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November 14, 2003
Mortgage rates have fallen back below 6.00% -- for a large Fannie loan and a short lock, to 5.75%.
The proximate cause of the decline: Fed governor William Poole, one of the aspirants to succeed Mr. Greenspan, amplified on the Fed's commitment to hold its rate steady for a "considerable period" of time, saying the Fed could keep rates low "... well beyond March."
As far as I know, that's the first-ever mention by a Fed official of a specific date involving future Fed action. About a third of market economists had been on record expecting a rate hike next spring, and they have some rethinking to do; another third expected the hike later in '04 -- now a "maybe", not an expectation.
It was Poole talking, not Mr. Greenspan, and nobody used the word "guarantee" (Mr. G's word last week was "patient"), but the Fed's intention could not be more plain: don't even look like you might do something that could abort the economic expansion. Don't look like you might be thinking about such a thing.
Does that mean the recovery is fragile? I don't think anybody knows, yet. There was concern in the 3rd quarter, even as its explosive growth came clear, that the economy was surging in response to one-time stimuli -- tax rebates and cuts, monetary ease -- and would slump back once the beneficial shock faded. Optimists have hoped to get a durable recovery from traditional post-recession "pump-priming", but the economy has sagged repeatedly into post-bubble mire.
The newest data begin to resemble the traditional model, but are way short of confirmation. The change for the better in the labor market is persisting into the 4th quarter: new job formation may be sluggish, but new unemployment claims are decisively below the 400,000/week range. However, October retail sales fell, as did industrial production, and industrial capacity in use is still stuck at 75%.
Unable to predict the future, the Fed is always trying to balance risks. In this situation, the risk that the Fed could re-ignite dangerous inflation is zilch (the Fed is obviously ignoring $400 gold, and rising commodity prices and shipping costs -- and so should everybody else). Therefore, the Fed may as well take out an(other) insurance policy: tolerate any GDP growth rate, tell the bond market to relax, and keep long-term rates low to make sure that there is GDP growth.
If this stage of the expansion falters, the Fed is running low on options. The usual idea is to get the Fed funds rate well under the rate of inflation; however, as inflation is running so low, 1%-2%, Fed efforts to get below it remind me of my childhood golden retriever, who, whenever he heard thunder sought safety under the sofa. Knocked it over once, but never got under it.
Second, the Fed has no external help. There won't be more tax cuts, and the US is the sole engine of global growth. China is growing fast, but is a force for deflation among trading partners. European growth hit headlines today, but the annualized rate of recovery in Germany, France, and the Netherlands is less than 1% versus budget deficits in excess of 3% of GDP. Japan has enjoyed two straight positive quarters, 3.5% and 2.2% annualized, but entirely due to its beggar-thy-neighbor export engine; consumer spending is flat and the budget deficit astronomical.
The deteriorating situation in Iraq (don't yell at me, argue with Senator Chuck Hagel, R., Nebraska: "We are in trouble....") is not having a detectable economic impact. Half of poll respondents now think that removing Hussein wasn't worth the trouble (70% of Democrats, 20% of Republicans). However, consumers gained confidence in the last two weeks, from 89.6 to 93.5 in the U of Michigan study, and the "economy-is-in-good-shape" fraction rose from 21% in September to 30% now.
One sure thing: the politics of the pocketbook.
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