Greenspan Warns Of Reliance on Housing Loans
His Own Analysis Stresses Link Between Home Prices And Consumers' Spending
By GREG IP
Staff Reporter of THE WALL STREET JOURNAL
September 27, 2005; Page A1
Federal Reserve Chairman Alan Greenspan, drawing on new research he has personally supervised, said American consumers have become enormously dependent on borrowing against their homes to fuel their spending, and that a rise in mortgage rates could trigger a spending pullback.
Mr. Greenspan's new data show that borrowing against home values added a stunning $600 billion to consumers' spending power last year, equivalent to 7% of personal disposable income -- compared with 3% in 2000 and 1% in 1994.
The Fed chief attributed that increase to declining mortgage interest rates, an increase in the turnover of homes, the popularity of cash-out mortgage refinancing and home-equity loans. Should mortgage rates rise, he told the American Bankers Association, turnover and borrowing would decline, consumer spending would slow and saving would rise.
That reversal need not be "disruptive," Mr. Greenspan said. Indeed, he suggested that such a reversal would bring about a welcome rise in U.S. saving and a narrower trade deficit. But he also sounded new warnings about speculation in the housing market, focusing on rising sales of second homes, though also playing down the threat of overleveraged homebuyers. (Full text1)
Mr. Greenspan's remarks were among his most extensive to date on the scope and risks of the rise in housing prices and mortgage debt in the past decade, developments to which his own policies have contributed. The remarks suggest that while in the near term higher energy prices may be the greatest threat to consumers, in the longer term Mr. Greenspan sees a cooling housing market as potentially more significant.
Last year's estimate of the value of "home equity extraction," as Mr. Greenspan calls it, was double the value of President Bush's tax cuts, as estimated by Brookings Institution scholar Peter Orszag. It's unclear how much of that home-financed borrowing was spent on goods and services, but Mr. Greenspan suggested it was about half.
Much of his speech, delivered by satellite to the bankers' meeting in Palm Desert, Calif., is based on a study he began in 1999 with Fed staff economist James Kennedy. The Fed posted the study on its Web site2 yesterday. It's only the second study to which Mr. Greenspan has attached his name in his 18 years as chairman. The first was "Motor Vehicle Stocks, Scrappage, and Sales," published in 1996.
The title of the latest study is even more intimidating: "Estimates of Home Mortgage Originations, Repayments and Debt on One-to-Four Family Residences." Most of its 81 pages are consumed by dense tables of mortgage and housing data, charts and explanatory appendices.
Mr. Greenspan has been generally sanguine on the housing market, but less so in recent months. Yesterday, he repeated his view that there is "froth" in "some local markets where home prices seem to have risen to unsustainable levels." He said it was too soon to tell whether that froth would widen to the national market, "or whether recent indications of some easing of speculative pressures signal the onset of a moderating trend."
Yesterday, the National Association of Realtors said sales of existing homes rose in August by 2% to an annual rate of 7.29 million units from July, shy of June's record 7.35 million pace. Meanwhile, the median sale price soared 15.8% to $220,000 from August last year. The median is the figure at which half sold for more and half sold for less. David Lereah, the association's chief economist, said the figures showed no impact from Hurricane Katrina.
There were 2.86 million homes for sale in August, or 4.7 months of supply, up from four months in March. Mr. Lereah said inventories are rising in part because buyers are balking at high prices in markets like San Francisco, Chicago and Baltimore.
Mr. Greenspan has previously asserted that a nationwide bubble in houses was unlikely because for homeowners to buy and sell homes for a quick profit they'd have to move often, which is costly. But yesterday he noted that a big share of the increase in home sales in recent years has been for investment properties and vacation homes.
Such second homes accounted for 14% of new mortgages last year, double the 7% share in 2000, and the share may be even higher now, reaching "arguably...unprecedented levels." The fact that someone can sell a second home without moving "suggests that speculative activity may have had a greater role in generating the recent price increases than it customarily has had in the past."
Mr. Greenspan also repeated his warnings on the increased popularity of some exotic mortgages, which expose the borrower to a greater risk of rising rates or declining home prices. But he also cited new data showing the most highly leveraged borrowers tend to be in states with the smallest rise in home prices, and are thus at less risk of a bursting bubble. "The vast majority of homeowners have a sizable equity cushion with which to absorb a potential decline in house prices," he said.
Mr. Greenspan's involvement in the study reflects both the value he places on generating and dissecting data, and his lifelong fascination with consumer balance sheets and housing. He recently recalled that one of his earliest dealings with the Fed was as a young private forecaster in the 1950s studying its new "flow of funds" accounts. Those accounts provide measures of assets and debt to go with the better-known gross-domestic-product measures of income and spending. One of Mr. Greenspan's strengths is his use of such data to generate fresh insights into economic behavior.
At his own firm, Townsend-Greenspan & Co., Mr. Greenspan used the flow-of-funds to help build a model of how cash unlocked through the sale of homes could fuel other sorts of consumer spending. "Capital gains from home sales are a potent force in consumer markets," he declared in a speech in 1977. He brought that model to the Fed, then sought to refine it by collecting better data, in particular on the use of so-called cash-out mortgage refinancing and home-equity loans. The result was yesterday's study.
Mr. Greenspan believes this home-equity extraction has been a powerful channel of support to the economy in recent years. Indeed, he believes it's how the Fed's low interest rates propped up the economy after the stock bubble burst in 2001. While the Fed has raised short-term interest rates since last summer, long-term mortgage rates, which are set by bond investors, have stayed surprisingly low. Thus, home-equity extraction has fueled consumer spending longer than Mr. Greenspan thought likely.
But this notion has met with skepticism from many of his own staffers: They generally believe that higher housing prices do affect spending, but in the same way stocks do: by making consumers feel wealthier. They dispute that home-equity extraction provides any separate impetus. Mr. Greenspan's study acknowledges the help of 17 other people at the Fed. But it carries the standard disclaimer that its views "are solely those of the authors" and aren't necessarily the Fed's official view.
Mr. Greenspan yesterday acknowledged there were two separate theories about how housing affects spending and both could explain the rise in consumer spending and decline in saving in the past decade, but "both cannot be true." He added that "this issue will remain an area of active research interest."
--Rafael Gerena-Morales contributed to this article
federalreserve.gov |
