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Eight reasons to be optimistic about today's economy
From Charles Calomiris, via Mark Thoma. Here is my edited version of the list, without the (very good) explanations:
1. Housing prices may not be falling by as much as some economists say they are.
2. Although the inventory of homes for sale has risen, housing construction
activity has fallen substantially [which will support future prices].
3. The shock to the availability of credit has been concentrated primarily in
securitisations rather than in credit markets defined more broadly.
4. Aggregate financial market indicators improved substantially in September and
subsequently.
5. ...nonfinancial firms are highly liquid and not overleveraged.
6. ...households' wealth is at an all-time high and continues to grow.
7. Of central importance is the healthy condition of banks.
8. Banks hold much more diversified portfolios today than they used to.
I find 3-8 more convincing than 1-2, noting of course that #7 is a relative judgment. Here is a longer version of the Calomiris paper.
Posted by Tyler Cowen on November 23, 2007 at 08:24 AM in Current Affairs | Permalink
Comments
Aren't points 1-2, if true, evidence of material poverty (as people are forced to spend more for housing) rather than of prosperity?
Posted by: sammler at Nov 23, 2007 8:41:38 AM
I say we get Calomiris to mud wrestle Mr Roubini to settle the matter
Posted by: Luis Enrique at Nov 23, 2007 9:07:49 AM
Luis,
Rou-bi-ni! Rou-bi-ni!
I think each of the points up there are not supportable even misguided. It is as though this guy was willfully ignoring every argument that Mr. R has put out. Plus did you get the "whistling past the graveyard" feel that I did from it?
1. If the Case Schiller index has the flaw that it doesn't cover the entire market, why is the S&P500, which has the same flaw, of any relevance to us? Why did the stock crash of 2000 have such a large impact on the economy? A simple answer to this one - even if a majority doesn't lose money on their house, it is possible for concentrated losses in costal housing to have a significant impact on the nations economy and even push us into a deep recession. Additionally, housing markets are notoriously slow to react to downward pressure on prices. It may be another year before it is clear what is happening to prices across the country, especially if there are modest declines.
2. There is 20 months of supply in Phoenix. What level would new construction have to fall to make this go away in less than 2 years? I suspect they would have to actually destroy homes and remove housing stock for this supply to go away. There are many places like this across the country.
3. This is not true. I have to settle a product every day where the credit crisis has caused dislocations to the market. These markets have little or nothing to do with mortgages directly. People on the street are very scared, and not just the asset-backed paper people. His chart doesn't even begin to touch what is happening in the credit markets. I just saw a conference where guys from Merril and Bear were actually sniping at each other about counterparty risk. If the credit markets and banks are so healthy, why is this even being mentioned at all?
4. It is now november not september, and the 10 year just went below 4%. The stock market has faltered. The stock market has been shown to be an extremely poor predictor of recession. I can't believe any serious economist would even say the stock market has any bearing on what the future might hold, it's track record is so bad at calling recessions. See the big picture and Barry R. if you doubt me, he just did a post on it not 2 months ago. The stock market frequently trades on highs just before recessions.
5. True but probably irrelevant. Where is that corporate spending boom then?
6. Household wealth has been shown repeatedly to have no correlation with the overall health of the economy. Wealth almost always goes up or remains stable, even during recessions. The jobs numbers for the last 6 months are almost surely overstated due to massive jobs from the Birth/Death model and not actual measured job creation. The B/D model is designed to miss turning points, and it is missing this one. When the final numbers come out, they are going to restate like -600K jobs over the last year.
7. Banks are only healthy if you accept their marks on Level III assets. They don't in other markets, only on their balance sheets do they ignore reality. "even under reasonable worst-case scenarios about financial sector losses associated with the subprime fallout" The losses are already way beyond all prior worst case scenarios. How many risk managers have said to you in the last months something like "6 standard deviation move"? This shows they are thinking with models that don't apply here. I suspect that the "reasonable worst-case" doesn't include Bear fighting for the life of the franchise, like they said they were recently.
8. Maybe, but is this enough to counter 1 through 7? For some well diversified banks, yes, but we've seen what has happened to e-trade financial, a diversified bank. When ACA and its peers are downgraded again, we will see how much this diversification means to the IBs
Posted by: mickslam at Nov 23, 2007 10:26:55 AM
I was very surprised by number 6, so I went looking. I found this at Angry Bear:
"So maybe we should look at table B.100 from the Federal Reserve’s Flow of Funds accounts, which reports household net worth. Since the end of 1999, nominal net worth has increased by a mere 10.2% - less than the increase in the price-level. So, Mr. Tammy forgets to tell NRO readers that by his own measure, savings has been negative."
What's the truth? How old or new is the data? How would the picture change with another 10% or 20% real-estate adjustment?
Posted by: odograph at Nov 23, 2007 10:28:26 AM
I just wish people would calm down and the drumbeat of support for a government bailout would die down. A taxpayer bailout of debt holders would set a bad precedent.
Posted by: Mike at Nov 23, 2007 10:30:32 AM
Yves Smith of Naked Capitalism has a detailed and mostly negative take on Calomiris's paper.
Posted by: anonymous at Nov 23, 2007 12:06:54 PM
"Household wealth has been shown repeatedly to have no correlation with the overall health of the economy."
?!
Posted by: josh at Nov 23, 2007 12:32:59 PM
A very interesting and informative paper. Yves Smith's take is detailed? What would you consider cursory?
Posted by: Rich Berger at Nov 23, 2007 12:37:42 PM
There is 20 months of supply in Phoenix. What level would new construction have to fall to make this go away in less than 2 years? I suspect they would have to actually destroy homes and remove housing stock for this supply to go away. There are many places like this across the country.
20 months of supply is, one notes, related to the current volume of sales as well. I suspect that while construction falling is significant, what "must happen" is that sellers quit waiting for prices to rebound and reduce them in order to sell. In other words, the problems of declining prices (for sellers) will eventually solve the problem of too much supply, and could easily do so in less than two years. Of course, I'm biased, in that I chose to rent rather than buy a year and a half ago in the DC area precisely because prices to buy were so high. A continued decline in prices would easily entice me to buy.
Phoenix was one of the epicenters of the housing boom. Point 1 in the paper is, I think, somewhat underappreciated. It is important that the OFHEO index also showed much slower growth in home prices during the bubble than the Case-Shiller "National" index, in addition to showing a slight increase rather than decrease in prices recently. That implies that the Case-Shiller index undersamples the parts of the country that did not experience the housing boom, and, more importantly, that the declines are concentrated in the areas that experienced the bubble, rather than more broadly.
Posted by: John Thacker at Nov 23, 2007 12:50:28 PM
Comparing Case-Shiller and the OFHEO home prices do indeed, as the paper claims, seem to indicate that the greatest price declines (and rises during the bubble) were concentrated among particularly expensive housing in the first place even among areas that are measured in both and are experiencing declines. That strongly argues that extrapolating from $500k+ homes to the entire country is exceedingly inaccurate, at least at this point. (Likely in the future as well, since the cheaper homes did not see the pricing run up to anywhere near the same degree either.)
Posted by: John Thacker at Nov 23, 2007 12:55:00 PM
Foreign Policy has their list of 5 things to be thankful for:
http://www.foreignpolicy.com/story/cms.php?story_id=4047
Though lots of those of course are going to lead to problems...
Posted by: Pablo at Nov 23, 2007 4:38:43 PM
What's the truth? How old or new is the data? How would the picture change with another 10% or 20% real-estate adjustment?
Ah, that's the thing. A home on which you have just started paying the mortgage is not much of a net asset, and a net liability on paper in many cases. On the other hand, the home is collateral for the loan, so people under water can also walk away. Calomiris's paper cites from that same Federal Reserve table extensively; see in particular Figures 16 and 17.
At the beginning of the bubble, household leverage increased and net worth decreased. Some (not all) of this was people taking in effect highly leveraged positions in real estate by acquiring homes, some even to flip or refinance once the home prices had raised. Certain misguided features in the tax system specifically encourage this sort of thing, and discourage other forms of saving. As home values appreciated, people who bought early in the bubble saw their net worth increase. Those who have never been above water will not find much of a decrease in their net worth, but there is indeed the possibility for many of those gains to be given back.
Aren't points 1-2, if true, evidence of material poverty (as people are forced to spend more for housing) rather than of prosperity?
No, point 1 is mostly that the widely used Case-Shiller "national" index specifically does not survey homes in the areas that both did not see prices rises nor have seen them fall. This bias means simultaneously that homes are more affordable than people relying on it alone would think, and that prices should not be expected to fall as much as it would predict, either. There are homes in lively economic regions such as Charlotte, Raleigh, and Dallas that go for $200k but would be $500k+ in northern Virginia.
It is, I suppose, some comfort that the price declines will be concentrated, like the rises, among the wealthier $500k homes of the upper middle class rather than the poor being hardest hit. OTOH, that portion of the "professional class" that lies in the top 10-15% of households but outside the top 2% (and thus considers themselves middle class-- see the response to Obama wanting to tax individual incomes about $95-100k more for Social Security) does seem to be quite nervous about their economic situation these days, complaining about the AMT, complaining about falling behind that top 1 and 2%, and complaining about a host of other things, despite overall doing quite well recently. Partially this is because many live in areas with quite expensive cost of living to go with their marble countertops.
Posted by: John Thacker at Nov 23, 2007 8:19:01 PM
Regarding #4, credit risk spreads have been widening gradually again for about
a month. They are now about at the level they were in August, just before the
crisis back then. This is an important indicator of aggregate financial market
conditions that has deteriorated badly recently, after improving in September and
the first part of October. Calomiris does not know this, or just ignores it?
Posted by: Barkley Rosser at Nov 26, 2007 5:02:35 PM
I'm glad someone finally has something good to say about the economy. Sure the country is not the most perfect place in the world but is anything ever going to be perfect? At least most of us have a roof over our head and meals to eat. I think what is wrong with our country is that too many people take what we have for granted. To those of you who think the economy is soooo bad, go live in central america or Africa for a few weeks. Then tell me if you think our economy is truly that bad.
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