Saved…saved, we were, first thing this morning.
Mortgage rates this week began their inevitable rise through 6 percent, pushed by T-bonds 4.43 percent, headed for 4.6 percent-plus…then at 8:30 EDT, flashing on traders’ screens worldwide, “NOVEMBER PAYROLLS GAIN 112,000, ONE-HALF FORECAST, OCTOBER REVISED DOWN.”
Traders holding enormous short bond positions were instantly de-pantsed, and the whole long end of the yield curve came down .2 percent or more as the shorts had to buy to cover their collectively exposed derrieres. Low-fee mortgages are back down to 5.75 percent, which Freddie Mac’s survey will not discover until next Thursday.
Today’s rate improvement feels like a temporary reprieve, not true salvation.
For three years running I have been a skeptic on the strength and sustainability of economic expansion, but I think the odds now favor rather more strength and inflation risk, and higher interest rates at all maturities. “Inevitable” is a big word to use, up in that second paragraph, but the only event that would stop a continuous (if saw-tooth) rate rise would be a significant economic slowdown.
Today’s job data are not consistent with the rest of the data. The purchasing managers’ series is maintaining its record strength, both in manufacturing and services; and personal income popped a surprising .7 percent gain. Oil is down to $42/bbl, down $13 in a month, still high enough to produce inflation concerns, but low enough to remove a lot of economic drag.
Inflation remains under control, only 1.5 percent annual in the GDP measures, but the gasoline-soaked kindling for an inflation fire is piled up all over the place. Raw material prices in the stratosphere, gold at $450/oz, the dollar in the tank and driving up the price of all imported goods – these are the classic precursors of an inflation episode. The Fed has to act, and will go to 2.25 percent on the 14th, and at least another .25 percent at its meetings in February, March, May, and June; any sign of inflation breaking 2 percent, and the Fed will make one or more inter-meeting moves. A “neutral” Fed funds rate seems now to lie at 3.5 percent or higher, which would push the days of four-something T-bonds and five-something mortgages into history.
The change in market psychology to belief in economic strength and inflation risk gathered steam over the long Thanksgiving weekend (Monday was an awful day, a trend-breaker), but the shift really began the day after the election.
President Bush intends to make permanent his tax cuts. He will soon ask for an additional $70 billion for the Iraq war, on the low side of annual cost given the ramp-up to 150,000 troops, and similar expenditure likely to continue for years. He will spend his political capital on attempts at revenue-neutral tax reform and Social Security privatization, and he probably doesn’t have enough capital for either.
The net effect: an ongoing, huge budget deficit stimulating the economy. Unsustainable in the long run, but an economic goose for now, even if the Fed has to lean into it. Our long-term weakness shows in the dollar, but a crash is unlikely.
Bush is putting together a new economic team, but there is no evident intent to include an expert on financial and currency markets. No matter what you thought of former President Clinton, his Treasury Secretary, Robert Rubin, knew the markets cold and explained to free-spending Democrats why they had to – had to – behave “like Eisenhower Republicans,” in Clinton’s own resentful and frustrated words. That’s what Rubin gave us: the best fiscal policy since Ike.
We can wait a while, but we need more tax revenue, not supply-side dreams. Markets worldwide are trading as though they fear the economic equivalent of the people who were certain that the Iraqis would greet us as liberators.
Lou Barnes is a mortgage broker and nationally syndicated columnist based in Boulder, Colo. He can be reached at lbarnes@boulderwest.com.
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