QUERETARO, Mexico, July 23 (UPI) -- Are economists dull? No, just listen to this.
A week ago, the National Bureau of Economic Research, a think tank, declared the U.S. recession of 2001 over. It ended in November 2001, which is, by coincidence, the very same month in which the NBER officially said the U.S. economy was in recession. So, as soon as the NBER opened its mouth to announce recession, it ended. There's power for you. But it took the NBER another 20 months to work this out.
Given all this difficulty sorting out the past and when recession began and ended, it is hardly surprising that economists have all the collective forward vision of lemmings. (They then write at length on how it had been impossible to judge where the land ended and the cliff began.)
"Isn't it interesting that the same people who laugh at science fiction listen to weather forecasts and economists?" wrote Kelvin Throop III.
So why are economists' forecasts a bad substitute for science fiction? It all has to do with forces. There are a lot of them in the modern industrialized economy. Economists give different weight to the different forces and come up with utterly different answers. And in the battle for the U.S. economy today, the forces being deployed are the greatest ever deployed. Huge sums are being hurled about in order to attain the desired end: growth, and re-election. (Re-election? Strike that from the record!)
But never mind the big forces for a moment, let's start small, with an individual piece of news kindly sent to us today by the Mortgage Bankers Association of America. The MBAA reported Wednesday that in the week ending July 18 mortgage applications in the United States decreased by 5.3 percent compared to the previous week. "The refinancing share of mortgage activity decreased to 68.7 percent of total applications, from 70.1 percent the previous week," the MBAA added.
Why this decline in new mortgages and refinancing? The MBAA has the answer. Interest rates went up. "The average contract interest rate for 30-year fixed-rate mortgages increased to 5.72 percent from 5.33 percent one week earlier," it reports.
This upward move in long-term interest rates, if sustained, will be important for U.S. economic prospects. House price inflation has been a force in the U.S. economy since the late 1990s. It is the tortoise asset price bubble. The hare bubble in stocks blew up fast, especially in 1998-99, and could not stretch reality any further, and burst. The house price bubble has just gone on inflating, more slowly. And it is now, shamefully, the policy of the U.S. Federal Reserve that it should keep inflating.
The MBAA forecasts that mortgage originations will amount to a colossal $3.34 trillion in 2003 as a whole, roughly 30 percent of gross domestic product in the world's largest economy, and that 68 percent of these new mortgages will be for the purpose of refinancing an old mortgage.
Americans are cashing in on low interest rates, and so they should. They save money on their payments and, very often, they borrow more money than they need to repay the old mortgage and have extra spending money. This is spending money derived, it should be remembered, from a loan backed by an asset whose price has inflated and may fall. Safe, eh?
This powerful trend has been in force ever since long-term interest rates began tumbling in 2000. In 2001 and 2002 mortgage originations amounted to $2 trillion and $2.5 trillion respectively. In each year the percentage of refinancing was no higher than 59 percent. The peak in the boom for both new mortgages and new refinancing is therefore taking place this year, 2003, when interest rates have dropped to their lowest levels since the 1950s.
Applications dropped last week; they were up by a jolly 56.8 percent compared with the same week a year earlier.
Yes, Americans are right to cash in and refinance, but what makes sense at the microeconomic level may do great harm at the macroeconomic level. The binge, like most binges, is unhealthy. Property prices are being driven up and up, and bigger and bigger mortgages are being taken out. Inflation and debt is what we are talking about. Property prices can fall, but the debt will not go away.
Another problem is for the lenders. At the moment they do not lack business and they are making a return on their lending. But if inflation eventually goes up the lenders will be making poor returns on their lending binge. And if defaults on mortgages are huge and property prices fall, the lenders are going to be hammered. What might that mean for the U.S. economy?
This is the problem with bubbles. When they burst -- yes, let's mix the metaphor! -- they leave egg over a lot of faces.
And so 2003 is the boom year for mortgage refinancing. And those cheap long-term interest rates are also helping corporate borrowers. Meanwhile U.S. President George W. Bush is cutting taxes, to put more cash into Americans' pockets, while emptying it from the government's coffers. As we predicted months ago, the federal deficit is now heading towards the half trillion dollar level.
Therefore, what with mortgage refinancing at exceptional levels and the fiscal deficit at record levels (in nominal terms, though not yet as a share of GDP -- Ronald Reagan went still higher) we have trillions of dollars more than usual sloshing about in the U.S. economy in order to make it grow. And it is growing -- but not very fast.
That leaves a big problem, which we can write briefly: 2004.
What is going to bolster the economy next year? The problem is that with the government issuing more and more debt the natural tendency for long-term interest rates ought to be a rise. And can house prices be pushed even further up?
These questions seem not to have entered the heads of Greenspan and Bush. Both are going for broke. Bush is racking up the deficit as though there were no tomorrow and Greenspan is shamefully fostering another asset price bubble having, apparently, not noticed that the previous one has left the U.S. economy struggling, even with the short-term interest rate at 1 percent.
Who would have thought that possible four years ago?
Ah, the future, no wonder economists struggle to dream it up.
Global View is a weekly column in which our economics correspondent reflects on issues of importance for the global economy. Comments to [email protected].
