When housing isn't the economic cycle: James Saft
(James Saft is a Reuters columnist. The opinions expressed are his own)
By James Saft
(Reuters) - This time it may be that the housing cycle isn't the business cycle in the U.S.
Signs of a strengthening housing market and growing residential investment simply may not mean what they usually have since World War II, since when almost all recessions have been preceded by downturns in housing.
Data on Wednesday showed rising prices, improving sales and, most importantly, a continued trend of dwindling supply. And this fall, for the first time in three years, conditions may not deteriorate, according to housing data analysts at CoreLogic, due to better supply/demand dynamics, fewer bank-owned house sales and a slowly tapering inventory of foreclosures.
This time, however, better housing conditions are coming up against a potential massive cut-back in government spending and a Europe-driven downturn in much of the rest of the world.
The Congressional Budget Office, which is non-partisan, weighed in with a revised forecast which sees next year's fiscal cliff plunge as causing a half a percent contraction in the economy next year accompanied by a rise in unemployment to 9.0 percent.
Figures out of the housing market certainly are not flashing recession. Investment in residential structures increased at a 9.7 percent clip in the second quarter, down from its rate the quarter before but a huge change from 2010 and 2011 when it actually shrank. Similarly fixed investment in housing alone accounted for about 15 percent of economic growth in the second quarter, having been a net drag last year.
Construction employment, while still a tiny fraction of boom levels, is also showing signs of an uptrend, both inside and outside of the residential sector. Taken altogether, if you just looked at housing you wouldn't have much, if any concern about the prospects of a recession.
Edward Leamer, a professor at UCLA, originated the idea that housing drives economic cycles at a paper given at the Fed's Jackson Hole conference in 2007. here
"Of the components of GDP, residential investment offers by far the best early warning sign of an oncoming recession. Since World War II we have had eight recessions preceded by substantial problems in housing and consumer durables," Leamer wrote, arguing that housing starts, which have been on an uptrend, ought to play a central role in how central bankers ought to determine interest rate policy. Though housing starts eased slightly in July from a month before, they still stand 21.5 percent higher today than a year ago.
For a clue of how next year might pan out, it makes sense to look at two post-war recessions housing did not predict - the ones that began in 1953 and 2001.
The downturn of 2001, as everyone remembers, was characterized by huge cut backs in capital spending in the wake of the puncturing of the tech stock bubble. This cascaded through the economy, both in terms of jobs, consumer spending and tax receipts and despite a perhaps overly aggressive response from the Federal Reserve.
The so-called Department of Defense downturn of 1953 might be a better model for 2013. With the Korean War over, defense spending was slashed, contributing nearly half of the contraction single-handedly.
That is very similar to what we could see next year if many of the automated spending cuts and tax hikes currently planned to start in January kick in, a real risk in most post-election scenarios.
While it would be foolish to discount housing's predictive and economic power, it is also possible that the period we've just come out of will prove in some ways to have been the aberration. The build-up of debt in the economy tracked, roughly, the rise in the home-ownership rate, and the growth of suburbia, a dead-end trend if ever there was one, also coincided, driving investment in autos, roads and all of the stuff with which we fill our garages.
Housing wealth, during the bubble, translated into extra spending but it is hard to see prices surging once again, much less households deciding that was they need to do is borrow and spend more in hopes those price rises can be sustained. Trying to blow another bubble in housing is a strategy which may have reached its natural limits.
Even if government spending isn't cut next year we still face a puzzle: how to grow the economy while reining in long-term deficits. The answer - exports - is as obvious as it is difficult to achieve.
For 2013, we may be looking at the rare exception when housing follows the rest of the economy lower.
(At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund. You can email him at firstname.lastname@example.org and find more columns atblogs.reuters.com/james-saft)
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