The Big Picture

« Mutual Funds Cash Levels | Main | Comment Glitch: Avoid Multiple Posts »

House of Pain

Thursday, August 17, 2006 | 07:20 AM

in Consumer Spending | Economy | Federal Reserve | Real Estate

The WSJ's MarketBeat has an excellent summary on the Housing Starts data, titled House of Pain. The WSJ notes 4 relevant factors (note table of rising inventory, at lower right):

1. The Fed was right. So far, the Bernanke Fed has been subject to criticism for its "transparent" communication style, but as far as economic predictions go, they've been reasonably solid. In its midyear update the Federal Reserve said it expected "the associated easing in house-price appreciation will likely temper gains in household wealth, which, over time, may be a factor in damping consumer spending."

To this point, that seems to be happening.

It remains unclear whether the vaunted soft landing the greater investment community is hoping for will really come true, or whether its expectations that inflation will indeed tail off as the economy slows is just another one of Goldilocks' dreams, while hungry bears move in for the kill.

2. Consumer spending is going to slow. Northern Trust estimated that the housing boom has been responsible for about 33% of employment growth during this expansion, and home-equity withdrawals accounted for about $600 billion in consumer spending in 2005 (the Fed estimated it at around $800 billion).

"It's a very large amount, and it's going to be reflected in consumer spending," said Asha Bangalore, economist at Northern Trust. "Households now are not tapping as much, and there is no buffer available for household savings as personal savings is negative. With mortgage rates resetting, you see how hard-pressed households are."

3. The slowdown is everywhere. On a year-over-year basis, starts are down 19% in the Northeast, 16.6% in the Midwest, 14% in the West, and 10.7% in the South, where prices are cheapest (the average sales price in the South was $197,300 in 2005, the cheapest of the four regions).

4. Things could correct faster than expected. While starts are down 13.3% on a year-over-year basis, building permits are down 20.8% in that same time period. "Perhaps some solace can be taken from the fact that builders are cutting back on new supply at a time when demand is weakening. This may help to shorten the recovery period in the housing sector, where the market has shifted rapidly to a buyer's market from a seller's market in short order," wrote Omair Sharif, economist at RBS Greenwich Capital.

That remains to be seen -- as of June, 6.1 months of new supply was on the market, which remains near a 10-year high.