As I pointed out in a post a week ago, getting Uncle Sam out of real estate is shaping up to be tougher than anyone would like. The Federal Reserve's statements since I blogged -- including this speech Friday from Fed governor Ken Warsh -- bear me out. And on top of that comes August's disappointing 2.7% decline in existing housing sales, the first drop in five months, followed Friday by a disappointing shortfall in new home sales volume. A graceful exit for Uncle appears even less likely than it did just a few days ago.
The government's exit strategy remains one of the biggest questions of the rebound, as my colleagues Mark Thoma and Jill Schlesinger explain. How does the government turn off the economy's life support systems without killing the patient? And yet how does it prevent the inflation that will surely result from keeping the spending going too long? The record on this isn't encouraging. As Warsh puts it:
Economic histories in the United States and elsewhere are packed with examples in which the monetary authorities, with the overwhelming benefit of hindsight, may have misjudged the communication, timing or force of their exit strategies. In some cases, policymakers may have waited too long to remove easy-money policies. In other cases, policymakers may have acted too abruptly, normalizing policy before the economy was capable of self-sustaining growth.
Errors of each sort are neither uncommon nor unexpected in the normal conduct of monetary policy...And the current environment is anything but normal.
Extricating itself from the housing market is just one part of this multi-stage balancing act. Among other supports, the Fed has been buying billions of mortgage-backed securities, a program that was supposed to expire at the end of the year. Shutting down the program too abruptly could trigger a rise in mortgage rates, so the Fed announced last week that it will extend the purchases into 2010. Probably a good move: There's still a wave of foreclosures related to option ARMs and commercial real estate on the way.
Still, the Fed will eventually have to remove the cash-drip I.V., unpopular as that move will be in the real estate industry. It's going to take some guts on the Fed's part -- let alone impeccable timing -- not to stay too generous for too long.
Which brings us to another arm of government, not known either for good timing or courage: Congress. It's responsible for the $8,000 first-time home buyer's tax credit, another housing market prop due to expire near the end of the year. Yet under pressure from realtors and home builders, Congress appears poised to extend the period in which the credit would apply -- and could even double the size of the credit. On Thursday, Goldman Sachs analyst Joshua Pollard put the odds at an extension at greater than 50%.
And housing is just one of the economic sectors the government is propping up. Uncle Sam has to ease out of banking, autos and all the programs authorized under the Obama stimulus bill without either starving the recovery or feeding inflation. It's going to be hard enough for the Fed to get the balance right. For the Fed and Congress to pull it off in perfect harmony seems next to impossible. The likeliest scenario seems to be that Congress, or both Congress and the Fed, will be too loose for too long. Hello, inflation.
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