So, it took until today for the markets to take a shit. Wal-Mart says it’s not going to be able to meet its projection for Q3 because the cost of oil is reaching into people’s wallets, finally. And for some reason, the Fed went on a rate-hike rampage. The rumor is that it’s over, for now. But I doubt it, and here’s why.
Long rates probably have more influence over the real economy than short rates; this is certainly true of the housing market. But lately Greenspan has been making it clear that he and his colleagues intend to keep tightening. Normal economic indicators wouldn’t normally support this policy bias; there’s plenty of slack in the job market, wages are flat, and aside from oil prices, inflation is quiescent. But it may be, public pronouncements to the contrary, that the Fed has finally decided to prick the housing bubble, tighten the belts of American consumers, and stop relying so heavily on borrowing abroad. If that’s their real intention, then Americans are in for a big surprise.
It’s a good of an excuse for this tightening as any I’ve read. It also makes a somewhat good policy choice in some ways. The means chosen to do it, though, are recession-inducing.
Once upon a time, in the immediate aftermath of the dot-com bubble, I advocated a brutal rate increase of >5%, because I felt the time had come to simply kill off all of the bad business models that had developped during that time; but once that happened, a stimulus-inducing, drastic drop should have occurred.
Instead, it tooks years for all of the hangover to shake out (and it’s not entirely out), including all of the Arthur Andersons, Enrons, Worldcoms, et al. And when the loosening came, it came just in time to spark off a massive increase in housing prices, which causes tons of its own policy challenges. Combine that with our Iraq-war induced spike in oil prices (why doesn’t the media admit this?)
NYMEX Light, sweet crude traded at just over $25/barrell in March of 2003, crossed the $30 line around the turn of 2004, flirted with $50 in fall ’04, dropped to $40, then never looked back on its way to god knows where.
Oil supply shocks. Devalued currency. Massive federal deficits. This is Republican economic policy.
UPDATE: Check out this AP piece.
Merrill-Lynch economists estimate that every penny-per-gallon increase at the pump drains about $1.5 billion out of consumers’ pockets. That means the increase in gasoline costs this year has reduced the amount consumers have to spend on other items by about $90 billion.
However, in a lucky break, that drag on consumer spending has been offset by continued low long-term interest rates, which have spurred homeowners to refinance their mortgages and use the savings to boost their consumption.
Officials at mortgage giant Freddie Mac estimate that the amount of cash homeowners will take out of their refinancings this year will total $162 billion, almost double the expected drain from higher energy costs.
“People are able to pull money out of their homes and put it into their gas tanks,” said Mark Zandi, chief economist at Economy.com. “So the overall effects on consumer spending have been small.”
That is critical since consumer spending accounts for two-thirds of total economic activity. Any serious cutback in spending because of the higher gasoline prices could quickly crimp overall economic growth.
I’m not sure this is supposed to be encouraging. 3.50% is still, I think, below the historical average (it’s harder that I expected to find data on that).