Mr. Moderate

It was announced recently that the first quarter of 2007 experienced a further decline in year-over-year housing prices. This was blamed on an unexpectedly-large decline in the month of March. Well now, why could that be? Could it be the housing bubble bursting?

Of course, the announcement was inflated by much optimism in that the quarterly number was less than the reduction in the previous quarter, so the announcement argues that the decline is bottoming-out and recovery (higher prices) should occur in the second half of 2007. Buried deep in the details of the underlying article was the statement that the effects of the collapse of the sub-prime mortgage market were yet to be fully factored into the market, and if that kept buyers away, then further declines might occur. Oh, really? Well, then, I predict further declines!

There are only two ways to create an improvement in the housing market. The first is to do something to create more buyers. As most people are not sitting on large hordes of cash, that would mean creating more money for home purchases through extending more credit to less-worthy buyers. That is, in fact, what the sub-prime mortgage market was doing before it collapsed. The second way is to reduce the supply of houses on the market. That would mean executing some kind of bail-out plan to prevent overextended homeowners from losing their homes or being forced to sell into a weak market (which is exactly what is happening right now).

The good news for the housing market is that, unlike buying stocks and bonds on margin, you can be “upside down” on your home (have negative equity; you owe more than the home is worth) and as long as you keep making the monthly payments, nobody will care. If mortgage holders sent out appraisers to appraise homes and require homeowners to keep a positive equity (by some percentage or another), as is done for purchases of stocks, bonds, and options (when buying stocks and bonds on margin), then the market would collapse even faster because a fairly-large percentage of current homeowners consists of “upside down” loans where the owner just happen to be able to continue making the payments. But give us any glitch in the economy, and those homeowners are highly vulnerable to default and the consequence increase in the supply of homes for sale.

When the home price boom was in full swing, people felt wealthier as the value of their homes went up, and they used second mortgages and other financing tools to extract equity from their homes for spending on one thing or another. Those expenditures helped prop up the economy. But the more home values fall, the less home equity money is available to be pulled out for extra consumer spending, and the economy as a whole enters a state of decline.

But, you say, the stock market is booming, so why can’t people use their profits on stocks to help the economy grow? Well, they could, if they were personal stock market investors. But the vast bulk of stock ownership is in pension funds of various sorts which cannot be accessed by the beneficiaries (the “owners” of the future rights to receive a pension). And frankly, the stock market is at an all-time high, and is bound to take a nosedive before too much longer. I expect that the July and August quarterly earnings announcements will be bad for most sectors of the economy (not for “big oil,” but for most other sectors). That, to me, is the outer time limit for the current bull market in stocks.

I suppose that the Democrat candidate for President will blame the Bush administration for the upcoming crash in the economy and try to tar the Republican candidate for President with that same brush. How well that sticks will depend a lot on exactly who the candidates for the two parties end up being. But the real reason for the upcoming crash is the ballooning over-extension of the economy through lack of government regulation, followed up by the Democrats gaining control in Congress and suddenly gaining the power to investigate things again (like the sub-prime mortgage market). The Bush administration was willing to let any big business rape and pillage the economy without limit. So, the economy exploded with rape and pillage business activity. Unfortunately, that kind of growth always comes to an end fairly rapidly. The Democrats in Congress are not the cause of the end of economic growth, but they are the reason.

If Congress had insisted upon decent oversight of the Bush administration over the past six years, the economy would not have evolved into its currently horrid shape. But no Republican in Congress or the Senate was willing to take on President Bush, a fellow Republican, so they gave almost everybody in the executive branch of government a complete pass. This led to some horrid flubs, including the failure to reign-in or totally prevent the abuses inherent in the sub-prime mortgage market. That failure led to the housing bubble, and kept the “feel good” economy going, in spite of horrid economic fundamentals.

The bottom line here is that the economy is scheduled to crash rather badly between now and Election Day in 2008, and the two parties (R & D) will go all out for blaming each other. But it is really the fault of President George W. Bush, and unfortunately we cannot at this point in time do anything to hold him to account for his grievous mismanagement of the domestic economy.

So, again, the economy is going to crash “real soon now,” and anybody who believes that upwards growth will continue (or resume) later this year is just whistling past the graveyard. It is not going to happen because there isn’t the money around to make it happen.