Incite -- (v) 1: give an incentive; 2: provoke or stir up; "incite a riot"; 3: urge on; cause to act
Tuesday, March 23, 2004

Fixed Economic Demise
Written by: Speculator

What can we say of an actively intrusive central bank? Is it possible for a central economic authority to micromanage an economy; can the business cycle be massaged to achieve some preconceived optimal oscillation? Furthermore, can it be considered sapient to have a collective aiming to do just that? Or is it better to have each economic agent acting on its own behalf, unfettered from synthetic shocks?

To be sure, we are witnessing the most reflexively activist Fed in its 70 year history. There seem to be those who subscribe to the thought that booms can be replaced with booms, all without the nonsense of those silly busts. And thus far, things look pretty darn good. Heck, even the captain of this mighty ship is just silly with it: "Mr. Greenspan's view is that household balance sheets are 'in good shape', and perhaps stronger than ever, because the value of people's homes and stock portfolios have risen faster than their debts" - New York Times, 3/16/04. Uh huh.

I was utterly shocked when I read this line last week, as the NYT was reporting on Greenspan's testimony to Congress earlier this month. A few things: housing prices, in general, are actually a derivative. Have you ever met the guy that buys cars based upon what monthly payment he can afford, actually ignoring the price that he pays for the car? Homes, in many ways, work the same way. The purchase price of a home is eventually the principal that is "backed-out" from the monthly mortgage payment that one can afford, which is a direct function of mortgage interest rates. As debt service has achieved an all-time low on the Scale of Burden, people are finding that their dollar can buy a hell of a lot more home. And as more and more people enter the amusement park of contemporary home-buying, with their eyes wide and hearts pitter-patting, they bid up the price of homes with arguably reckless abandon. Why? Because they can 'afford' to. And, as some know, when a home in a neighborhood sells for 110% of the ask, all homes in the relative vicinity are "marked-to-market" - holy cowballs honey! we've got EQUITY in this thing!. And the banks are more than pleased to "unlock" it for you, at, yep, a lower rate than your previous. (Much more on this psycho clown circus stunt show in later posts)

But the key here point here is that it takes only ONE home sale at an appreciated price for many to enjoy price appreciation. It takes little imagination to envision what would occur if more than three owners within a neighborhood came to roost and attempted to sell at these recently appreciated levels. But no need, the refi wizards down at your local branch can help you with that.

So, as banks refi the Joneses and the Smiths at, lets say, principals of 120% of original purchase (which were probably already inflated), they sit smug knowing that they are well secured - the home backs their credit extension. We should all do our best to get a prize seat to watch the cacophony that will result as Joe banker attempts to fetch all he can for the principal extension of 1.2X he made only a short 18 months prior.

Now, as you will soon come to find, I am somewhat of a hyperbolist at times: I don't really believe that there is going to be a devastating liquidity crisis. But it's fun to think about.

Nonetheless, I was beside myself to hear the venerated Mr. Andrea Mitchell speak as he did. Surely he didn't find bona-fide evidence of health in household balance sheets as he said he did.

More commentary on active intervention by a central bank later.

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John Beck

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