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Tuesday, April 04, 2006

Richmond Fed's Lacker: No Fundamental Worries about Housing

Richmond Fed president Jeffrey Lacker gave a speech today and his outlook for both growth and inflation are optimistic. For output, he says:

It looks like we’re on track for continued expansion, with real GDP growing at about a 3 ½ percent annual rate this year. Consumer spending should grow in line with GDP and will be supported by job growth and real wage gains. Residential investment will flatten or slow, but business capital spending should remain robust. And that capital spending will support productivity growth going forward, which in turn will support the future income growth that keeps household spending healthy. And while there are risks to this forecast, as there are with any forecast, I do not see any single scenario that is compelling enough to alter the central tendency of this outlook.

And for inflation:

Let’s turn now to the inflation picture, where again things are looking better now than many had expected six months ago. ... longer-term expectations of inflation have remained moderate even as energy prices have moved up over the last couple of years. Looking ahead, short-term movements in the inflation rate can be hard to predict. But what is important is to stabilize inflation over medium- and longer-term horizons. And here the indicators about what the public expects look fairly good. Both survey data and the market prices of inflation-protected Treasury securities tell us that the public expects inflation to continue to be contained. ...

As for housing, he is not worried at all about the housing bubble popping because he doesn't believe there is a bubble. It's all fundamentals:

Looking ahead, to assess the outlook for consumers’ spending, you begin with their income prospects. Expectations are that the overall labor market will continue to be strong ... and further real wage gains should lead to healthy advances in incomes and, thus, overall consumer spending.

Before turning away from households, I’d like to touch on residential housing activity. As I’m sure you know, the housing market has had an amazing run in recent years. ... You won’t hear me use the B-word to describe this remarkable activity. Instead, I believe fundamental factors can fully explain the expansion we’ve seen in the demand for housing, particularly rising incomes, rising population, favorable tax treatment, and very low interest rates. At the present time, mortgage interest rates are not as favorable as they were a few years ago, and so it is not surprising that we are seeing some signs of a tapering off of residential activity in many markets. ... I see this not as a precipitous decline, but rather as a return to more normal conditions in many markets. ... Looking ahead, it seems reasonable to expect the housing market to remain strong, even as some further tapering off in sales and production takes place.

The key point I would like to emphasize is that the housing phenomenon was not a mysterious, independent boost to the economy, driven by some sort of animal spirits, but instead was a rational response by households to the economic fundamentals, especially very low real interest rates. Thus, going forward, the adjustment of the housing market ... will continue to fit comfortably within the standard economic framework. My assessment is that plausible rates of moderation in housing activity will not pose a problem for overall activity this year or next. Moreover, I don’t see diminished housing price appreciation as a major problem for consumer spending, since again, the primary determinant of spending is income, and we see solid and improving prospects for real incomes for the nation as a whole.

Update: Bloomberg report.

Update: From Calculated Risk:

DCalculated Risk: Dr. Leamer says: Expect Slow, Gradual, Painful House Price Declines: In this Mercury News article, UCLA's Dr. Leamer makes some interesting comments:

If history is any guide ... home prices won't peak for a while... When the end of the Cold War caused consolidation of the defense industry, the number of home sales in the Los Angeles area peaked in November 1988 -- but home prices didn't top out for nearly 2 1/2 years. "Then the prices began this gradual, painful, slow deterioration" of about 5 percent a year, Leamer said. "Don't watch the prices," he said. "Watch the volume."

In Santa Clara County, sales of new and existing houses and condos dropped 14 percent from the record mark set the previous February. It was the slowest February since 2001... If sales have peaked, Leamer predicts homeowners are likely to endure a test of their patience and financial mettle.

"It's really slow, not enough to drive you totally crazy," Leamer said. "It's a little bit of pain every year. If you try to sell, you can't find anybody to buy, and the price is eating into your equity little by little. That's the kind of adjustment we expect to see."

Update: William Polley covers a speech by Dalls Fed president Fisher. Fisher repeats a common theme in his recent speeches about the difficulties of measuring productive capacity and labor tightness in the presence of globalization.

    Posted by on Tuesday, April 4, 2006 at 10:32 AM in Economics, Fed Speeches, Housing, Monetary Policy | Permalink  TrackBack (0)  Comments (18)

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