Just noticed that as well as limiting the size of the auction, the Fed is limiting tenders from any one insitution to 10% of the auction.

Seems the FOMC still doesn’t quite get it yet.


8 Responses

  1. Given the confusion of market participants about the current state of the banks and investment bank balance sheets.

    Is fear the greatest intangiable threat to economic growth and/or market prices?

    What is the greatest tangible threat?

    Where can we find investment and/or business opportunities in the fog of current affairs?

    Please shares your thoughts.

  2. Right now fear in the form of decision not to spend is the greatest threat to current gdp. I call it the CNBC effect, where the media seems to be spinning everything as negatively as possible. I’ve posted several examples on this site over the last few weeks.

    Likewise, decisions by non residents not to buy our goods and services can reduce our exports that are currently sustaining gdp growth.

    Seems cash is king for the very short term, probably followed by a variety US real assets which seem cheap due to the current level of the $US. However, if the Fed gets serious about inflation, and seems they will if food/crude/imported prices keep moving up, valuation of real assets could fall temporarily before moving up as happened in the late 70’s early 80’s.

    Can’t say I have a lot of clarity right now on where to invest.

  3. Most of us are focused upon agg demand and jobless figures and personal incomes because in the past these factors have preceded dcelines in home values. My view which is the minority view is that home values will decline by more than 15% by Q3 2008 from their June 2006 peaks and that this will be a tailwind that drives the consumer to cut spending and that housing deflation is an initial symptom of the a deflating credit bubble which leads the economy into recession. I see no reason why agg demand-employment can not follow housing and the deflation of other assets. We may get higher inflation a tempered deflation and only a shallow recession,but the chain of events is not a law.

    Please guide me on the above as you have expressed the above as outliner risk. I see this sequence of events as a symetircial reaction to a huge credit and housing bubble. I also published my expectations in Peak Risk (May 2006) and Escape from Normalville (Nov-2006).


  4. Yes, falling housing and other asset prices falling can lower demand, but not necessarily.

    Most studies of what is called the ‘wealth effect’ turn up very little causation.

    So far any weakness in domestic consumption from housing has been more than ‘replaced’ by exports, and with housing this low my take is it can’t subtract all that much more.

    Again, doesn’t mean it can’t happen.

  5. The Fed and others have done numerous studies on wealth. None were ever done after home values rose more than 20% in real dollars over a five year period. Home values rose 86% in real terms from year 2000 through May 2006. Most of the studies and wealth effects show home values having greater wealth effects than equity market declines. They also show that it takes the former 12-24 months longer to reduce consumer spending. Based upon a May-June 2006 home price peaks on the S&P Shiller Indices, we would begin to see significant housing effects in Q3 2007. My studies show that the greatest wealth effects are just beginning to take hold, which is also evident from the 1% RGDP forecats for Q3 2007.

    The average Joe does not have much of his equity in stocks. Although, the national average in homeowner equity has declined from 58% in 1990 to 51% by 2006, in the past this equity was dormant. It was not an ATM machine. The consumer also has much more debt and have less of an employment safety net in terms of having job opportunities with pension and health care benefits. Many families need two income earners just to avoid bankruptcy. The average household lives on the fringe of despondence.

    Here are some quotes fro Escape from Normalville (Nov-2006):

    Every picture tells a different story. Extremely negative wealth effects are dependent upon the existence of weak or strong correlations between home prices and Real Gross Domestic Product (RGDP) growth and broad market indices. Before assuming that current concern about housing are unwarranted, let’s investigate the housing effect upon economic growth and stock prices through housing price trends and the Housing Market Index (HMI). We also review how homeowner equity may influence the financial security and the future spending behavior of Baby Boomers.

    Because housing consistently displays strong correlations to 12-month forward RGDP, it is a primary driver of economic growth. Much like stocks, it leads other economic indicators such as consumer spending, CAPEX, and employment. For these reasons, forecasters employ housing and stocks as leading indicators.

    Home price declines of -5% and -10% for calendar year 2007 might lead to -4% to -5% declines in nominal GDP. Assuming a base economic growth rate of 6% (evident since 1980) it is easy to see GDP growing near 2.4% to 1.5% with real GDP negative in 2007. A 10% decline is reasonable. It only reverses 20% of appreciations since 2002.

    Since the pop of the 2000 equity bubble, housing has become divorced from economic fundamentals. The correlation between RGDP and the Homebuilers (HMI) Index’s has gone from 0.39 during the baseline period (1984 – 2006) and 0.91 from 1994 – 1999 to -0.23 since January 2000. Meanwhile, forward or future 12-month returns for the S&P 500 Index have gone from negative -0.15 and -0.51 to a positive 0.44 correlation to housing.

    Curent read.

    The above was written on Nov-24-2006 and 12-month later on November 26, 2007 home prices has declined about 7% while the S&P 500 Index’s 12-month total return was 2.8%. The housing bubble has caused stocks (12-month forward returns) and home values to move in tandem, when in the past (Jan 1981 to Nov-2006) they displayed a -0.15 correlation, which should cause greater wealth effects (positive and negative).

    I hope this helps.

  6. I like to look at the fiscal cycle and fiscal balance for causations. So I see the 03 (retro) tax cuts and spending increases that got the federal deficit up to maybe 7-8% of gdp (annual.) for 2003 q3 as the impetus for the recovery in real gdp that began about that time. Now that the countercyclical tax structure has brought the deficit down to only 1.5% of gdp, domestic demand is waning, with exports giving the support to muddle through at current levels of growth.

    going back a few years, it was the 5% of gdp deficits of the early 90’s that supplied the income and net financial assets for the boom that followed, again with the countercyclical tax structure resulting in a late 90’s surplus that subtracted income and net financial assets until private credit growth could no longer continue to support demand sufficient to sustain the high levels of growth. So it all came down in 2001.

    So i see most of the wealth effects stemming from the fiscal balance, with the rest following.

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