On May 19, 2006 Ben Bernanke, Chairman of the Federal Reserve System, has touched on the housing situation in the United States in his Report on Monetary Policy. In essence, the forecast of Prof. Bernanke is that there is not going to be the dreaded bubble burst predicted by so many bubbleologists out there (who have been predicting Apocalypse Now consistently since early 2002), but that real estate appreciation is poised to slow down considerably from recent years. The second point made by the Chairman is that the slow down in real property appreciation comes as a respite for the whole economy, as the surge in housing prices has been one of the major inflationary forces in recent times. According to the Chairman, the U.S. economy will continue to perform well for the remainder of 2006 and in 2007. To be sure, higher energy prices will probably put some restraint on economic activity for a while longer. But so long as cost of energy increases slowly, as it is suggested by futures prices, this restraint should diminish as 2006 progresses. In addition, economic activity has continued to receive some impetus from post-hurricane recovery efforts, and the reopening of facilities shut down by the hurricanes is already being reflected in the rebound in industrial production. Federal assistance will continue to buttress rebuilding activity in coming quarters. More broadly, the major factors that contributed to the favorable performance of the U.S. economy in 2005 will remain in place. Long-term interest rates are expected to remain at acceptable (low) levels, and conditions in corporate credit markets are generally positive. The household sector is also in good financial shape overall and should stay so even if - as expected - housing markets cool down. In addition, the improved outlook for economic growth abroad bodes well for U.S. exports. However, the effects of the cumulative tightening in monetary policy should keep the growth in aggregate output close to that of its longer-run potential. Core inflation is likely to remain under some upward pressure in the near term from rising costs, as the pass-through of higher energy prices runs its course. But those cost pressures should wane as the year progresses, offset by the slow-down presently occurring in real estate. Moreover, strength in labor productivity should continue to dampen business costs more generally. With little evidence to date that resource utilization has put appreciable upward pressure on prices, and with longer-run inflation expectations continuing to be well anchored, core inflation will remain contained in 2006 and should stay the same in 2007. Prof. Bernanke, furthermore, commented that nonetheless, some risks attend his economic outlook, with some of the uncertainty centered on the prospects for the housing sector. He cited some observers who believe that home values have moved above levels that can be supported by fundamentals, and that some realignment is warranted. Such realignment - if abrupt - could materially sap household wealth and confidence and, in turn, depress consumer spending. But that does not seem to be the case. Citing, in fact, an upward trend in consumer spending, the Chairman commented that it was aided by a corresponding upward trend in disposable income. Focusing specifically on real estate, The Chairman observed that if home values were to continue to register outsized increases, the accompanying increment to household wealth would stimulate aggregate demand and raise resource utilization further. With the economy already operating in the neighborhood of its productive potential, this higher resource utilization would risk adding to inflation pressures. Because of this, therefore, the Chairman welcomed the respite in real estate for the benefit of the economy as a whole, taking care to stress the fact that far from being a bubble burst, slow-down in real property appreciation is more of a soft-landing. Finally, the Chairman has predicted that real estate will continue to do fairly well for the remainder of the year. Another major source of uncertainty, in Prof. Bernankes view, is the price of energy, which continues to be buffeted by concerns about future supply disruptions, especially in light of the forthcoming hurricane season Additional steep increases in the price of energy have the potential to intensify cost pressures and weigh on economic activity. Anyone out there who cares to enlighten us some more with his bubble-bursting theories? Luigi Frascati |
