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Strategies & Market Trends : Mish's Global Economic Trend Analysis -- Ignore unavailable to you. Want to Upgrade?

To: mishedlo who wrote (22932)	2/5/2005 6:25:38 AM
From: Crimson Ghost	Read Replies (7) \| Respond to of 116555

Doug Noland's latest take on the real estate bubble: The only way to return to some semblance of a balanced current account would be to sharply reduce mortgage debt growth. Mr. Greenspan, presumably, believes that higher interest rates will soon induce this process. Indeed, at 2.5%, we have already reached a level that many not all too long ago forecasted would mark the end of Fed “tightenings.” The Fed may have raised the cost of overnight borrowings 150 basis points, but 10-year Treasury yields are actually a few basis point lower today than they were a year ago. And mortgage rates remain at historically low levels and, not surprisingly, real estate lending remains robust. General Credit availability and marketplace liquidity are as easy as ever. The backdrop is not conducive to restraint, and the Fed has a lot of work to do. But this is the very nature of Bubbles: they so refuse to succumb easily or quietly. And the bigger they are the more challenging it is to get them to fall – that is without causing one heck of a ruckus. This is why Mr. Trichet is committed to caution and vigilance – why there is a focus on the short, medium and long-term prospects for price stability. As consummate central bankers, Mr. Trichet and the ECB are resolute in their pursuit of comprehensive monetary analysis and forward-looking monetary policy. They don’t have to partake in creative analysis or sophisticated obfuscation. The are neither activists nor apologists. And, importantly, they appreciate the necessity for reacting to Bubble “dynamism” as it develops and not waiting for Bubbles to burst. Mr. Trichet repeatedly refers to “price stability.” Contemporary finance and economics dictate that this term must be used broadly. One important consequence of globalization is that a price index for a basket of goods (largely produced in Asia) is no longer a good indicator of domestic monetary conditions. Securities markets and asset prices must now be the focus. U.S. Credit inflation clearly manifests foremost into asset inflation and Trade Deficits. And, especially over the past two years, massive Current Account deficits manifest into unprecedented official flows into U.S. Treasuries and agency markets. The securities markets are at the threshold of contemporary Monetary Disorder. Today was as good a day as any to witness Monetary Disorder and Price Instability at work in the U.S. bond market (ok, equities also). A somewhat weaker-than-expected report on non-farm payrolls incited a huge short-squeeze and derivatives unwind that saw yields lurch lower. The consensus view may be that a slowing economy explains the bond rally, but I remain quite skeptical. It would appear to me that this is one more example of any ebb in the typical ebb and flow of economic activity fostering an exaggerated response from the bond market. There’s too much liquidity at home and abroad. Ten-year yields are now more than 30 basis points below where they spiked in early December, while mortgage rates are at the lowest level since late last March. There remains a strong inflationary bias in the nation’s housing markets, and I believe there is an unappreciated expansionary bias throughout much of the economy. I cannot at this time buy into the “deflation” story, but instead continue to believe the surprise going forward will be the resiliency of the Mortgage Finance Bubble and the U.S. and global economies overall. Perhaps I will be proved dead wrong. The U.S. Bubble economy could be weaker than I perceive and the global economy not as sensitive to the extraordinary liquidity backdrop. And, perhaps, the Wild Mortgage Finance Bubble is poised to quietly succumb. But there is just nothing in my analytical war chest that points toward a warm and happy ending to this story. Mortgage rates need to be moving higher, but the distorted marketplace and the global liquidity Bubble are thus far incapable of orchestrating an orderly adjustment. And these artificially low rates will stimulate continued robust demand for mortgage and other borrowings. Imbalances – most important being the Current Account – will not conform to Mr. Greenspan’s expectations. And a ballooning Current Account equates to further inflationary distortions, including the inflating pool of destabilizing global speculative finance. And, I will suggest, a surge in economic activity would these days catch the bond market especially unprepared. Bubble dynamics have forced the marketplace into a destabilizing squeeze and derivatives unwind that creates only greater vulnerability for a reversal and problematic spike later on. My fear of a 2005 dislocation in the interest-rate markets is being anything but allayed.