GREENSPAN WANTS 'STRONG ECONOMY'; DOESN'T MENTION INFLATION
--Fed Chairman Implies Slower Home Sales Will Slow Consumption
By Steven K. Beckner
economeister.com
Market News International - Federal Reserve Chairman Alan Greenspan told a group of community bankers Tuesday he shares their desire to "maintain a strong economy" conducive to home ownership, making no reference to inflation.
Greenspan, who late last week indicated that he thought that higher real interest rates might be "significantly" affecting demand for such things as housing, left the impression that the slowing of home sales could dampen consumption by curtailing the "wealth effect" stemming from capital gains on home sales. Capital gains from sales of existing homes have had an important role to play in the strength of the economy in recent years, Greenspan said in remarks to an America's Community Bankers gathering. Although home sale gains have accounted for only about a sixth of the so-called "wealth effect," those gains tend to lead to more permanent increases in spending than "volatile and often ephemeral" stock market gains, he said.
Wrapping up his speech on "Mortgage Markets and Economic Activity," Greenspan told the bankers "we (at the Fed) are striving to assist you by providing a stable platform for business generally and for housing and mortgage activity. Our shared objective is to maintain a strong economy and to provide the setting so that home ownership becomes a reality for all who desire it."
Customarily, Greenspan and his fellow Fed policymakers make a point of saying that controlling inflation is a prerequisite for maximizing sustainable growth, but Greenspan broke from that pattern in this speech. His only reference to inflation came in a historical context, when he spoke of the inflationary forces that disrupted the mortgage industry in the late seventies.
Greenspan did not directly say that higher mortgage rates will dampen consumer spending by dampening home sales, but that was the logical inference from his analysis of the interrelationship between the housing market and the economy.
The Fed Chairman began by making a distinction between the sales of new homes and existing homes in the way they affect the economy. The sale of a new home "does not generate capital gains financed through the mortgage market," he said, but "sales of existing homes almost always do, and the purchasing power released through converting home equity to unencumbered cash can affect overall consumer demand and the economy, just as the stock market gains of recent years have boosted consumption."
Greenspan said the Fed has estimated that, over the past five years, the average capital gain on the sale of an existing home net of transactions costs was more than $25,000 or about a fifth of the average purchase price. He said that amount of equity extracted by the home seller "generally far exceeds the down payment on his or her next home purchase."
Out of that gain, Greenspan said "a significant amount is spent on consumer goods, especially big ticket items in a manner not materially different from windfall income in general."
"Although ... the appreciation of stock prices has been vastly greater than that of home prices, most estimates suggest that stock market gains are consumed only gradually, with the level of consumer outlays lifted permanently by around 3% to 4% of the wealth generated by the stock market gain," Greenspan said, but "the permanent increase in spending out of housing wealth is somewhat higher, perhaps in the neighborhood of 5% and is financed in a different manner."
"The general experience of homeowners is a modest, but persistent, rise in home values that is perceived to be largely permanent," Greenspan continued. "This experience contrasts markedly from volatile and often-ephemeral gains in stock market wealth."
Greenspan said "stock prices and existing home sales are somewhat correlated, a not altogether unexpected result, because each is affected by interest rates and presumably the gains form each help finance the other. This correlation makes it difficult to disentangle gains in overall consumer spending that are attributable to home equity extractions and to increases in stock prices. Nonetheless, the evidence suggests that, in recent years, about a sixth of the so-called wealth effect ... stems from equity extracted from the stock of existing homes."
Demographics, namely the aging of the population and the likely slowing of population growth, are apt to dictate a flattening of new home sales in the future, but existing home sales are likely to continue growing, though at a slower pace, Greenspan said. |
