Economist states case for raising interest rates
Last Updated: Oct. 12, 2002
Sung Won Sohn is a respected mainstream economist.
As an executive vice president of Wells Fargo & Co., he is a
committed capitalist with a big stake in making the system
succeed. He is based in Minneapolis and occasionally has been
whispered about as being on the short list for appointment to the
Federal Reserve Board.
In addition to providing economic advice to Wells Fargo's senior
management, a large part of Sohn's job is conducting briefings
for the bank's best clients - people who, like him, also are at the
center of America's economic system.
So it is startling and noteworthy when Sohn uses one of those
talks to suggest actions that are far out of the mainstream of American economic thought.
Yet that is exactly what he did last Thursday to a well-dressed crowd at the Milwaukee Athletic
Club.
What the economy needs, Sohn said, is higher interest rates. Without them, there is a chance that
a developing bubble in housing prices will burst with a bang, producing near-disastrous
consequences.
At the moment, "I don't think the housing bubble is big enough to burst," Sohn said in an
interview prior to his presentation. "But what leads to bubbles is credit expansion and low cost of
money," conditions that now exist in the housing market.
Threat of deflation
Were a housing bubble to burst, its economic consequences would be more far-reaching than the
stock market collapse. That is because more of the wealth of more Americans is tied up in their
homes than in stocks, he pointed out.
Were housing prices to collapse, Sohn said, the country could be thrown into deflation, where
consumers would be asked to repay mortgages and credit card debt in dollars more valuable than
those they borrowed. Such a situation "is like quicksand," he said, "easy to fall into but very
difficult to escape."
The best way to deal with a housing bubble is to raise interest rates, making mortgages more
expensive, he said. An additional advantage would be higher returns for people relying on interest
income.
Unfortunately, Sohn said he expects the Federal Reserve to cut rates twice more this year in an
effort to help the stock market and demand for housing and cars. He compared that action to a
dope fiend getting another fix, or treating a disease only with antibiotics.
"You keep needing bigger and bigger doses and fixes to maintain it," he said.
Rather than cutting rates, Sohn said, the Fed should leave them alone until the situation in Iraq
resolves itself. Then it should raise them.
If the Iraq situation results in war, "it is going to cost us dearly," he told the crowd at the MAC.
A quick war like Operation Desert Storm would cut economic growth by about one-half of one
percentage point, he said in the interview, while a more protracted conflict would have greater
impact.
Effects of war
In this, Sohn drifts back toward the economic mainstream.
The uncertainty surrounding a war with Iraq "is one more punch to a fledgling recovery,"
economists at DRI-WEFA wrote last week. Their projections are watched by many governments,
including Wisconsin.
Others are less sure a war would be bad economically. Diane Swonk, chief economist for Bank
One in Chicago, wrote last week that "a conflict with Iraq is more likely to stimulate than hinder
growth this time around. . . . Defense spending will be the primary mechanism through which
that stimulation occurs."
When it comes to Iraq, the economic mainstream is in the middle of a river broad enough to
contain both Swonk and Sohn.
But when it comes to his views on interest rates, Sohn swims in a very small stream. Even so, his
arguments make a lot of sense. |
