me confidence.

[anne]

http://www.mscibarra.com/products/indices/stdindex/performance.jsp

National Index Returns [Dollars]
11/22/96 - 11/22/06

Australia 12.2
Canada 13.1
Finland 17.4
France 11.6
Germany 9.3
Hong Kong 4.7
Japan 0.7
Netherlands 8.2
Norway 12.9
Sweden 12.6
Switzerland 10.9
UK 8.9
USA 8.2

National Index Returns [Domestic Currency]
11/22/96 - 11/22/06

Australia 12.7
Canada 11.3
Finland 17.5
France 11.6
Germany 9.4
Hong Kong 4.8
Japan 1.2
Netherlands 8.3
Norway 13.0
Sweden 13.3
Switzerland 10.6
UK 7.5
USA 8.2

Dollar Value Loss = 3.70%

[jalrin]

Anne,
Where is the growth going to come from? Unless wage growth takes off, consumption is not going anywhere and with the decline of the housing bubble is likely to stangate at best. There are no plans that I see for government spending to climb at the levels needed to sustain the growth you are talking about. There is no relief in sight for net exports (Go to Econbrowser for the just posted look at the tradables sector that drew rave reviews from Brad Setser).

The only source left for growth would be business investment. The only problem there, off course, would be that unless these companies have a LOT of capital that is at the end of its lifecycle, there would have to be some prospect of a market for the productive capacity of the new investment. As was demonstrated above, that prospect of new demand just does not exist. What source of growth do you see that I am missing?

[maria]

A lot of important economic data is coming out in the next week that should give us a much better idea of where the economy is headed.

[maria]

It really is a rather disgusting luxury for Americans to have to worry about little more than a recession when we have caused this to another people:

Iraq's Violence Spins Beyond Anyone's Control
Analysis: It has been clear for some time that the U.S. is not in control of events in Iraq. But the latest sectarian bloodshed suggests that even help from Iran and Syria may not be enough to stop the slide into chaos.....Time Mag headline.

We may be headed for a recession; Iraq is headed for civil war. Some difference.

[cm]

anne: I think the so-called "resilience" is mostly easy credit that has accommodated what is happening here. I don't know how easily credit was obtained back when the US economy was not resilient to shocks.

I speculate that the global financial system has become so integrated, and media "psy ops" so sophisticated that shocks can be "managed" more effectively and converted to a gradual whittling away of standards. Much like many local tech employers who have figured out how to get rid of headcount without doing big layoffs -- cut a few people every week.

Look at quickly deteriorating healthcare cost and access, employment indicators aside from the headline number, and actual price developments outside of trinkets produced in China. Where is the resilience?

[cm]

To clarify what I mean my "management" -- due to various mechanisms, problems can be shifted/offloaded more effectively from here to there (e.g. one "micro" aspect is that lack of growth in corporate bottom lines can be "addressed" by cutting employee related cost). The economy is "doing great", a defined by publicly observed indicators, and problems accumulate in areas which are conveniently not measured, but which affect living standards and quality of life a great deal.

I'm not suggesting this is (exclusively) a result of some great conspiracy, it's largely group dynamics.

[spencer]

From a stock market perspective the greatest risk is a scenario of continued growth with rising inflaion and rates.

Over the past year we have survived much higher energy and interest rates. Based on historic experience these should have already generated a recession. But they haven't and now we see consumer spending doing OK despite the point that the home equity bank account has not been a major source of financing for consumer spending for many months now. Moreover, home construction has now fallen below current new home sales so that the inventory of unsold homes appears to be peaking -- at least in absolute numbers if not in terms of months supply as well--remember in doing the months supply both the numerator and denominator are both changing.

Now we are seeing the dollar weakening because interest rate spreads have narrowed. consequently,it is becoming more difficult for the Fed to cut rates and with the economy holding up they probably would not want to anyway.

So with productivity weakening and compensation rising the risks of higher unit labor cost showing up in higher prices next year is also rising sharply.
How else can corporations sustain the profits growth that are already being built into market expectations?

Given these developments the chances of stagflation in 2007 appear to be rising sharply and this will not be a positive development for the stock market.

[Bruce Wilder]

"group dynamics" was the term I was searching for as I read the article. It is not this quantity or that rate, which is "causing" anything: it is people acting, making choices in concert.

This passage struck me as particularly unworldly: "For instance, income and consumption data did not provide much evidence portending a recession in 2001, but industrial production data did, because the recession was associated with IT manufacturing. By contrast, in the 1990-1991 recession, consumption did slow. Thus, 'without knowing these shocks in advance, it is unclear how a forecaster would have decided in 1999 which of the many promising leading indicators would perform well over the next few years and which would not' "

I did not know a single person in the Summer of 2000, who did not strongly suspect that a recession was coming, (and, if you ask me, that recession was underway in October 2000, and the NBER has the dates wrong on both ends). The tech boom in the stock market was over, and the subsidence in values was going to compel collective behavior, which would add up to a recession. Given the size of the boom/bubble, there was no way to avoid it. But, it is "IT manufacturing" data that attracts the attention of the would-be forecasters, not the stock market, and that strikes me as weird.

I am not saying that forecasting is easy; I am not even saying that forecasting is entirely possible. People, individually and collectively, are not perfect automatons; the state of the world in any finite set of variables in one moment does not determine, singularly, what it will be six months from now. People's behavior is, if anything, overdetermined and path-dependent, so it doesn't make a lot of sense to try to find a value, A, which leads repeatedly to value, B.

"Rational expectations" seems to have made economists see every financial variable as an oracle's mirror, reflecting the collective wisdom of the market in predicting the future, a future, which just seems to happen, condensing out of a numinous fog on the horizon. The older idea that the economy is a system, coordinating and regulating collective behavior appears to have slipped curiously out of view. The discussion of the yield curve, and the grudging respect for its "predictive power", was markedly strange in this respect. If one end of the yield curve -- the inflation rate and short-term interest rates are under the certain control of the Fed, why does anyone suppose that long-term rates on the other end of the yield curve are the pure oracular products of a group of unidentified investors? Are long-term rates not regulators of economic activity, just as short-term rates are supposed to be? Is no one to look behind the curtain, to look at the supply of long-term issues? Or, at how long-term rates affect investment?

The discussion just seems bizarre to me in its presuppositions.

[Emmanuel]

Consulting my proprietary ongoing housing disaster-Wal Mart in the dumps-dollar down the crapper model, I'd say p=1.0 but then again I could be wrong ;-)

[anne]

Notice the dollar is precisely 3.7% lower in value against developed market currencies than 10 years ago. The dollar is goes up, the dollar goes down, the dollar is fine and I would not be surprised or worried a bit if the dollar were to decline from here for the decline would have a positive effect on the economy.

[anne]

CM:

'I think the so-called "resilience" is mostly easy credit that has accommodated what is happening here. I don't know how easily credit was obtained back when the US economy was not resilient to shocks.'

There is every reason to believe this is correct; and I am especially impressed not just by the easing of credit, commercial and personal, but the gradual lowering of long term interest rates since 1980. The cost of credit has continually lessened.

[dryfly]

I would not be surprised or worried a bit if the dollar were to decline from here for the decline would have a positive effect on the economy.

It would have mixed effects - necessary imports would become costlier, as would credit since so much of it is supplied by foreign sources... but then our exports would become less expensive & in general US labor becomes more competitive.

More work but for less if measured against a basket of foreign currency & imported goods.

I personally think the benefits of such a shift out way the costs but then I'm a toiler and not a financier.

[evagrius]

"I am especially impressed not just by the easing of credit, commercial and personal, but the gradual lowering of long term interest rates since 1980. The cost of credit has continually lessened."

Being a country bumpkin who doesn't like being in debt, I'm not impressed but frightened.

Isn't credit based on future ability to pay back a loan with interest?

What happens when that future ability vanishes?

[dryfly]

Menzie Chinn over at Econobrowser has a nice entry on the possibility & effects of a dollar plunge...

HERE

Its worth reading... covers a lot of what's been tossed around in comments here.

[evagrius]

cm;

"I speculate that the global financial system has become so integrated, and media "psy ops" so sophisticated that shocks can be "managed" more effectively and converted to a gradual whittling away of standards."

That's the scenario, basically, of C.M. Kornbluth's short story, "Marching Morons".

[Bruce Wilder]

FT 11/24: "European and Asian stock markets suffered the fallout from the dollar’s decline with exporters to the US the worst performing stocks in all regions. But on commodity markets, dollar-denominated prices tracked higher as gold, copper and oil became cheaper in other currencies."
http://www.ft.com/cms/s/dca2809c-7bf6-11db-b1c6-0000779e2340.html

The U.S. economy has been only so-so over the last three years, but worldwide, economic growth has been at record levels, and there is real commodity price pressure from the high level of demand.

You all know that I am always on the lookout for that coming perfect storm of political and economic catastrophe. You simply cannot put a moron in charge, let him do one stupid thing after another, and expect everything to come out honky-dory. When I look at the economic numbers, I am like anne, I don't get too upset, because they aren't great -- there's a definite momentum toward recession, which will be hard to resist -- but they are not terrible.

The risk here is the snowball, the setup of a vicious cycle, as a modest slide toward to recession couples with other events and shifting attitudes. The dollar's fall might be a good thing, domestically, because it could set in motion a lot import-substitution investment in manufacturing. That would be my anne-in rose-colored glasses outlook.

But, a sustained fall in the dollar will also drive commodities higher for the U.S., while stabilizing or lowering them for everyone else. Internationally, we ought to fear that a drop in the dollar, coupled with a U.S. recession, will give the rest of the world, hungry for commodities, a taste of something sweet: the relief from commodity price rises, which comes from forcing the pain on the U.S. A world, which attaches its prosperity to exporting manufactured stuff to the U.S. wishes us well; but, a world, which attaches its prosperity to feeding on the giant's decaying carcass, well, that's a less pretty picture.

A drop in the dollar, a U.S. recession, a Middle East crisis and a free-for-all in Iraq, frenzied investigations and a constitutional crisis in the U.S., it could all get very ugly, folks . . .

[anne]

Well, attending to the cost of credit and ability to afford loans and pay loans in turn is why watching the bond market can be important. Where I differ from several analysts however is in taking low long term interest rates not as investor foolishness but as investors generally considering that inflation will be no significant problem over time.

Similarly, I take a comfort in low long term interest rates in cushioning a decline in housing activity. I even find the sustained value of real estate investment trusts a result of low long term interest rates and again in turn a reflection of a cushion for housing activity. But, I watch and think.

[anne]

When the dollar fell 40% to 50% in value, with rapidity, after the Plaza Accord of September 1985, long term interest rates stayed where they were until the Federal Reserve began to raise short term rates in 1987.

I have trouble thinking I know what markets should do, and though I have long taken precautions against a decline in the value of the dollar, since there has been value internationally, I have no idea whether there will be much of a decline. Rather I have the idea that any decline will be cushioned by the value of American assets.

[cm]

Bruce Wilder: "The older idea that the economy is a system, coordinating and regulating collective behavior appears to have slipped curiously out of view."

It's called technocracy, to which the concept of group dynamics and in fact any holistic considerations are largely antithetical.

[yartrebo]

Something will have to give - either the money supply will have to contract, or there will be inflation.

Given how the M3 money supply is growing at double-digit rates, I'm more inclined to believe the high inflation scenario, especially if the dollar begins to fall in value (as should happen sooner or later with such a large and growing money supply). Inflation already is very rapid in the stock market and housing market (using house prices for houses, and total market valuation for stocks).

[yartrebo]

anne: Many REITs are overvalued even using a 5% discount rate. I remember how about 5 years back a typical REIT had a P/E of about 10 and actually paid a nice dividend yield. Now 30 seems to be a pretty common number and the dividend yield is correspondingly reduced.

Since REITs are conservative as far as stocks go, one doesn't expect them to be valued so richly, and it's more likely an outgrowth of the housing bubble than a new 'paradigm' where REITs suddenly command triple the P/E of before.

[anne]

https://flagship.vanguard.com/VGApp/hnw/FundsByName

Ah, as for valuation, the Vanguard REIT index actually has a price earnings ratio of 49.7.

[evagrius]

"Rather I have the idea that any decline will be cushioned by the value of American assets.'

But basically, the only asset most Americans have is the house they live in.

( Not to carp- just pointing out that that is the reality for most people- it is for me).

[anne]

The adjusted yield for the REIT index, by the way, is 3.04%, which is at least relatively low, though the value is only available for 10 years. REITs are being bought for income stability and property price appreciation.

[anne]

Carp away, for that is a proper carp, but the hope is that property values can be roughly sustained beyond short term fluctuations.

[evagrius]

I don't think it's a short term fluctuation. I live in Montreal now, having been able to take advantage of both early retirement and the housing bubble in S.F. to be able to buy a house on the island.
The Montreal Gazette has a current story on the housing bubble in the U.S. It pointed out that a vast majority of newcomers to the housing market are minorities who, essentially, got suckered in by the mortgage ( death-pledge), industry to "buy" homes or "refinance" those homes for "easy cash". It pointed out that foreclosures have increased to somewhere around 40% from last year.
It's not a pretty picture.
I think the real estate situation will shake out the real value of those assets and it's not going to be very nice for a lot of hard working simple folks.
Those who have internationally based assets wont be hurt but those, like most Americans, whose only asset is their house will be hurt.
I've always distrusted credit and loans, ever since I was forced to take one by Uncle Ronnie when he cancelled the college tuition scholarship program. My parents had to co-sign for it and paid it since, at the time, I could not earn enough to pay it off. Ironically, in the early 80's, the Feds had a one time amnesty program that allowed me to pay off the rest of my educational loans. I've never forgotten that.
To me, credit is like a ball and chain, tying you up and forcing you to pay off the man. It's a very sophisticated form of indentured slavery.
That's the full carp- no holds barred. :)

[anne]

Well, Montreal is nice but the article you read makes no sense to me. Housing has become a fine investment from Australia and Hong Kong to, Ireland and Spain and finally, even, Germany in the last decade. I do not know why there should be other than short term changes. Large number of homeowners have fixed rate mortgages that are quite afforable given years of low long term interest rates and relatively high employment. As long as employment holds, I do not imagine too much of a problem.

Should the economy weaken further, I expect a Federal Reserve policy reversal which can further secure the housing market by gradually lowering short term interest rates that affect adjustable rate mortgages.

Well, we will watch and learn.

[evagrius]

I don't think you've paid attention to the U.S. market, never mind the others. The others have strict rules regarding housing mortgages. The U.S. doesn't,( for instance, mortgage interest is not deductible for tax purposes in Canada).
The rampant increase in housing credit in the U.S. is almost obscene.
What's worse is that it's affected those most unable to have the means to respond to fluctuations properly, that is, those who have just a little saved up- i.e; minorities.
It's a predatory worls out there in the housing market.

[evagrius]

Sorry- it's a predatory "world" out there in the housing market.

[maria]

I suspect that it will take longer for the housing bubble to burst (or better deflate) than it did for the dotcom/biotech bubble. Stocks can tank in a few days. Housing takes months to slide since there is much more resistance to selling. So if there is a recession in the offing, it will come upon us more slowly and last longer.

[Richard]

I think it is useful to distinguish a mortgage as a rental inflation hedge from a mortgage as an investment.

Unless one intends on retiring in a place with a lesser cost of living (as Evagrius seems to have done) I suspect that a mortgage is better viewed as a rental inflation hedge: a series of payments, at a fixed amount, intended to secure a place to live for life. If the home is modest, one expects those payments to be somewhat higher than rent initially, somewhat lower than rent decades later and substantially lower when the mortgage is paid and the expenses are upkeep and taxes.

Note that those who buy real estate as an investment often pursue a maximal strategy, purchasing as much as they can afford so as to leverage the debt. By contrast, the hedge buys the minimum amount of real estate needed to provide lodging; anything in excess should be viewed as a consumer product.

The years of double-digit real estate gains has offered us the view of real estate as an easy investment; in the coming years, the modest gains and the fixed costs may spur us to view it as simply a hedge.

I do agree with evagrius though: many who see their home as an investment may be disappointed by the returns. But even there I would be cautious about being overly pessimistic -- much of the runup has been precisely in those places which will grow most rapidly in the coming years (the West and the South) or in places where a diversified economy already resides (the largest urban areas in the country). Perhaps the run-up is just a recognition of the scarcity or real estate in those desirable areas.

[georgist]

I suspect that a mortgage is better viewed as a rental inflation hedge

Actually, it's best viewed as sheer financial self-defense. It's one of the most distressing things about real estate bubbles - their victims are all but forced to contribute to them.

[Ian]

Echoing what 'yartrebo' said:
I've heard a lot about the US debt situation (I am a UK subject), and wondered what the GDP growth would be without it. According to US statistics sites, government debt alone is $9000000000000. (zeros left in for effect). This is expanding at $600Bn per year, which is 5% of GDP.
Assuming this money is foreign bought debt or else 'helicopter' money, doesn't this far outway any growth in GDP?
If this is true, hasn't the US economy really been in recession for years?
These figures also do not include personal debt.
I'd be very interested to hear from anyone who's studied these figures in greater detail.
I am not an economist, so correct me if I am wrong.

[Ian]

Ditto