Fed Has Few Tools to Fix Economy Weakened by Housing Market

U.S. Federal Reserve Chairman Ben S. Bernanke
U.S. Federal Reserve chairman Ben S. Bernanke. Photographer: Tomohiro Ohsumi/Bloomberg

U.S. mortgage rates are the lowest in at least four decades, with a 30-year fixed loan available at 4.09 percent. That didn’t help Alexis Wolf buy a townhome in Beaverton, Oregon.

“Unless you have family help, you’re stuck renting,” said Wolf, 26, a real estate broker who turned to relatives for a loan because she didn’t have the credit and employment history needed to qualify for a mortgage.

Wolf’s experience illustrates the predicament for Federal Reserve policy makers as they end a two-day meeting today to consider ways to boost economic growth. Low interest rates, the traditional medicine for a flagging economy, aren’t helping housing, which since 1982 has aided every recovery except the current one.

Sales of existing homes rose more than forecast in August to a 5.03 million annual pace as investors used cash to buy distressed properties, a report today from the National Association of Realtors showed. The sales pace has fallen from a peak of 7.08 million in 2005, before the housing boom turned into a subprime-mortgage bust that helped drag the U.S. into an 18-month recession.

Rising foreclosures, tighter lending standards and unemployment stuck near 9 percent for more than two years are all weighing on the market. Lower borrowing costs aren’t likely to make a difference, said housing economist Brad Hunter.

‘Extremely Attractive’

“The Fed’s actions probably won’t help housing in a meaningful way,” said Hunter, chief economist and national director of consulting at Metrostudy, a Houston-based housing research firm that provides data to 18 of the 20 largest U.S. builders. “The level of mortgage rates is not a major factor. Rates are at extremely attractive levels.”

The Federal Open Market Committee may decide today to replace short-term Treasuries in its $1.65 trillion portfolio with long-term bonds in a bid to lower rates for mortgages, auto and consumer loans, according to 71 percent of 42 economists surveyed by Bloomberg News.

Economists at Goldman Sachs Group Inc. and JPMorgan Chase & Co. say policy makers may also choose to reduce the 0.25 percent interest rate paid on the excess reserves that banks hold at the Fed. The central bank is scheduled to issue its statement at about 2:15 p.m. in Washington.

The FOMC may say that while recent data are consistent with a rebound forecast for the second half of 2011, the weak labor market and high unemployment make more easing necessary, said Dean Maki, chief U.S. economist at Barclays Capital.

Boom-Bust Cycle

“It is hard to argue that what is holding the recovery back is the level of interest rates,” Maki said. “We have been through a massive boom-bust cycle in housing,” and working off excess inventory will “be a long, drawn-out process.”

Republican lawmakers such as Senate Minority Leader Mitch McConnell and House Speaker John Boehner urged Fed Chairman Ben S. Bernanke to refrain from additional monetary easing to avoid “further harm” to the economy, saying Americans have reason to be “skeptical” of his plans, including a program to purchase bonds known as quantitative easing.

Bank of England officials said they may need to step up quantitative easing to aid a faltering recovery after forgoing more stimulus this month in a “finely balanced” decision.

A rebound in U.S. housing is essential for restoring the net worth of households, reviving consumer spending and strengthening the recovery, Harvard University economics professor Martin Feldstein said in a Sept. 14 interview. Neither monetary policy nor President Barack Obama’s proposed $447 billion jobs program will provide a fix, he said.

‘Month After Month’

“The most important thing that would stimulate households would be to go after the housing problem,” said Feldstein, who served as chief economic adviser to President Ronald Reagan. “We still have house prices falling month after month on a seasonally adjusted basis, and something has to be done to deal with that.”

Tougher lending standards imposed after the credit crisis are impeding a recovery in housing more than the cost of borrowing, Hunter said.

Commercial banks’ real estate loans have fallen as supervisors, including the Fed, set rules aimed at preventing excessive risk-taking and predatory lending. Those loans have dropped for 29 consecutive months, according to Fed data.

“Regulators are still busy fighting the last war and demand that bankers be ultra cautious about lending,” said Charles Lieberman, chief investment officer with Advisors Capital Management LLC in Hasbrouck Heights, New Jersey and a former head of monetary analysis at the Federal Reserve Bank of New York.

Benchmark Rate

The Fed has held the benchmark interest rate near zero since December 2008 and expanded the central bank’s assets in July to a record $2.88 trillion. The yield on the 10-year U.S. Treasury note has declined to 1.94 percent from 4 percent in April 2010.

Still, economic growth in the first six months of this year was the weakest since the recovery started in 2009. Gross domestic product expanded at a 1 percent annual rate in the second quarter after 0.4 percent growth in the first three months of this year.

The Fed, by announcing today the lengthening in the average duration of bonds in its portfolio, would mimic a policy in 1961 known as “Operation Twist” for its goal of bending the yield curve. Within the first month, the program may push down the yield on the 10-year Treasury security by 0.15 percentage point, said Chris Rupkey, chief financial economist of Bank of Tokyo-Mitsubishi UFJ Ltd. in New York.

Sixties Version

“Operation Twist in the ‘60s wasn’t found to be a great success either,” said Robert Shiller, an economics professor at Yale University and co-creator of the S&P/Case-Shiller home-price index.

“Homeowners are relatively insensitive to mortgage rates when they are lacking confidence,” he said. “The dramatic thing that is happening now is that their job isn’t secure, if they even have one.”

Consumer confidence has fallen along with U.S. home values, which have declined by a third over the past five years, according to the S&P/Case-Shiller U.S. Home Price Index. In speculative markets like south Florida, home values have tumbled by half. During just the past 12 months, the value of real estate assets has declined by $947 billion.

Consumer confidence has ebbed to the second-lowest level of the year as the most households in three years said it is a bad time to spend. The Bloomberg Consumer Comfort Index was minus 49.3 in the period to Sept. 11, near this year’s low of minus 49.4 reached in May.

‘Essence’ of Problem

“The essence of the problem is there’s no confidence in what’s next with the economy,” Jeff Lazerson, president of Mortgage Grader Inc., a mortgage broker based in Laguna Niguel, California, said in a telephone interview. “Borrowers are unemployed or worried about losing their job. Even rich guys feel poor when the stock market goes down.”

The Standard & Poor’s 500 Index has lost 4.4 percent this year, closing yesterday at 1,202.09 in New York. Net worth for households and non-profit groups decreased by $149 billion in the second quarter, a 1 percent drop at an annual pace, to $58.5 trillion, the Fed said Sept. 16.

Wolf, the real estate broker and Oregon homebuyer, said a Fed program to push down interest rates probably wouldn’t bring her more business.

“If they were even lower, I’m not sure people jump into the market,” she said. “I don’t think they’re a function of holding people back, like unemployment or uncertainty in the economy.”

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