The mid-year policy push is in hand, keeping hopes high …
The double-barreled dose of monetary and fiscal policy stimulus that we’ve been eagerly awaiting has now been unleashed. At the June 25 FOMC meeting, the Fed cut short-term interest rates by another quarter point, to a 45-year low of 1%, and left the door open for additional monetary stimulus down the line. On July 1, the new $350 billion fiscal stimulus bill went into effect, with its heavily front-loaded tax cuts for households and businesses.
But will these decisive policy moves actually spur the kind of spending needed to shift the economy into the “sustainable growth” mode coveted by both the Federal Reserve and the Bush Administration? Most economic forecasters (including NAHB) continue to insist that such powerful policies will be able to kick the economy into a higher gear, but there are no guarantees in this game. Indeed, the test is now just beginning.
The bond market quickly complicated the Fed’s effort to stimulate the economy …
In a positively maddening turn of events, long-term interest rates moved upward after the Fed announced the quarter-point cut in short rates on June 25. The increase in bond rates quickly exceeded the cut in short rates. To some extent, the bond market reaction reflected an unwinding of overly optimistic bets on what the Fed would do since a half-point rate cut had gained a lot of market support as the FOMC meeting approached.
But the perverse reaction of bond rates also reflected failure by the Fed to properly manage market expectations about future inflation/deflation prospects as well as future Fed policy. Chairman Greenspan and other Fed spokespersons had artfully talked long rates down a long way in the wake of the historic May 6 FOMC meeting — when the Fed first expressed concern about potential deflation and practically told the markets not to worry about any interest rate increases from the central bank for a long time.
The markets understandably craved a strong follow-up on June 25. Instead, they saw the Fed expend a small amount of policy resources (25 basis points) on insurance against a deflation threat characterized as “minor,” and the Fed made no commitments about future plans and intentions.
It’s no wonder the bond markets were left cold. And it now remains to be seen whether or not the Fed will try to talk long rates back down to pre-June 25 levels in speeches or congressional testimony. The next FOMC meeting doesn’t occur until August 12.
The success of the fiscal stimulus package has yet to be proven …
The Jobs and Growth Tax Relief Reconciliation Act of 2003, signed into law by President Bush in May, should be a big deal for the economy over the next six quarters even though the $350 billion 10-year budgetary price tag is less than half the President’s original proposal. That’s because most of the provisions are heavily front-loaded and expire by 2005. But this feature also makes analysis of the impacts devilishly difficult, since the effects of tax changes on the behavior of consumers, businesses and investors depend upon whether or not the changes are considered permanent.
It seems quite reasonable to assume that the cuts to personal tax rates, the special reduced rates for dividends and capital gains, the expansion of the child tax credit and the relief from the marriage penalty eventually will be made permanent (as permanent as anything else) and that taxpayers will behave accordingly. It’s also reasonable to assume that the enhanced depreciation/expensing provisions for businesses will be allowed to expire as scheduled, largely because these provisions had been widely viewed as parts of a temporary stimulus package anyway. And it’s perfectly obvious that the advance refunds of the expanded child tax credit, to be distributed in the third quarter of this year, as well as the large refunds of retroactive personal tax cuts for the first half of 2003, to be distributed early next year after returns are filed, are one-time events.
If everybody concerned shares these assumptions and perspectives, the tax bill should boost GDP growth by more than a percentage point in the second half of 2003 and by nearly that amount in 2004. These impacts are essential to achieving the smart rebound in GDP growth projected by NAHB for the second half of 2003 and for 2004. But if these fiscal effects fail to pan out, our forecasts are in big trouble.
Through it all, housing continues to fly high …
The housing production component of GDP accounted for one-third of overall economic growth in the first quarter, powered by construction of new single-family homes and remodeling, and single-family market indicators look good for the second quarter as well. Indeed, sales of new homes hit a new record in May, NAHB’s Housing Market Index for June showed a strong increase in builder expectations, and the Mortgage Bankers Association's weekly survey of applications for home mortgages showed great strength through the end of June for both home purchase and refinancing.
The strength of the single-family market, and associated weakness in the supply-demand fundamentals for rental housing, continue to be driven by very low mortgage rates and highly attractive rates of home price appreciation. Long-term mortgage rates hit truly historic lows in June (averaging about 5-1/4%) and sales prices of both new and existing homes increased by nearly 8% in May (year-over-year).
NAHB’s 2003 forecasts for home sales and single-family starts show slight increases from a great 2002, despite a modest up-drift in mortgage rates in the second half, and single-family remodeling undoubtedly will be robust as well. By contrast, rental housing fundamentals should remain relatively weak and production of manufactured (HUD-code) homes should remain around recent lows. The homeownership rate is destined to hit a new record high by the end of the year.
NAHB Chief Economist David Seiders analyzes the economy from the point of view of the housing market every other week in the free e-newsletter, “Eye on the Economy.” The preceding is a reissue of his June 23 e-newsletter. To subcribe to “Eye on the Economy,” click here.
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- Housing Market Statistics contains an overview of important developments and trends that serves as an executive summary of the current industry situation. It also contains annotated charts depicting movements in key indicators and tables providing monthly, quarterly and annual data for more than 250 variables.
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To learn more or to order any of these three NAHB economic publications, visit the Economics Publications Information section of the NAHB Web site or call 800-223-2665.
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