Buy Home, Sell Gold?

Presented without comment.

Hypothetical payment of a median-price new home purchased using a conventional 30-year mortgage

Hypothetical payment of a median-price new home purchased using a conventional 30-year mortgage as a % of median household income

Median-price of a new home expressed in troy oz of gold.

Someone at the BoJ doesn't quite grasp supply and demand

From Bloomberg:

Bank of Japan Pledges to Steadily Buy More Assets"...The BOJ’s purchases of real-estate investment trusts and exchange traded funds have bolstered stock prices, a sign the stimulus has supported sentiment even as global growth slows."

Uhm. I guess it's nice they are at least buying some hard-assets instead of government paper as far as the Yen is concerned, but someone ought to tell the peeps at the BoJ that if you have a stable, aging (and soon to be declining) population while you forbid foreigners from buying real-estate, chances are you are not going to have much luck supporting real-estate prices. Especially not when interest rates are already at record lows. It's that supply and demand thing you can learn from Mankiw's book.

My suggestion? Start letting immigrants in. Seriously.

Stopping Deflation with Government Stimulus

Credit NY Fed

This post was inspired by a comment over at The Big Picture. Barry Ritholtz posted some interesting chart pr0n from the NY Fed's report on Household Debt & Credit and a commentator by the name of "HelicopterBen" brought up Richard Koo, whom I've written about before, and whose book I reviewed.

I feel like a broken record, but I'll say it again: Koo's GIGANTIC assumption is that the government will spend the money in projects with a NPV greater than zero. I quote myself below:

I'm just not comfortable leaving that decision up to the guys that decided to try to reflate the bubble by pulling-forward demand, subsidizing toy arrows and foreign liquor and build useless airports. Just sayin.

As I said in my response in TBP (I comment there as "X on the MTA"), trying to return to the good times by maintaining the money supply inflated is like trying to--ignore the negative connotation of disease for a second--infect a patient by inducing the symptoms. Or, if you prefer, curing the symptoms instead of the disease, either analogy works for me. I'm not going to rant about malinvestment, because I've already done so--although Pettis said it better  and then what Steve Waldman said it best. instead, I'm going to make a quick point about the money supply.

One of the Fed's goals is to maintain relative price stability. When Paul Volcker was first appointed Chairman of the FRB, he changed how things work and decided to try to control inflation by targeting the size of the money supply. Little '84 hiccups aside, it is in my opinion he did a good job navigating this new, uncharted territory. At the time this "monetarist" thing was fairly new, but it makes sense to control inflation by controlling the growth of the money supply. This works well because the Fed can act in the markets via the FOMC, and they can release accommodate expansion when it's needed and tighten when things are heating up too fast.

Koo--correctly, in my opinion--argues that during a large-scale deleveraging, when rates are already pushing zero, monetary policy becomes impotent. He argues that no matter how much money a central bank puts out, it won't create inflation if businesses and households are all focused on paying down debt. I think he is totally correct. Where I disagree with him is where he argues that the government should become the borrower of last resort to keep the money supply from shrinking. Yeah, the government can soak-up funds when there's an excess, but can we trust them to release them when the private sector needs them? More so, can the government allocate capital in anything but a wasteful manner? Which brings me to my main point: why do we need to keep the money supply inflated, and businesses and households leveraged? I am not saying we should allow a violent deflationary crisis to take place, or the government shouldn't stimulate when it makes sense, I'm just saying there is nothing wrong with having excess reserves when there's nothing to invest them in. Americans are simply not going to halt spending because of small price declines are expected. I'll put money on that.

Borrowing is contracting and there is excess reserves because people want to save and pay-down debts. Some may need to save the money for future expenses, others may want to pay down the underwater component of a mortgage so they can refinance at a lower rate or sell and move. CC debtors may need to lower their debt-service so they can start spend that money elsewhere. Some may want to lower DTI ratios so they can borrow in the future. Slack in the system is a good thing, just like cash in an investment account. There is nothing wrong with not being fully leveraged or fully invested. Businesses and households are preparing and keeping their powder dry so that once a suitable investment comes, they can act on it. That is healthy and rational.

Businesses and households may be paying down debt because they have ugly balance-sheets as a result of the decline in asset values. Fixing balance sheets is not a bad thing, it leads to strong businesses that can grow once their internal problems are fixed. Trying to keep businesses and households in their current, insolvent and over-leveraged state to prevent a few bankruptcies is like locking up junkies and keeping them high so that they don't have to go through withdrawals: ultimately counterproductive.

I would favor going through a painful deflationary cycle and dealing with the bankruptcies of weak businesses and households, but if the Koo sympathizers really want to transfer debt from businesses and households to the government aka "the borrower of last resort", maybe we could do it by having the government borrow large amounts at record-low rates and sending checks to tax-payers instead of poorly investing it. Tax payers could then use that money to pay-down debts, get out of homes they can't afford, or consume and invest if they are so inclined. If nothing else, it would speed-up the process of getting consumers back to a healthy place where they can start spending again so businesses have an incentive to start investing again. Of course we'd have to deal with higher taxes to serve that debt, but something tells me Uncle Sam has a better rate than Joe the Plumber's Capital One card.

A thought about deflation in the United States

As I have written before, I believe that the natural state of an economy that is progressing and becoming more efficient is a deflationary one.

In a closed economy, a rise in productivity increases the amount of goods provided, leading to price decreases as the number of good rises and the amount of money stays the same. In this scenario productivity increases and money supply growth can coexist and maintain price levels stable, even if a small amount of money is being printed.

That is an oversimplification, but it gets the general point across. If we keep the monetary base stable, increases in population or increases in productivity will both have the same end result: higher potential output and a lower nominal price level. We use monetary policy as a tool to protect ourselves from this monster because the people in control of the big money machine are economists, and economists believe that people are rational utility-maximizing machines. What that means is that if people get used to the idea that prices steadily decline, they will continuously put-off spending because things get cheaper, which will drive sellers to lower their prices, creating a self-feedback loop that eventually will end up in the economy grinding to a halt. Generally, this makes some sense, but I just want to throw this one thing out there: