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July 18, 2003
Alan Greenspan's Tuesday testimony wrecked the bond market. If his conclusions are correct, this collision is only the first in a series.
At the worst of the week, the ten-year T-note yield was a full percent higher than a month ago (reaching 4.08%), and mortgage rates have settled in the 5.75%-5.875% range. Everyone should assume that these are the last days of sub-6.00% mortgages, perhaps for quite some time.
Okay, this is the same Alan Greenspan who three weeks ago cut the Fed funds rate to 1.00% to help the economy? Who in this week's testimony said he would cut the rate to zero if necessary?
In what way will rising long-term rates help the economy? Did he not know that long-term rates would explode within seconds after the electronic release of his remarks, before he spoke a word to Congress?
Oh, yeah, he knew. One of his jobs, when he believes he sees a turn in the economy, is to warn the markets, lest they obliterate themselves all at once. His promise of future easing as necessary to revive the economy is a short-term affair; his forecast of 3.75%-4.75% GDP growth in 2004 was the equivalent of offering bond traders a last cigarette.
However, his promise to "... maintain a highly accommodative stance of policy for as long as it takes to achieve a return to satisfactory economic performance...." every trader understands to mean that as soon as satisfactory performance is achieved, the firing squad will line up. Though some believe that the Fed will not return to "pre-emptive tightening", there's not a trader alive who believes the Fed will fail to begin to nudge its 1.00% rate upward if the economy grows at 4.00%-plus on a sustained basis.
The most current economic data show a growing economy, and a post-bubble bottoming-out in several places. The slashing of technology budgets has run its course, for example. Retail sales had a decent June, but a half-percent pickup is no more than that; industrial production put in its second straight .1% gain in June, preferable to a decline, but not enough to motivate anybody to start hiring. New claims for unemployment insurance fell, but are still above 400,000 each week.
The Chairman hangs his forecast for surging GDP on two things: the tax cut, and a change in confidence at businesses. At $35 billion per quarter, the tax cut alone should add a percent to GDP (unless a lot of it is saved instead of spent). Confidence is tough to measure, but it shows in the stock market, and in reduced credit spreads in the bond market, which reflect reduced fears of bankruptcies.
Confidence among CEOs has turned... some. The Conference Board's survey rose to 60 in the second quarter from 53 in the first, the best reading since spring 2002, just before the economy slid. The Business Roundtable found 69% of CEOs expecting better sales in July, but only 16% plan to increase hiring, and only 14% will increase capital spending, down from April's 18%.
Mr. Greenspan's chips are down. He says we are concluding a cyclical episode, and are free of structural problems, finished with the post-bubble phase. I have no idea how much of his testimony was intended as cheerleading, trying to jawbone the animal spirits of CEOs into life. And, his search for steep economic acceleration may prove as elusive as Saddam's WMD.
But, if he's right, mortgages are headed up a slow and steady staircase, each riser marked by the release of job data on the first Friday of each month. Mortgages will rise in direct proportion to payrolls, not stopping until rates are high enough to slow the housing market, up around 7.00% someplace, in '05.
On the other hand, if the Great Man is mistaken, no payroll rise, no riser.
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