From: Gregory S. MacKay, Senior Vice President & Chief Economist
This week, Chairman Ben Bernanke of the Federal Reserve Board gave his semi-annual Monetary Policy Report to both the Senate and the House. He stated that economic activity “has continued to expand at a moderate if somewhat uneven pace”, blaming weather problems for most of the fourth quarter GDP weakness. While he saw job creation “improving gradually”, he still viewed the job market as “generally weak”, and reminded us that high unemployment not only harms families’ current and future earnings possibilities, but reduces tax revenue and increases deficits.
The Chairman did not foresee any inflationary problems. While acknowledging current gasoline prices were redirecting short term purchases. Still, he said the Federal Open Market Committee (FOMC) still anticipates inflation at or below 2% over the medium term.
The decisions to maintain a highly accommodative monetary policy of a low federal funds rate, a continued monthly purchase of $85 billion of securities, and crystal clear thresholds of 6½% unemployment and 2% inflation were again defended by the Chairman. He cited recovery in the housing and auto markets as examples of how the increases in employment and household wealth are transmitted into the economy. Addressing some concerns of critics looking for a slowdown in accommodation, the Chairman said he “remains confident the committee has the tools necessary to tighten monetary policy when the time comes to do so.” He acknowledged that some investors might take on more credit, leverage, or duration risks to enhance yields, but he believes the benefits of a combination of reduced debt costs for borrowers and stout oversight of financial firms and systems by the Fed outweigh the downside risks to the economy.
The Chairman sees the near term budget changes as possibly creating a “significant headwind” for the economic recovery, slowing job and income growth and slowing deficit reduction in the near future. Yet Mr. Bernanke cites the aging population as the primary problem in reducing federal debt to a long term average of less than 40% of GDP. He did suggest a moderation of the current sequester cuts in favor of longer term policy changes that would reduce the federal deficit. As always, the Chairman offered no specific plan, saying only “not all tax and spending programs are created equal with respect to their effects on the economy.” Finally, he remains steadfast in his belief that the ongoing economic growth will make these tax/spending choices easier.
Recent releases agree with the Chairman’s view of the economy. Housing starts dipped a bit in January, but are 23% higher than a year ago, and are approaching pre-recession levels. Building permits are 35% above January 2012 levels. Sales of both new and used housing remain very strong. Some realtors in certain parts of the country are using the term “sellers market” for the first time in 4-5 years. Existing home sales are running around 4.9 million units annualized, and are up over 9% from January 2012 levels. Inventories of used homes haven’t been this low in over 10 years. Both median ($173,600) and mean ($221,200) prices are up over 10% from January 2012. Not to be outdone, new home sales for January 2013 were at a 437,000 annualized pace, up 15% for the month and 29% higher than January 2012 levels. New home construction is ramping up fairly quickly, as the current inventory of about 150,000 homes (down 23% from January 2012) is bringing builders out of mothballs. Nationally, home prices as measured by the S&P/Case-Shiller Index also reflect the housing recovery. For 2012, their U.S. index rose 7.3%, and national average prices are at autumn 2003 levels. Buyers during the height of the bubble haven’t seen much relief yet, but in general, other home owners are back to counting the increase in value of their real estate… and that’s good for consumer confidence.
There just isn’t anything bad to say about inflation. Wholesale prices measured in January rose only 1.4% in the past year, and consumer prices rose 1.6%. Neither figure is a concern for the Fed, though consumers are a bit uneasy about gasoline costs as we speak. Last year’s spike in gasoline never carried through to the total indices, and we don’t think they will this year.
As expected, the second estimate of fourth quarter 2012 Gross Domestic Product (GDP) was revised upward from a decline of .1% to an increase of .1%. Third quarter 2012 GDP growth was 3.1%. There was an upward revision in exports and a downward revision in imports, indicating some strengthening in overseas demand. While inventory levels continued to be a drag on growth, there were solid upward movements in both non-residential structures and all types of business equipment and software expenditures. So businesses have solid balance sheets and are spending on their infrastructure while remaining cautious about consumer demand. As of this estimate, total GDP grew 2.2% in 2012, after growing 1.8% in 2012. Inflation as measured by the price index for Gross Domestic Purchases rose 1.7% in 2012 versus an increase of 2.5% in 2011. Just as Mr. Bernanke said - moderate growth and no inflationary problems.
Stocks closed February with a gain, even as the unknown effects of the federal spending cuts began to weigh on prices this week. There may be some short term volatility out there. At Friday's opening, for the week and year:
Treasury prices rose and yields fell as some cash was moved out of stocks this week. Municipals remained steady.