13 European Housing Markets Sure Look Like Bubbles

soap bubble

Could Sweden or Finland be the scene of the next European financial crisis? It is actually far likelier than most people realize. While the world has been laser-focused on the woes of the heavily-indebted PIIGS nations for the last couple of years, property markets in Northern and Western European countries have been bubbling up to dizzying new heights in a repeat performance of the very property bubbles that caused the global financial crisis in the first place.

Check Out Europe’s Housing Bubble Country-by-Country >

Nordic and Western European countries such as Norway and Switzerland have attracted strong investment inflows due to their perceived economic safe-haven statuses, serving to further inflate these countries’ preexisting property bubbles that had expanded from the mid-1990s until 2008.

With their overheated economies and ballooning property bubbles, today’s safe-haven European countries may very well be tomorrow’s Greeces and Italys.

I’ve named this massive multi-country housing bubble “The Post-2009 Northern and Western European Housing Bubble.”

(The Post-2009 Northern and Western European Housing Bubble is a part of the overall Post-2009 Global Housing Bubble or “Housing Bubble 2.0″ that I’ve identified.)

UK and London Housing Bubble

UK housing prices have nearly quadrupled from the mid-1990s to 2008, briefly fell 20% in 2009 and have since rebounded enough to keep property prices firmly in the stratosphere.

UK property prices are very overvalued, currently valued at 128% of their historic price-to-income ratio and 140% of their historic price-to-rent ratio. [1] In a pattern similar to France, the UK housing bubble (since 2008) has been primarily driven by price gains in the capital city of London.

Prime London housing prices rose a hearty 11.4% in the 12 months to October 2011 [2], up 40% from their post-credit crunch low [3], while most other investment markets fell in a very volatile year.

Like Paris, the city of London has such a strong level of international “brand recognition” and a perceived safe-haven status that wealthy foreign investors are clamoring to buy property in prime areas such as central London.

“London property is the ‘Swiss bank account’ of the 21st century,” says Robin Hardy, an analyst at London investment firm Peel Hunt. Rich people in places like Egypt, Syria and southern Europe are rushing to get their money away from the turmoil, and for want of a better alternative, they are plunking it down in the “millionaire’s playground” of central London. [4]

The nouveau riche of China, India and other emerging markets are also keen on diversifying their wealth into prime Western property markets such as London, Vancouver and Manhattan, while one hedge-fund manager said that London property was a “laundromat for Russian money.”

An entire generation is locked out of the city’s broken and outrageously-bubbled housing markets as the average Londoner would need to triple their salary to £87,000 to buy an average price property. [5]

The prime London property bubble is highly vulnerable to the popping of the precariously-teetering China and emerging markets bubbles as well as job losses and decreasing bonuses for City of London financial workers. [6]

UK and London Housing Bubble Articles List

French and Paris Housing Bubble

After zooming 120% from 2000 to 2008 and briefly dipping 5.6% in 2009, French property prices have continued their inexorable march higher since late 2009. French property prices are highly overvalued, currently valued at 135% of their historic price-to-income ratio and 150% of their historic price-to-rent ratio. [1]

Though property prices are strongly rising throughout France, the French housing bubble is largely driven by the Paris region, where prices have jumped 18% in 2010 and approximately 10% in 2011, up more than 40% since 2005. Some posh districts in Paris have risen at a 27% rate in 2011. [2]

France’s housing bubble was goosed by a 2009 law that was meant to stimulate the housing market by creating a significant tax incentive for buyers. Mortgage rates that plunged from 6.5% in late 2008 to 3.5% in 2011 were another major catalyst for soaring property prices, causing fixed-rate mortgage lending to increase by 73% by early 2011. [3]

The French property market now has the dubious distinction of being the most overvalued in Europe and the third most overvalued market in the world, behind only Hong Kong and Australia [4], which have property bubbles of their own.

The Paris-based OECD warned that “there is a risk that a prolonged period of easy finance could result in a price bubble,” which may endanger French banks [5], while Hervé Boulhol, the OECD’s France economist, warned against treating French real estate as a safe-haven and that the property market’s powerful rise without a corresponding rise in income “may signal a bubble phenomenon, as a bubble is a disconnection with fundamentals.” [6]

Moody’s also issued a warning that the French property market was overheating and that the least cautious lenders could face steep losses in a more price severe drop. [7]

By October 2012, the French property boom showed signs of an abrupt slowdown, with new mortgage loans dropping 45.8% (yoy) and a 30 to 40% decrease in home sales in Paris and Ile-de-France. [8]

French Housing Bubble Articles List

German Housing Bubble

While Germany was fortunate and sensible enough to have avoided engaging in the 2000s housing bubble folly with the rest of the world, Germans certainly seem eager to make up for lost time.

The European Central Bank’s ultra-low key interest rate, while appropriate for the ailing PIIGS nations, is too low for faster-growing Germany resulting in negative real interest rates and fears of inflation.

As is common in countries with negative real interest rates, German investors are pulling money out of low-yielding bank accounts and investments and plowing it into all types of real estate, causing prices to boom for the first time in a very long while.

Property prices in Munich and Hamburg rose by more than 10% in 2011 [1] , while obscure fields and forests in northeastern Germany’s Uckermark region have soared by as much as 20 to 30 percent. [2]

In September 2012, George Soros said “You have a serious danger of a housing bubble developing in Berlin. It has a lot to do with the flight of capital and negative real interest rates.” [3]

It is too early to determine if Germany is in the midst of a property bubble, but it is certainly a situation that warrants monitoring, especially if there is a temporary improvement in global economic growth and sentiment.

German Housing Bubble Articles List

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ComparaSave.com Debunks the Top Mortgage Myths

Buying a house (and securing a mortgage) is the largest investment that most people will make in their lives and it’s important to know that truth behind these mortgage myths. In an effort to help Canadians make the right decisions on their mortgages, ComparaSave.com debunks these myths.(PRWEB) December 20, 2012 With so many rules, regulations, and stories behind obtaining a mortgage, it may be hard to separate fact from fiction. ComparaSave.com is educating Canadians on the truth behind securing a mortgage, mortgage rates and mortgage terms. Here are the top five mortgage myths debunked. …
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PRESENTING: The New American Dream Home — Where Multiple Generations Of One Family Live Together

lennar nextgen

The bottom of the U.S. housing market seems to be behind us and mortgage rates are at record lows.

However, Americans are reluctant to buy a home due to shaky labor market conditions, weak wages, and the haunting memory of the recent housing bubble.

Rentals are popular and multi-family units are rising rapidly.

But is the dream of owning and living in a traditional home dead?

Homebuilder Lennar doesn’t think so.

In 21 markets around the country, Lennar is offering its NextGen design to address the rising demand for homes that house more than one generation of adults.  Unlike most multi-family houses, the NextGen actually looks like a traditional home, and it’s marketed as a “home within a home.”  But it offers plenty of privacy for both sides of the family.

Adam McAbee of John Burns Real Estate Consulting walked through one of the houses.

And from what we can tell, the new normal isn’t as depressing as we would’ve thought.

This particular development is in California’s Santa Clarita Valley. This plan is sold out due to popularity

This house is just under 3,500 square feet

To the left of the garage is a private third car garage

See the rest of the story at Business Insider

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Chaplin Williams Housing Data Shows Higher Prices for Amelia Island Real Estate

Housing market conditions in both the Fernandina Beach real estate and Amelia Island real estate markets continue to indicate a slow, but steady, housing recovery. The latest housing market data provided by the Amelia Island – Nassau County Association of Realtors shows that a drop in foreclosures and historically low mortgage rates are helping existing home sellers by lowering housing inventory and raising the average sales price of sold homes. …
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Has The US Housing Market Really Bottomed?

Baltimore Vacant Abandoned Empty HousesEveryone interested in real estate is asking the same question: Is the bottom in, or is this just another “green shoots” recovery that will soon wilt?

Let’s start by reviewing the fundamental forces currently affecting real estate valuations.

Expanding the pool of potential buyers has reached the upper limit 

There are two ways to expand the pool of qualified home buyers, and they both rely on expanding leverage:  A) lower the down payment from 20% cash to 3%, and B) lower the mortgage rate to 3.5%.

Lowering the down payment increases the leverage from 4-to-1 to 33-to-1, a massive leap.

Increasing leverage increases risk. Over 90% of all mortgages are guaranteed or backed by Federal agencies such as FHA. This “socialization” of the mortgage industry means that losses ultimately flow through to the taxpayers, who are subsidizing the housing industry via these agencies.

Lowering the mortgage rate increases the leverage of income.  It now takes much less income to qualify for greatly reduced monthly payments.

With mortgage rates barely above the prime rate and Treasury bond yields negative in terms of inflation, there is simply no room left for lower rates or down payments.  The “increase home sales by expanding the pool of buyers” game plan has been run to the absolute limit.

The pool of buyers cannot be expanded any further; that boost to sales is done.

The unintended consequence of enticing marginal buyers to buy homes is that defaults are rising: 1 out of 6 FHA-insured loans are delinquent. This is the “blowback” of qualifying everyone with an income above the poverty line as a homebuyer.

The mortgage industry has escaped any consequences of “robo-signing” mortgage fraud

If the rule of law existed in more than name, this is what should have happened:

  1. MERS, the mortgage industry’s placeholder of fictitious mortgage notes, would have been summarily shut down.

  2. All mortgages and derivatives based on mortgages would have been marked-to-market.

  3. All losses would be booked immediately, and any institution that was deemed insolvent would have been shuttered and its assets auctioned off in an orderly fashion.

  4. Regardless of the cost to owners of mortgages, every deed, lien, and note would be painstakingly reconstructed on every mortgage in the U.S., and the deed and note properly filed in each county as per U.S. law.

That none of this has happened is proof that the rule of law is “optional” for financial institutions in America.

The $25 billion mortgage fraud settlement turned a blind eye to the fraud, and now the banks are applying losses they have already booked to the $25 billion, mooting the supposed “benefit” of the settlement to consumers.

The Federal Reserve’s purchase of mortgages – over $1.1 trillion in 2009-10 and now another $40 billion a month – is essentially a money-laundering operation in which the Fed exchanges cash for dodgy mortgages.

Analyst Catherine Austin Fitts (QE3 – Pay Attention If You Are in the Real Estate Market) summarized what this means:

“The Fed is now where mortgages go to die.”

“Thousands of mortgages on homes that do not exist or on homes that have more than one ‘first’ mortgage are now going to the Fed to disappear. Thousands of multifamily and commercial mortgages will be bought up as well. With documents shredded, criminal liabilities extinguished and financial institutions made whole, funds can return without fear of seizure.

QE3 proves beyond any shadow of a doubt that the extent of the fraud was as bad as I said it was. You can count up the bailouts and QE1, QE2, QE3 the numbers speak for themselves. The fraud was indeed in the many trillions of dollars.”

In other words, the financial sector has gotten away with murder, and the “overhang” of systemic fraud has been erased with Fed connivance.

Banks are restricting inventory

The banks are withholding distressed properties to restrict the inventory of homes for sale.

If supply overwhelms demand, prices decline.  That would be a bad thing for banks sitting on millions of defaulted mortgages and distressed properties.  Millions of impaired properties are being held off the market so supply is lower than demand.

The strategy has costs. Thousands of defaulted homeowners have been living mortgage-free for years. But the gains have been impressive. With supply dwindling, beaten-down markets have seen gains of 20+% this year as strong investor demand has pushed prices higher.

Since the strategy has paid such handsome returns, why change it?

ZIRP has attracted investment

The Fed’s ZIRP (zero interest rate policy) has pushed investors into a “search for safe yield” that has led many to buy corporate bonds, dividend stocks and everyone’s favorite “safe” fixed asset, real estate. 

In many markets, one-third or more of all sales have been to investors.

Some are buying distressed properties to “flip” in strong-demand markets, but many are buying the homes as rentals with the plan being to hold them for a few years as prices rise and then sell to reap appreciation.

Anecdotally, every investor class is getting into the act, from Mom and Pop to big players such as insurance companies and Wall Street funds.  One of my contacts in the insurance industry told me that his firm was buying large multi-unit apartment complexes, as these rentals generated a yield of 6% to 7%, far above the 1.7% yield of ten-year Treasury bonds.

In a non-ZIRP world, Treasuries and other asset classes would offer similar yields but without the risks and costs of managing rentals. But in a ZIRP world of near-zero yields for low-risk financial assets, rental real estate is a compelling investment: decent yields, relatively low risk, and strong appreciation potential if housing has indeed bottomed.

“The bottom is in” – isn’t it?

Once potential buyers see prices rise and they conclude that “the bottom is in,” they jump in and buy, pushing prices higher in a positive feedback loop. The higher prices rise, the more evidence there is that the bottom is in, and the greater the incentives to jump in before prices once again rise out of reach.

Favorable rent/buy ratio

With mortgage rates well below 4%, the rent-buy ratio is favorable in many areas. It may indeed be cheaper to buy than to rent in some locales.

“Hot money” flowing into real-estate

As economies in Europe and Asia falter, “hot money” is flowing into perceived “safe havens” such as the U.S. and Canada. Some of this “hot money” ($225-$300 billion a year is leaving China alone) is flowing into real estate, a well-known phenomenon in markets such as Vancouver, B.C., Miami, and Los Angeles.


What can we conclude from this overview of fundamentals?

  • The mortgage industry escaped any real consequence from its systemic fraud

  • The Status Quo plan to reflate the housing market with super-low mortgage rates and down payments has worked to some degree

  • The financial sector’s plan to boost home prices by limiting supply has also worked

  • ZIRP has created a “crowded trade” in low-risk investments with attractive yields such as corporate bonds, dividend stocks, and real estate, which is being fueled by a self-reinforcing perception that “the bottom is in”

The question now is will these forces continue pushing prices higher? If so, the bottom may well be in. If these forces deteriorate or lose their effectiveness, then the “green shoots” of investor interest may wither as the U.S. economy joins Europe and Japan by re-entering recession.

In Part II: Forecasting the Future of Rental Housing and Home Valuations, we will examine what forces could change “the bottom is in!” to “this is just another head-fake” – with the real bottom still ahead.

Click here to read Part II of this report (free executive summary; enrollment required for full access).

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Why The Fed Won’t Admit Big Banks Have Too Much Power In The Mortgage Market

packing moving foreclosure

The Fed has been laser-locked on keeping up the momentum in the US housing market.

In its asset-purchase program, known as QE3, it’s been buying the mortgage bonds where almost all US home loans eventually end up.

Doing so pushes rates lower in the secondary markets where traders buy and sell those bonds.

And, in theory, those lower rates are passed along to consumers by the banks.

The problem is that the banks aren’t passing on all the savings they could. How do we know?

One measure is the primary-secondary spread. This is the difference between the average mortgage rate consumers are offered and the benchmark rate on mortgage bonds in the financial markets. It serves as one gauge of the profit a bank can make on a mortgage.

And recently, as mortgage rates have hit historic lows, the spread has blown out to historic highs.

Here’s a look from a Fed paper published recently.

Economists from the Fed churned out a paper recently calculating whether the bigger spread means the banks are making bigger profits (Answer: yes) and trying to figure out why.

This matters because the main point of the Fed’s bond-buying is to make mortgages cheaper for home-buyers, not to make them more profitable for banks. The short version is that there are a bunch of factors at play. Over at WSJ.com’s Developments blog they give a nice summary.

But we found one of the lines of reasoning in the Fed paper somewhat strange. It was over the question of concentration in the mortgage market. There’s a theory that because a few big banks control most of the mortgage world, they aren’t competing against one another as fiercely, so they can get away with offering rates that aren’t quite as low.

The Fed paper downplays this notion (emphasis ours):

It is well-known that the mortgage market in the United States is dominated by a relatively small number of large banks that originate the majority of loans. However, as shown in Figure 10, a simple measure of market concentration given by the share of loans made by the largest five or ten originators has actually decreased over the period 2011-12, as a number of the large players have decreased their market share (while the largest originator has further increased its origination share). Thus, market concentration alone is unlikely to provide an explanation of high profits in the mortgage business.

Really? You’ll look at market concentration over the last year alone? That seems a strange way to measure things. Don’t take our word for it. Listen to Ed DeMarco, the acting head of the Federal Housing Finance Agency, an important US housing regulator (again, emphasis ours):

I would like to see the mortgage market of the future become more competitive than it is today. We have seen a great deal of concentration in mortgage origination and in mortgage servicing in recent years. This has come, in part, at the expense of small and local banks and thrifts, institutions with both local market knowledge and direct and multiple relationships with borrowers.

During the first half of 2012, three banks—Wells Fargo, JP Morgan and US Bancorp—originated half the mortgages in the US. Three. Wells Fargo alone made more than one third of the mortgages. By itself. According to Bloomberg, back in the 1990s a lender with 7% of the mortgage market would have been considered a big player.

Even the head of the New York Fed, Bill Dudley, has acknowledged that the mortgage market is increasingly concentrated. In a speech back in October, when Dudley explained why the Fed wasn’t getting as much bang for its buck, the power of the banks was the first thing he mentioned (emphasis ours):

The incomplete pass-through from agency MBS yields into primary mortgage rates is due to several factors—including a concentration of mortgage origination volumes at a few key financial institutions and mortgage rep and warranty requirements that discourage lending for home purchases and make financial institutions reluctant to refinance mortgages that have been originated elsewhere.

In a speech on the topic at the New York Fed this week, Dudley mentioned similar factors, though his focus on the market power of the banks seemed a tad more muted. Of the Fed’s paper on the rise of bank profits he says:

The study examines a number of potential explanations.  These include capacity constraints, market concentration, pricing power over Home Affordable Refinance Program (HARP) refinance loans and pricing power on other loans. It finds that capacity constraints play a role and that there is evidence to suggest that originators enjoy pricing power and elevated profits on HARP and other refinancings.

Why this dancing around what seems to be an obvious problem? At the very least, it seems high time that the folks at the Fed devote their considerable powers and expertise to a study focusing exclusively on the concentration of lending among banks in the US mortgage market, and whether that is holding back the US recovery as a whole.

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GARTMAN: The Federal Housing Administration Is Turning Homeowners Into Squatters

The absurdity of this fiscal cliff debate ignores vital questions. Does the federal government allocate resources well, or poorly?  Does the private market do it better, or worse?  And what should be the balance between the two?  With what degree of regulation by the government?  These are profound questions about which our political leaders are nearly silent.

President Obama’s class warfare, aimed at taxing the rich, avoids these tough questions.  Republican leaders avoid them, too, with their counterpoints about raising revenue without raising actual tax rates.  Neither side serves the country well; they do not debate the more fundamental issue about the role of government.

Let’s look at these questions in the context of housing.

Federal policy changed after World War II.  Our nation agreed to help returning veterans buy homes.  The first government-subsidized (guaranteed) mortgages in the postwar period were for veterans.  That national policy of assistance for veterans still has major support and few detractors.

Over time, the federal government misused its ability to allocate resources to housing.  Fannie Mae ended up a national disaster.  The old-style local lender (savings and loans) disappeared.  The price for this federal allocation of housing resources eventually tallied in the hundreds of billions when it blew up.  The housing collapse and the financial crisis associated with it have cost trillions in losses.

We are still unwinding the housing finance mess and its aftermath; but the private markets are clearing.  Why?  Not because of any fiscal program.  It is the Fed that provides the healing.  The Federal Reserve’s low-interest-rate policy focused on mortgages is facilitating the repair of the housing sector.

Consider these facts.  In the middle of 2009, as the worst recession in modern times was ending, 46 of the 50 states had falling house prices.  In Nevada the plunge was 28%.  Arizona 21%.  Florida 18%.  California 15%.  Sources: Federal Housing Finance Agency, New Davis database.

Now, 44 states show rising house prices.  Arizona is up 20%.  Nevada is up 9%.  California 7%.  Florida 7%.  Data is the four-quarter change by state: Purchase-Only Index (seasonally adjusted).  The most recent time period reported is Q3 2011 – Q3 2012.

Housing is definitely recovering.  

The Fed’s policy of low mortgage rates certainly helps.  Fannie’s role is limited, although it still dominates the mortgage business by crowding out most others.  And it still employs the implied federal guarantee, while the federal debt limit debate and fiscal cliff discussion ignore the reality of $5 trillion in federally-assisted housing finance.  You have not heard clarity from Washington about the contingent liabilities of the United States.  The Obama, Boehner, Reid, McConnell, Pelosi nexus pretend these contingent liabilities do not exist.

Now we have another federal housing finance mess unfolding.  This, too, is an example of federal misallocation of resources and failure of federal policy, followed by federal cover-up through rule making.  This, too, is an example of the Obama Administration’s tactic of ignoring and postponing an inevitable financial cost and thereby exacerbating it.  This, too, shows how Republicans fail to argue their case honestly and persuasively.

We are talking about the mess at FHA.

My friend Dennis Gartman does not mince words.  He captured things perfectly in the November 30 issue of his eponymous daily letter which, by the way, we read regularly.  Thank you, Dennis, for calling it as you see it and for giving us permission to share the letter with our readers.

The November 30, 2012 edition of The Gartman Letter said:

“The Federal Housing Administration finds itself in rather dire fiscal circumstances as mortgage after mortgage after mortgage that it made to people who should never have been given a mortgage are defaulting every hour.  17% of the FHA’ mortgages are now delinquent and this is a shocking number.”  

So what is the Obama Administration doing about it, asks Dennis.  

“Well it is extending the so-called grace period being allowed to its mortgagees. Starting in August of last year, the FHA began extending this grace period, giving dead beats a longer period of time in which to beat dead. Now, if you are unemployed but have an FHA guaranteed or issued mortgage you can miss a full year’s payments and not be considered delinquent… up from what we considered an already far-too-lenient 3 months. After a year in the grace period if no payments are received, the FHA will begin foreclosure. However, as we understand it, if one payment is made before the twelve months is up, the mortgage is considered current and the clock begins again.”

Dennis concludes, “Really, you cannot make this stuff up. What we have then is a growing pool of mortgagees who know that their house shall eventually be foreclosed upon and thus whose upkeep on the house diminishes with each missed payment. As one prescient economist once said, ‘Never in history has a rented car been returned waxed.’ Always in history ‘renters’ treat houses more poorly than owners, and owners not making payments are not even renters… they are merely squatters.”

Readers, please note that billions of accumulated federal liabilities and contingent guarantees are at stake here.  None of this federal liability is part of the current fiscal cliff debate.

In spite of problems on the fiscal side of the federal government, housing is recovering.  The Fed’s low-interest-rate policy will continue until housing reaches a normalized baseline, and that is still years away.  For investment markets, the implications are huge.  We continue to be overweight the housing-related ETFs, such as XHB.  We have held XHB for over a year.

We believe this housing recovery cycle will run the entire rest of the decade.  The housing ETFs have a survivor bias.  The failed homebuilders are not around any more.  We remain fully invested.

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Skepticism About Low Interest Rates Is Holding Up The Recovery


The complex effects of low interest rates on consumption and investment.

When interest rates hit double digits in the late 1970s, house-builders sent planks of wood to the Federal Reserve in protest.

With rates stuck near zero, the protests now come from the opposite direction. The retired complain of a “war on savings”.

The Fed cut rates to current levels at the end of 2008 and has promised to keep them there until 2015. Since 2008, personal interest income has plunged 30%, or $432 billion at an annual rate, more than 4% of disposable income.

David Einhorn, a hedge-fund manager, likens zero rates to an overdose of jam doughnuts: too much of a good thing. Raghuram Rajan, a former chief economist for the International Monetary Fund, describes the Fed’s policy as “expropriating responsible savers in favour of irresponsible banks”, and thinks it should raise rates modestly.

This challenges textbook monetary policy. Typically, lower rates stimulate growth in several ways. They reduce the cost of capital, spurring investment and encouraging households to consume today rather than tomorrow. They also boost stock prices, helping spending through the wealth effect, and reduce the exchange rate, helping exports.

Finally, lower rates redistribute income from creditors to debtors, who will presumably spend the windfall. Today’s critics argue that this reasoning no longer applies. Business and households can’t or don’t want to borrow, while the retired and corporate pension sponsors must slash spending to cope with lost interest income.

Are the critics right? Start with redistributive effects. These depend on who are the creditors and who are the debtors. For a net debtor nation like America, lower rates raise national income by reducing the flow of payments to foreign bondholders. (The opposite is true for Japan, a net creditor.)

Lower rates may also benefit households and companies at the expense of banks, which cannot lower deposit rates enough to offset the loss of loan income. In Britain, the Bank of England reckons that between September 2008 and April 2012 lower rates cost households £70 billion of foregone income, but saved them around £100 billion in interest expense. The difference was absorbed by banks.

The actual impact of this redistribution depends crucially on the propensities to consume of debtors and creditors. If the creditors losing income have no choice but to consume less, the hit would indeed be considerable. But reality is more complicated.

In mid-2012 American households held roughly $13 trillion of deposits, bonds and other interest-earning assets, while they owed mortgage and other debts of roughly the same amount. But assets and debts are not evenly distributed. Surveys by the Fed show that while owners of certificates of deposit and bonds were more likely to be older and retired, they are also more likely to be rich (see chart).

Debt, by contrast, is somewhat more egalitarian: 75% of all families carried some, and 47% had a mortgage. For the middle class, interest payments consumed roughly 20% of income compared with 9% for the richest tenth of families.

Although lower rates transfer income from the retired to workers, that effect may be less important than that from rich creditors to middle-class debtors. All else being equal, this probably raises consumption because rich families have a buffer of savings with which to sustain their lifestyle. Middle-income families who lack those buffers must adjust their spending as cashflow changes. The rich are further insulated because lower rates have boosted equities, which are held principally by the wealthy.

Capital punishment

So while low interest rates are a burden on many retired people, this has not been enough to suggest the shift of income from creditors to debtors is bad for growth. But what about the effect on investment and spending? For companies, lower interest rates are not all positive. Some must set aside funds that will generate the pension benefits promised to their workers.

As with a bond, the cost of that promise rises as interest rates fall. In Britain, the Pension Corporation estimates that the Bank of England’s quantitative easing (QE), by lowering bond yields, increased pension-plan deficits by £74 billion, even allowing for higher share prices. Since such deficits must be closed over ten years, sponsors may have to divert cash from investment to their pensions.

In America, corporate defined-benefit pension plans had a deficit of $619 billion, in part because of low yields. They could meet just 72% of future obligations, a near-record low, says Mercer, a consultancy.

QE’s boost to business investment may also be less than generally thought. It reduces bond yields in two ways: it signals that the central bank will hold short-term rates low for longer, and it reduces the supply of bonds. Jeremy Stein, a Fed governor, recently suggested that this second effect, by itself, may not make a company more inclined to undertake capital spending. The company may simply issue a low-cost bond and use the proceeds to pay off short-term debt, or buy treasury bills.

However, Mr Stein said this logic does not apply to households. With fewer financing alternatives than companies, they are more likely to respond to lower mortgage rates by buying houses. But Bill Dudley, president of the Federal Reserve Bank of New York, notes that as consumers age, they spend less on durables such as cars and houses, and thus have less future consumption to pull forward. Americans have not aged enough in the past decade for this to be a big factor, but it may explain why Japanese consumers have not responded more to zero rates.

A final reason why consumers may not respond is that after a debt-fuelled bust, they do not want to borrow or cannot qualify for a loan. But those restraints appear to be lifting. The number of consumers who plan to buy a new home has jumped 50% since July, according to the Conference Board, a business association.

Ironically, American scepticism about the efficacy of low rates may have peaked just as they start to work. There may be reasons to believe that monetary policy is less effective than it used to be, but it is still doing more good than harm.

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NY Fed’s Dudley: Job Growth Is ‘Insufficient’ To Change ‘Unacceptably High’ Joblessness

William Dudley

New York Fed President William Dudley is weighing “unacceptably high” jobless numbers as he thinks about the Federal Reserve’s next policy move, reports Bloomberg.

This comment came during a speech this morning at Pace University.

While he focused extensively on the economic impact of Hurricane Sandy for the region, his concerns for the labor market stood out, and may have hinted that he’s for more easy monetary easing.

From Dudley’s speech, as prepared for delivery:

Even before the storm, though, the pace of U.S. economic growth was disappointing—averaging only slightly above a 2 percent annualized growth since the recovery began in mid-2009.  As a consequence, the national unemployment rate remains unacceptably high, and its decline during the recovery has been grudging. In addition, too many people are discouraged from looking for work. This has depressed the participation rate and held down the official unemployment rate. Moreover, 5 million workers have been unemployed for six months or more. While job growth has picked up some recently, its pace has been insufficient to materially change the labor market picture.

So, what does “substantial improvement in the outlook for the labor market” mean to me?  A key point is that I will focus on the labor market outlook, not just its current state.  Therefore, I will be looking at the growth momentum within the overall economy and a range of labor indicators, including the unemployment rate, payrolls, the participation rate, the employment to population ratio and job finding rates.

Until these indicators trend in a positive direction for a sustained period, expect the continuation of near-zero interest rates and quantitative easing from the Federal Reserve.

Here’s the whole speech via NewYorkFed.org:

Remarks at Pace University, New York City
As prepared for delivery

Good morning, I am pleased to be at Pace University to address the university community of students, alumni, faculty and university supporters.  It is always a pleasure to speak with academic audiences who I find to be particularly well-informed and attentive. I thank you for inviting me here today.  In a timely note, I also want to commend Pace University for fielding an excellent Fed Challenge team this year.  As many of you know, Pace won the Second District College Fed Challenge this year and has just returned with an honorable mention from competing in the nationals at the Board of Governors in Washington, D.C.  

Today, I want to talk a bit about the Fed—what we do and why we do it. Then I’ll provide some thoughts about the national and local economic outlook and monetary policy. 

 In covering the region and the nation, I will discuss the terrible impact of Sandy on the region and the implications for the national economy. I know I will fall short in fully acknowledging all the hardship that our fellow citizens have endured—including devastating losses of loved ones, homes, communities and livelihoods—as well as widespread misery caused by flooding and disruptions to power, fuel, food, transportation and other services across the region.  Nor will I be able to fully commend the ways in which family members, neighbors, co-workers and strangers have helped those in need. I am deeply moved by the evidence of people reaching out and pulling together across the region.  

At the New York Fed we are committed to supporting the recovery process. In addition to our economic analysis, we are convening our advisory groups and other regional contacts to receive first-hand accounts of the impact on communities, families and businesses and to assess other ways in which we may help. For example, we are holding a clinic in Staten Island to help people obtain information about different types of financial support that is available. We’re also encouraging banks to show appropriate flexibility when dealing with small business and other borrowers impacted by the storm. 

After my remarks, I’ll be happy to answer any questions you have about what the Fed does and why, and about the economic outlook. But I won’t comment specifically on the upcoming FOMC meeting next month. 

As always, what I have to say reflects my own views and not necessarily those of the Federal Reserve System or the Federal Open Market Committee, also known as the FOMC.

 What the New York Fed Does
By way of introduction, I will briefly review what my colleagues and I do at the New York Fed. The New York Fed is one of 12 regional Federal Reserve Banks that, together with the Board of Governors in Washington D.C., make up the Federal Reserve System, our nation’s central bank. 

The Federal Reserve is independent within our government. By law, we are charged with managing the nation’s monetary policy—taking actions that raise or lower interest rates to promote full employment and price stability. The Federal Reserve is also charged with promoting financial stability, without which we cannot achieve our economic objectives. We play an important role in the nation’s payments and settlements system, which some people call the financial system’s “plumbing.”  For example, we help ensure that banks’ ATMs have cash and that the checks you write move the money to the recipient. In addition, we have a specific mandate to promote economic development in each of our regions. 

As president of the New York Fed, I serve as the vice chair of the FOMC, the Federal Reserve committee that meets eight times a year in Washington to set interest rates and make decisions about monetary policy.  The members of this committee all strive to achieve our statutory mandate of full employment and price stability.  Sometimes we have different views on the specific policy choices at hand, and our policy decisions reflect a full discussion of these differences. This diversity of viewpoints is a key strength of the FOMC. 

In fact, I believe we make better decisions as a committee because we don’t all think alike. But we are united in our commitment to our dual mandate of maximum sustainable employment and price stability and in our belief that preserving the independence of the Federal Reserve in making monetary policy decisions is very much in the public interest. That independence allows us to make tough decisions based on data and analysis—insulated from short-term political considerations.

At FOMC meetings, each Committee member presents a current outlook for his or her District and for the nation. In formulating these assessments, we consult with many sources—our boards of directors, regional advisory councils, community leaders and other key stakeholders.  My meeting with you today is part of this systematic effort to understand what is going on at the grassroots level of our economy.

To add to what I learn from my conversations, my colleagues and I at the New York Fed continually track conditions in our District, and we have created special tools for that purpose. For example, my staff tracks local household credit conditions, including the amount and type of personal debt and whether repayments are timely. 

We also conduct a periodic poll about the credit needs of small businesses, which are an important source of new jobs in the District. If you represent a small business and would like to participate in our next poll, please pass your card to my colleagues, who are in the audience, or see me after the speech. 

To promote growth in our local communities, we publish extensive data and analysis on the local economy. We provide outreach initiatives, including workshops on access to global markets and to help small businesses learn about loan programs and sources of credit enhancements. We also run an annual video festival for local college and university students. In this program student teams produce videos that aim to help young adults make sound personal financial decisions. A panel of advertising and video professionals selects winning video productions for screening in local movie theaters. 

As you know, even regions as wealthy as ours have large pockets of poverty. So, we target some of our work specifically to low- and moderate-income groups. 

We have worked hard to help neighborhoods that face high foreclosure rates. This fall we hosted a conference on distressed residential real estate to share new expert analysis with senior policymakers and practitioners from across the nation. Later today, colleagues from our Research department will provide a press briefing on the housing outlook in our region as a whole. Next week, we will be holding a workshop so we can better understand the factors that are limiting the pass-through of lower yields on agency mortgage bonds into primary mortgage rates offered to borrowers.  We will then be in a better position to evaluate what steps if any might be taken by the relevant authorities to contribute to greater pass-through.  

Regional Economic Conditions
Our region’s economy was on a moderate upward trajectory before Sandy struck, and while the storm had many severe effects—more on that in a few minutes—I do not expect it to derail the region’s ongoing economic expansion.  

New York City’s economy has been performing quite well.  Employment in the city reached an all-time high at the beginning of this year and it has continued to grow briskly since then, even without help from its key finance sector.  While job growth has been considerably more subdued in the surrounding areas, such as Long Island, northern New Jersey, Fairfield County and the lower Hudson Valley, many workers in these areas commute to New York City for their jobs, so the strength here in the city is helpful to the region as a whole. Still, the unemployment rate in the city remains high, above 9 percent, and this is something that needs to improve.  Upstate New York’s economy is also on a generally positive trajectory, although some areas have fared better than others.  Albany, Buffalo, and especially, Rochester and Ithaca have recouped many of the jobs lost during the recession, whereas Syracuse and Binghamton have lagged.  

Looking beyond the employment statistics, I see other encouraging signs across the region.  Housing markets here have improved.  There has also been a noticeable pickup in multi-family construction in both New York and New Jersey this year. 

However, the New York Fed’s measures of regional credit conditions suggest continued financial challenges for families here.  Data that we just released for the third quarter of 2012 show that for those individuals with a credit report, average debt per person in New Jersey was about $61,000, and about $49,000 in the state of New York. Overall debt per person peaked in 2008.  Although balances nationally have fallen by over 11 percent, consumers in New York and New Jersey have brought down their indebtedness more moderately, by 5 percent and 6 percent respectively. 

While the overall delinquency rates are decreasing nationally, delinquent balances in our region have remained stable or even increased a bit. In both New York and New Jersey, nearly 9 percent of balances are 90 or more days delinquent, higher than the 6.5 percent national rate.

Although there are some recent signs that home prices are starting to firm, the housing crisis continues to take a toll on our homeowners. Delinquency rates on mortgages, at 9.4 percent and 9.7 percent in New York and New Jersey, respectively, remain considerably higher than the 5.9 percent national rate.  

Before discussing the national outlook let me talk briefly about the possible effects of “Superstorm Sandy” on the U.S. and regional economy.  The damage and disruptions from the storm appear more extensive and longer-lasting than first anticipated. 

Of course, there is the physical damage, which was geographically widespread, but particularly devastating in some communities right here in New York City, including Breezy Point, the Rockaways, and portions of Staten Island, and in so many cities and towns along the Long Island, New Jersey and Connecticut waterfronts, such as Long Beach, Seaside Heights, Spring Lake and Hoboken.    

Estimates of the costs of disruption to economic activity—that is, services that couldn’t be rendered and goods that couldn’t be produced because of protracted transit shutdowns, power outages and other such damage produced by the storm—are particularly difficult to pin down.  Thus, it will be some time before concrete figures are available.  However, the early read from recently-released data confirm these disruptions have been widespread.  Every one of the New York City area firms that responded to our recent Empire State Manufacturing Survey—fielded one to two weeks after the storm—indicated that the storm disrupted activity at their firm, and 40 percent of them indicated that they were completely shut down or severely crippled for at least five days. Furthermore, the number of workers filing initial claims for unemployment insurance in both New York and New Jersey surged to more than triple their pre-storm levels in the week after Sandy hit, suggesting at least 70,000 storm-related job losses in these two states thus far.

These data suggest that the disruptions that we have seen, and continue to see, could be substantial.  We can quantify the losses in terms of days of lost output.  Given the regional GDP of $1.4 trillion, a rough calculation yields a loss of $3.8 billion for each full-day equivalent of lost output in the region.  

A considerable part of this lost activity will be offset over time or be replaced by a temporary shift of activity from hard-hit areas to less-affected places. But, in a services-based economy, much activity cannot be shifted in time: restaurants, for instance, can’t serve six meals a day to make up for lost business. The fact that many people who would have dined in lower Manhattan in the weeks following Sandy are instead patronizing restaurants near their homes or near temporary work sites represents an offset for the regional economy as a whole.  But that’s little consolation for the original restaurant, which may in turn need to lay off some of its people or could even possibly go out of business. And, of course, this applies even more dramatically to businesses in hard-hit places along the regional shoreline. 

Against this, reconstruction began soon after the storm was over and has likely intensified since then.  The repair and replacement of damaged or destroyed infrastructure, homes, and businesses is likely to continue for some time. Programs will need to be well designed in order to achieve maximum beneficial impact. For instance, on the housing front, it will be important to ensure that program design and funding recognize that our region has a wide variety of housing types—including multifamily and public housing—that are in need of repair post-Sandy.  In other words, one-size-fits-all solutions may not work well here. 

Past studies suggest that reconstruction spending provides a powerful stimulus to local economies, both in its direct effects and its associated multiplier effects.  Thus, I expect that reconstruction will provide a similar sizeable boost to our regional economic activity, and one that is likely to continue well into 2013. 

All this analysis must be viewed as early and provisional.  Putting all the factors together, at present I expect that economic activity in our region was adversely affected in October and November, but will show a noticeable rebound starting in December. 

In addition to the economic costs in terms of lost activity there are, of course, the costs in terms of human suffering to the millions of people who were adversely affected—above all those who lost homes and loved ones, but also the many others who were cold and without power for days on end, spent hours getting to and from work, waited on long gas lines, and experienced the stress of not knowing what lies ahead.  

We are also tracking the impact of Sandy on schools and students. In New Jersey, 60 percent of schools were closed more than one and a half weeks. The storm shut down all New York City schools for a full week, and many schools across the region remained closed the following week. Hardships borne by students and families are also reflected in record low post-storm attendance rates. The New York City Department of Education moved quickly to relocate schools from damaged buildings to temporary premises, enabling children to resume their studies.  But even two weeks after the storm, schools that had to be relocated had attendance rates below 70 percent, a huge drop from their regular rates of over 90 percent. Research shows that lost school days and relocations can significantly impair student learning.  

The good news is that the situation is getting closer to normal every day. Today, only 9 out of a total of 1,750 New York City schools remain relocated. Also of particular importance is that their leaders—administrators, teachers, principals and others—have agreed to make up three and a half days of the lost time.  It is impressive that so many districts across the region are working hard to make up for much of the lost time. 

Our region must learn the right lessons from this experience. The storm revealed significant shortcomings in the resilience of our public and private infrastructures in three critical areas: power, transport and communications.  This vulnerability must be addressed. 

National Economic Conditions
Turning to the storm’s effects on the national economy, I expect a modest negative effect on the annualized growth rate of real GDP for the fourth quarter of 2012. It is impossible to calibrate this precisely at this juncture, but I would guess this would be in the region of 0.25 to 0.50 of a percentage point. It is important to note that the storm affected much of the Northeast Corridor, a densely populated area responsible for about 15 percent of GDP. Normal economic activity in the final days of October and the first few days of November was severely disrupted. The disruption then began to subside, but only recently has life begun to feel normal again. The negative effects of this disruption have already been noted in economic indicators such as industrial production for the month of October and initial claims for unemployment insurance during the second and third weeks of November.  

Yet, some of the economic disruption experienced here was offset to some extent by stronger than normal activity elsewhere.  For example, plants in Ohio or South Carolina making portable generators may have worked overtime to fill the increased demand.  Second, some types of disrupted activity, such as the purchase of a car or a housing start, can be made up before the fourth quarter is over. Lastly, as I mentioned before, repair and replacement of damaged property is already underway, offsetting some of the earlier disruption. This rebuilding will continue well into 2013, likely providing for somewhat stronger growth than otherwise would have been the case. Indeed, economic studies of disasters in the U.S. and other advanced economies find that the longer-term effects on national economies have typically been negligible.  Given the resilience of the U.S. economy, I expect the long-run effects of Sandy to be similarly small.   

Even before the storm, though, the pace of U.S. economic growth was disappointing—averaging only slightly above a 2 percent annualized growth since the recovery began in mid-2009.  As a consequence, the national unemployment rate remains unacceptably high, and its decline during the recovery has been grudging. In addition, too many people are discouraged from looking for work. This has depressed the participation rate and held down the official unemployment rate. Moreover, 5 million workers have been unemployed for six months or more. While job growth has picked up some recently, its pace has been insufficient to materially change the labor market picture. 

In terms of activity, there are a few bright spots.  For example, the growth rate of consumer spending was a bit firmer in the third quarter.  Another area showing improvement is the housing market.  Housing starts and sales of new and existing single-family homes are trending up gradually. Nationally, home prices have finally begun to rise. 

However, on a more negative note, business fixed investment spending fell some in the third quarter and new orders for nondefense capital goods suggest continued softness.  Overall, manufacturing activity remains weak. This manufacturing slump stems from slower growth abroad and uncertainties about how the fiscal cliff in Washington will be resolved. 

On the inflation side of ledger, despite sharp rises in energy prices in recent months, overall inflation, as measured by year-over-year changes of the consumer price index, is still around 2 percent—significantly lower than last year. The signals from underlying inflation pressures, compensation trends, and longer-term inflation expectations are all fully consistent with our longer-run inflation objective of 2 percent. 

As you all know, in September, the FOMC took additional action to promote a more robust recovery in a context of price stability—a decision that was reaffirmed in October. In addition to the $45 billion monthly purchases of longer term Treasury securities already scheduled to run through year end, the FOMC commenced buying additional mortgage-backed securities at a rate of $40 billion a month. The Committee said: “If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of agency mortgage-backed securities, undertake additional asset purchases, and employ its other policy tools as appropriate until such improvement is achieved in a context of price stability.1

In terms of rate guidance, the Committee said it anticipated that exceptionally low levels for the federal funds rate would likely be warranted “at least through mid-2015″—emphasizing that a highly accommodative stance of monetary policy would remain appropriate for a considerable time after the pace of the economic recovery strengthens. 

So, what does “substantial improvement in the outlook for the labor market” mean to me?  A key point is that I will focus on the labor market outlook, not just its current state.  Therefore, I will be looking at the growth momentum within the overall economy and a range of labor indicators, including the unemployment rate, payrolls, the participation rate, the employment to population ratio and job finding rates.  Following the framework we set out in September, I will be assessing the employment and inflation outlook in order to determine whether we should continue Treasury purchases into 2013. 

We will continue to do our part to push the economy towards maximum sustainable employment in the context of price stability.  Yet, it is important to recognize that our tools are not all-powerful—monetary policy is not a panacea for all that ails our economy. 

In particular, Congress and the administration must address the “fiscal cliff” in a manner that creates a credible framework for long- term fiscal sustainability.  It is widely acknowledged that the large fiscal contraction associated with going “off the cliff” would drive the U.S. economy into recession.  The contractionary impact is likely to be larger than normal when monetary policy is operating at the zero lower bound for interest rates, as is the case today.  Thus, fiscal consolidation must be accomplished in a way that avoids derailing the economic recovery. The best way to do this is to craft a plan that starts small in terms of its near-term impact, then grows very substantially over time as the economy grows healthier. Of course this requires that the longer-term consolidation is truly credible. It is also important that any plan have broad bipartisan support so that that households and businesses understand that it will in fact be carried out. 

We saw in the summer of 2011 when the debt ceiling limit was in play that a failure to come to grips with our nation’s economic challenges and responsibilities can have a large effect on U.S. household and business confidence. We do not want to repeat this experience at the start of 2013. 

Moreover, what happens will influence how we are perceived abroad.  When I meet with economic leaders across the globe they do not doubt the underlying strength and dynamism of the U.S. economy, or the entrepreneurialism and inventiveness of our people. Nor do they doubt that we have the resources and capability to overcome the challenges we face. But they do wonder whether our political system is capable of putting the national interest above partisan interests and making the tough choices needed to address these challenges. 

If a credible bipartisan agreement is reached, it will strengthen global confidence in the U.S. and underscore to the world that our country remains a great place to do business and invest in. Failure would suggest a degree of political dysfunction that could undermine U.S. economic leadership and could encourage global corporations and investors to invest elsewhere. 

Make no mistake: Credible fiscal consolidation will not be painless, no matter what form it takes.  The burden will be felt across many sectors of the economy and we must expect that the resulting fiscal drag will exert some restraint on economic growth.   

Nevertheless, there is no reason why a carefully crafted plan would need to put the economic recovery at risk.  A credible plan, after all, would likely have very positive effects on confidence.  In particular, I believe that business investment would respond positively to a credible plan.  More generally, reducing uncertainty over future tax rates, entitlements and other spending programs has to be a positive development in terms of reducing uncertainty that can constrain economic activity.  By clarifying the rules of the road, a credible fiscal plan is likely to reduce the incentive of households and businesses to delay spending and investment. This would likely offset fiscal drag to a meaningful degree.  

To sum up, while it is still too early for a precise estimate of the economic impact of Sandy, I expect a negative impact on fourth quarter national and regional economic growth, but a minimal long run effect nationally and regionally.  This has happened during a period where too many people remain without the jobs that they need to help support their families and themselves. Although the economy continues to expand, we must grow faster if we are to put all of our jobless workers and idle businesses back to work. Meanwhile, price increases are likely to be at or slightly below our 2 percent longer-run objective over the next few years. 

Many parts of our region were showing a stronger pace of growth than the country as a whole before the storms hit—and I am hopeful that Sandy will not have pushed us off this trajectory for long. The recovery of housing markets are important part of this renewed growth, although certain communities are still weighed down by lingering high rates of delinquencies and foreclosures and some others have suffered appalling damage from Sandy.  

Going forward, let me reiterate that the Fed will promote maximum employment and price stability to the greatest extent our tools permit, and we will stay the course. When we achieve a stronger recovery in the context of price stability, I’ll view it as consistent with our goals and not a reason to pull back on our policies prematurely. If you’re trying to get a car moving that is stuck in the mud, you don’t stop pushing the moment the wheels start turning—you keep pushing until the car is rolling and is clearly free. 

Thank you for your kind attention. I would be happy to take a few questions.

SEE ALSO: 8 Things That Are Awful About The Fiscal Cliff

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