By Steven K. Beckner
RICHMOND (MNI) – Federal Reserve Governor Elizabeth Duke said
Friday the depressed housing market continues to slow the recovery and
European financial strains pose “downside risks,” but the Fed also faces
potential “upside risks,” so she did not suggest additional monetary
stimulus to help the housing sector.
Monetary policy is “appropriate,” Duke said in a speech prepared
for delivery to the Virginia Bankers Association and the Virginia
Chamber of Commerce. Instead, she echoed a Fed white paper issued
Tuesday in suggesting that other non-monetary policy options to help the
housing market be explored.
By contrast, some of Duke’s colleagues, such as Boston Federal
Reserve Bank President Eric Rosengren, have suggested that the Fed
should buy more mortgage-backed securities to further reduce mortgage
rates.
Duke said the Fed “has already acted to reduce mortgage rates by
purchasing longer-term assets, in particular through the purchase of
agency mortgage-backed securities. Indeed, low rates combined with
falling house prices have contributed to historically high levels of
housing affordability …”
Yet, “despite this record affordability, home purchase and mortgage
refinancing activity remains muted,” she noted, adding that “the failure
of home sales to respond to conditions that would otherwise seem
favorable to home purchases indicates that there are other factors
weighing on demand for owner-occupied homes.”
Among those impediments to a housing recovery, Duke said “high
levels of unemployment and weak income prospects are likely precluding
many households from purchasing homes.”
“In addition, some potential buyers may be delaying house purchases
out of fear of purchasing into a falling market,” she continued. “Weak
prices also contribute to the reportedly large number of purchase
contracts that are canceled due to appraisals that come in too low to
support financing.”
Duke added that “many households are unable to purchase homes
because of mortgage credit conditions, which are substantially tighter
now than they were prior to the recession … the extraordinarily tight
standards that currently prevail reflect, in part, new obstacles that
inhibit lending even to creditworthy borrowers.”
She suggested various housing policies should be explored,
including ones that encourage the conversion of foreclosed properties to
rental properties.
And she echoed the Fed white paper in suggesting a need for
government-sponsored enterprises Fannie Mae and Freddie Mac to come to
the rescue, even though they are under government conservatorship after
playing a big role in causing the original housing bubble, according to
the Securities and Exchange Commission.
“I believe policymakers should at least consider policies that take
into account the role the GSEs could play in hastening the healing of
the housing market rather than focusing entirely on minimizing losses to
the GSEs,” she said.
“In the end, breaking the current logjam created by large numbers
of loans severely past due or in foreclosure and high levels of
distressed sales should help reduce losses to the GSEs by breaking the
downward cycle in prices.”
Duke was speaking hours after the Labor Department released a
somewhat better-than-expected December employment report, which showed
non-farm payrolls rising by 200,000 and the unemployment rate dipping
again to 8.5%.
Duke seemed unimpressed. Calling labor market improvement
“painfully slow,” she took note of the Labor Department data and said
“there have been glimmers of hope seen in the job market.”
But she said 8.5% unemployment is “still far too high” and said
“the bulk of the evidence, including help-wanted advertising and surveys
of employers’ hiring plans, suggests that the job market is not poised
for marked improvement in the months ahead.”
“Indeed, my own expectation is that while the trend in unemployment
will be gradually lower, the path to get there might be choppy,” she
said.
She said consumer spending has become a bit stronger but “many of
the underlying forces that typically support consumer spending are still
quite weak, including the high unemployment rate, sluggish income
growth, sentiment that remains relatively low despite recent
improvements and the lingering effects of the earlier declines in
household wealth.”
In the business sector, she said “the uncertain durability of the
recovery appears to be discouraging businesses from decisively
increasing their productive capacity.”
She warned that net exports could be less of a source of strength
due to the European debt crisis and a projected weakening of global
growth.
“(S)trains in global financial markets continue to pose significant
downside risks to the economic outlook,” Duke said. “Monetary
accommodation works, in part, by lowering interest rates, increasing
equity prices, and bolstering the availability of credit for households
and firms. But central banks around the world are finding that the
beneficial effects of their monetary policies on financial conditions
are being offset, to some extent, as movements in financial markets are
increasingly driven by headlines regarding actual, contemplated, or even
rumored action by European officials.”
“And the potential fallout from the sovereign debt crisis in Europe
remains a serious concern,” she continued. “Although European
authorities are taking steps to address the region’s fiscal problems and
shore up its banking system, there is some risk that financial
difficulties in the euro zone could intensify substantially.”
She warned “the direct hit to U.S. trade associated with a deep
recession in Europe could be considerable. Given the significant
financial linkages between the United States and Europe, a worsening
crisis in Europe would likely lead to additional strains in U.S.
financial markets, resulting in yet another blow to the U.S. economy.”
But there are also “upside risks,” said Duke, who noted that “the
headwinds from tight credit conditions for businesses and households,
with the exception of mortgage credit, are beginning to subside.” Credit
quality is improving, and banks are “now actively seeking loan growth.”
“In the household sector, I believe that high profile problems in
the mortgage market may have distracted attention from a noticeable
improvement in some measures of the household debt burden,” she said,
adding that “the ratio of household debt payments to income has dropped
precipitously.”
“Although mortgage credit conditions remain tight, much of the
tightening in other consumer credit markets appears to be unwinding,”
she said.
Duke suggested these improvements in financial conditions could set
the stage for a more robust recovery.
“I consider the recent signs of new life in the consumer credit
markets to be cause for optimism because they suggest that when
households do regain confidence in the recovery and are ready to begin
spending on consumer goods again, the credit markets will not be as much
of a constraint as they were during the recession,” she said. “Indeed,
an upside risk to my forecast is that consumers who postponed spending
during the past few years could decide to unexpectedly take the plunge
and make those purchases.”
“Businesses are in an even better position than households to
increase spending as confidence returns,” she added.
Duke did not appear to be concerned about wage-price pressures. On
the contrary, she said, “after a surge early last year, the price index
for personal consumption expenditures decelerated considerably toward
the end of the year and rose at an annual rate of just 1/4 percent in
the three months ending in November.”
She anticipated inflation will “settle over coming quarters at or
below levels consistent with the Federal Reserve’s dual mandate.”
“In this environment, I believe that the current stance of monetary
policy is appropriate,” Duke said. “However, the economic situation
remains very uncertain, and I see considerable risks, on both the
downside and the upside.”
“While potential spillover from the situation in Europe certainly
represents a downside risk to this forecast, I also believe that the
steadily improving consumer debt picture represents an upside risk,” she
said. “And any acceleration in the repair of housing and mortgage
markets could add even stronger momentum to recovery.”
“As always, the FOMC will continue to assess the economic outlook
in light of incoming information, and we are prepared to employ our
tools as appropriate to foster economic recovery in a context of price
stability,” she added.
** Market News International **
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