For starters, here is some of the news behind today’s headlines:
· Mortgage rates have gone up and the number of applications has declined (due in part to expiration of the home purchase-inducing tax credits and continuing uncertainty about the economy and the cost of debt exacerbated by the Fed’s QE2 policy-see below). Not surprisingly, the yield on ten-year Treasury notes has been rising;
· Housing inventories have declined (in theory due in part to frustrated sellers pulling homes off the market and some lenders slowing the sale of foreclosed properties due to irregularities in the foreclosure processes);
· Housing starts have declined, which is understandable in a market where there is a huge overhang of existing inventory and mortgage loans are hard to come by;
· Building permit issuance is relatively unchanged from its current doldrums, also understandable given the situation described in the immediately preceding paragraph.
On Other Subjects:
QE2 or quantitative easing, Round Two. The Federal Reserve has created $600 billion out of thin air ostensibly to buy toxic debt instruments (think residential- or commercial-backed mortgage securities), thus greening the economy. The reality of it? The total of goods and services available in the market at any point in time is a static figure. Simply creating additional dollars only requires the costs of those goods and services to be increased in order to avoid loss of their value.
This is because this “funny money” weakens the value of the currency. It leads, in turn, to higher interest rates in order to adjust for the increased reluctance to invest in dollar-backed securities, such as Treasuries. Ultimately, it disincentivizes investment that would lead to job creation. Higher interest rates on government debt crowds out capital for private investment.
Make no mistake about it. Higher interest rates are part of a zero-sum game. Savvy investors understand that any given asset has a finite value for a desired rate of return on investment in that asset. It’s simple: the more you pay for the cost of the money (debt) used in the acquisition of the asset, the less you can pay for the asset itself. Higher interest rates put downward pressure on asset values.
On their third quarter reports, banks in the U.S. disclosed that they were sitting on more than $1 trillion in excess reserves, that is reserves above and beyond the amount required. Why aren’t the banks lending that money? Could it be that they are afraid of further losses in the real estate sector - residential and, especially, commercial?
Finally, what’s the big deal with extending the Bush tax rates for all those earning less than $250,000 per year and filing jointly ($200,000 for those filing individually)? Just this: who do you think is more likely to have the capital and incentive to invest in business growth and expansion? Right, those who wouldn’t get the benefit of the extension of the Bush rates. And what’s one of the most crucial things needed by our economy today? Right again, jobs. The solution to that problem (there are others that need other solutions to be sure) is to permanently extend the tax rates across the boards. Eliminate the uncertainty looming over future years’ tax rates, including 2011. To accommodate the tax rates, cut government growth and spending. No one ever was entitled to a free lunch in this country.
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