Don’t bet on Ben Bernanke wielding a monetary sledgehammer to battle runaway real estate values.
It’s not clear if President George W. Bush’s nominee to replace the retiring Alan Greenspan as Federal Reserve chairman sees the soaring housing prices of places like Orange County as a dire economic headache. But I’d guess that Bernanke wouldn’t initially prescribe harsh financial medicine for potential real estate ills.
He’s a slam dunk to be approved by the U.S. Senate. Then he’ll head the influential U.S. central bank that has a hand in everything from interest rates to moving the checks we write to banking regulation. While his handiwork will touch almost every financial nook and cranny, Bernanke will be initially judged in Orange County by how he juggles the real estate “bubble” debate.
Housing is a critical cog in this town’s economy, creating massive individual wealth and the bulk of the region’s freshest jobs. It’s also a national industry dear to any Fed chair’s heart, with trillions of housing dollars flowing through the U.S. economy and its banking system.
Bill Gross, the bond-market wizard at Pimco in Newport Beach, thinks home prices are so high in many parts of the country that chances of a real estate collapse puts the entire national economy at jeopardy. He says the Fed’s management of that risk – “a key area of economic fragility” – will be one of Bernanke’s “most delicate tasks next year.”
Clearly, Greenspan has sounded warning bells lately about the sanity of recent home appreciation.
TROUBLE BREWING
“Froth” is how he’s described some awfully high prices. And Greenspan’s also questioned the wisdom of some novel lending practices.
Greenspan never said “Orange County,” but being one of the nation’s hottest housing markets – and a leader in creative financing – you kind of know what he meant.
Pimco’s Gross expects Bernanke to be more direct with his communication than the often obtuse Greenspan. “He’ll call a housing-price increase a housing-price increase … not a cafe latte,” Gross says.
But since Bernanke’s been working in the White House as Bush’s top economic adviser since June, nobody knows exactly if he agrees with Greenspan’s worries about housing.
For one, Bernanke doesn’t seem to be a big fan of “bubble or not?” guessing games surrounding any asset with soaring values.
“Many people appear to consider sustained increases in the prices of assets as prima facie evidence of a bubble,” Bernanke said in 2002. “This view is simplistic at best. Historically, it has by no means been the case that strong bull markets are inevitably followed by raging bears. … The fact that a particular rise in asset prices happens to be followed by a price decline does not prove that the initial increase was irrational or unjustified.”
This past summer working at the White House, Bernanke suggested that housing was in good shape.
“We have a strong economy, we have lots of jobs, employment, high incomes, very low mortgage rates, growing population and shortages of land and housing in many areas. And those supply-and-demand factors are a big reason for why housing prices have risen as much as they have,” Bernanke said at an economic briefing for reporters in August. “I think over a period of time, the housing prices are likely to stabilize. I don’t expect them to keep rising at this rate indefinitely; I don’t think anybody really does.”
Just last week, he told a congressional committee that “speculative activity has increased in some areas” but “price increases largely reflect strong economic fundamentals.”
Of course, Bernanke was talking as Bush’s chief economic honcho. That is not a job where inflammatory commentary is preferred.
At the independent Fed, however, he’ll have the freedom to talk – and act.
RATE GAME
Bernanke, who served on the Fed’s seven-member board of governors from 2002 until June, will be rejoining a Fed that put the nation on a path toward higher interest rates back in June 2004.
The idea is to cool an economy that’s overheating from the easy-money policies put in place by the Fed to pull the nation out of its business funk after the dot-com bust and 9/11 attacks. An obvious target is housing, where excesses were created by the cheapest mortgages in a half century.
Pimco’s Gross reminded me that it was Bernanke, in particular, who nudged Greenspan to make those deep interest-rate cuts.
“This demonstrated (Bernanke’s) ability to exert leadership,” Gross says. “To be a table-pounding advocate.”
But Bernanke probably won’t use the Fed’s rate-setting abilities to blunt further real estate gains. In his first speech as a Fed governor in 2002, he said you cannot fix troubles in one industry with an interest-rate attack that will hurt many more.
“One might as well try to perform brain surgery with a sledgehammer,” he said.
Another bit of Greenspan’s housing-related work that Bernanke inherits is regulatory initiatives to mitigate mortgage-lending risks.
A multi-agency task force wants to limit mortgage losses that might occur if the housing bubble burst and massive foreclosures followed. Some experts fear lenders are too generous, letting shoppers buy homes they really can’t afford.
Bernanke’s old speeches indicate he would support these endeavors. Back in 2004, a Fed publication quoted him saying, “research on historical episodes suggests that large asset price increases are sometimes preceded by credit booms.”
Sound familiar?
He then continued: “There are two ways to approach bubbles: One is interest rate policy, the other is micro-regulatory policy. Micro-regulatory policy is the much better approach.”
So if I were shopping for an exotic mortgage – you know, the ones that sound a bit too good to be true – I’d grab one before Bernanke and other regulators make the lending game more difficult to play.
Regulators including Bernanke may tweak home-loan rules. Certain novel mortgages will become expensive to own – or harder to qualify for – to dampen the broad economic risks of high real estate prices.
There’s a new sheriff coming to town. He won’t use a sledgehammer to cool housing. He’ll show his bite with “micro-regulatory” teeth.
