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March 22, 2002
Mortgage markets struggled again this week. While the low-fee packages ended near 7.25%, Wednesday saw another barely restrained jump toward 7.50%.
The Fed's switch from bias-to-ease to balanced policy did no harm; the trouble came from more good news from the economy, and the only thing keeping the lid on rates has been the stock market's repeated fades from its highs.
The news that did the most damage: the housing market is in its best stretch in three years, especially construction of new homes, which reached the fastest pace in 23 years. Bond market worry-warts always see such activity as an inflation threat, but they misunderstand two aspects of the market for housing.
First, it is perfectly normal, healthy, and non-inflationary to build homes for the 80 million Americans added in the last quarter-century. Second, the homes of the other 200-odd million Americans need to be replaced from time to time. The damned things do wear out.
Fed-watching is returning to normal: neither we nor they (probably) have any idea where we'll be in six months.
Back in the summer of 2000, it was perfectly clear that the economy was slowing under the weight of the stock market collapse and the peak cost of the Fed's overnight money, 6.50%. The only questions were how weak the economy would get, and how soon and how much the Fed would retreat.
That one-way environment lasted a solid eighteen months, until the turn of this New Year. By then we had dusted ourselves off, pinched a few spots, wiggled a limb or two, and discovered to our collective astonishment that we were okay, in spirit, security, and pocketbook. Incredibly, the economy grew in the 4th quarter of 2001.
From the new year until about now, the consensus at the Fed and outside the temple held that the economy was bottoming, but ensuing recovery would be modest and fragile. This view was really an extension of the prior eighteen months, old fears reinforced by episodes like Enron.
Now it's different. The economy is clearly stronger than the consensus had thought, and for the first time in almost two years the Fed's normal concern has returned: "Could we possibly be... behind...?"
The Fed is always trying to pre-empt future danger. For two years it has worked with astounding prescience and success to pre-empt the recession threat from a blown stock bubble, compounded by a modern Pearl Harbor.
Now the Fed's switch has flipped to be-sure-we-don't-overdo-the-rescue. The first tightening moves, coming soon, won't hurt mortgages as much as would accelerating economic growth: the guess here says we won't break 7.50% unless the perception grows that the Fed is... behind.
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