Sept. 27, 2007
Housing: When a Slump Becomes a Crash
This week has produced some truly alarming figures for the housing market. Today we learned that new home sales dropped 8.3% from just one month ago. And earlier this week it was reported that the average sales price had dropped 8% from a year ago. These numbers are looking less like a “correction” and more like a full-on crash. Given that a huge number of recent home-buyers purchased their homes with little or no money down, a decline of this magnitude means that millions of people will soon be in the position of owing more money than their homes are worth. When this happens, people have a strong incentive to declare bankruptcy and let the banks take their homes.
While every official source tries to sugar-coat the reality of what’s going on, even their half-true statements are starting to sound alarming. Take, for example, that arch-imbecile Alan Greenspan, the man who bears more responsibility for this mess than any other individual. In the past week Greenspan has said that he believes home prices have a lot farther to fall and that the chances of a recession are increasing. (He says that the chances of a recession are still less than 50/50 – yeah right. If he wants to put his money where his mouth is, I’ll bet him any amount of money, at even odds, that we will be in a recession within 18 months. Give me a call, Alan…)
As I have written in a previous article, the stock market foolishly takes this all as good news, since the prevailing belief is that the worse the situation in the housing market gets, the more incentive the Fed will have to cut rates even further. But as I explained in a previous article, the Fed’s power is severely limited in this regard. For one thing, the Fed can only affect short-term interest rates. Long-term rates are what really matter, and long-term rates are not under the control of any government – they are set by the market. So, even if the Fed were to cut short-term rates to zero, it is still conceivable that they would fail to bring down long-term rates. This is a situation that Japan found itself in for much of the 1990’s following the bursting of their own real estate bubble. Once this happens, the central banking authorities are rendered helpless, since its not possible to lower interest rates below zero. In addition, the robust growth of the global economy, coupled with our dependence on vast amounts of foreign borrowing will further tie the hands of the Fed.
Doubtless, the Fed will do what it can and will accede to the growing chorus of cries for more rate cuts. It would take a tremendous amount of courage to stand up against public opinion and explain that we can’t afford to cut rates and that the only course open to us is to allow the markets to take their natural course and to deal with the fact that millions of people are going to lose their homes. Instead, the Fed will go along with public opinion and continue to cut rates. Unfortunately, this will only serve to exacerbate the slide of the US dollar (which is already making new lows against world currencies).
So, what is one to do if real estate is going to the dogs, the stock market is vulnerable, and not even the mighty dollar is a safe haven? Well, there are no easy answers right now. I, for one, have invested heavily in gold, which is approaching an all-time high. Personally, I wouldn’t be surprised if we saw gold reach $2,000/ounce within 5 years.
Good night, and good luck…