Morning Report: The adverse market fee is gone

Vital Statistics:

S&P futures4,266-52.2
Oil (WTI)69.14-2.55
10 year government bond yield 1.22%
30 year fixed rate mortgage 3.08%

Stocks are lower this morning as investors fret about new COVID-19 cases in Asia. Bonds and MBS are up.

The upcoming week will begin the deluge of earnings reports. In terms of economic data, we will get housing starts and existing home sales. We won’t have any Fed-Speak as we are in the quiet period ahead of next week’s FOMC meeting.

On Friday, the FHFA eliminated the adverse market fee of 50 basis points on refinancings. “The COVID-19 pandemic financially exacerbated America’s affordable housing crisis. Eliminating the Adverse Market Refinance Fee will help families take advantage of the low-rate environment to save more money,” said Acting Director Sandra L. Thompson. “Today’s action furthers FHFA’s priority of supporting affordable housing while simultaneously protecting the safety and soundness of the Enterprises.” The fee was supposed to protect the government from credit losses stemming from COVID, however the low number of GSE loans in forbearance and rising home prices have mitigated the need for extra reserves.

The NAR has released a study finding a “dire shortage” of housing which requires a “once-in-a-generation” response. The US housing stock grew at a 1.7% pace from the 1970s through the 1970s, however it has averaged only 1% since, and has fallen to 0.7% over the past decade. They estimate that the supply gap is about 6.8 million units, which would require housing starts of more than 2 million units per year. In 2020, housing starts came in at 1.3 million, however COVID did impact those numbers slightly. Housing starts have returned to historical normalcy, however over the course of this chart, the US population has almost doubled.

The decrease in interest rates appears to be a warning regarding growth going forward. There was a study conducted by Reinhart and Rogoff, which said that a debt to GDP ratio of 90% was sort of a governor on economic growth, which negatively affects GDP growth by at least 1%. Countries with debt to GDP ratios above 90%, generally see growth in the low 2% rates.

This study was a bit of a political football about a decade ago, when leftist economists like Paul Krugman and Robert Reich were agitating for more and more government spending to support the economy. They wanted to avoid austerity, which is a loaded word meant to imply fiscal tightening when that isn’t the case. Austerity really just means spending as a percent of GDP is falling. If the government is spending 150% of GDP and it falls to 149.9% of GDP, that is austerity. In other words, you can still have highly accommodative fiscal policy and austerity simultaneously.

Back in the Great Recession, the US debt to GDP ratio was sitting just around 90%, which made for an interesting debate in Econ Twitter. Fast forward to today, where our debt to GDP ratio is 130%. IMO, this is something that has been absent from discussion (I suspect this is mainly because the press and left Econ doesn’t like the implications), however it will have a big impact on inflation going forward. If you look at the Fed’s economic projections, it sees long-term growth around 1.8% – 2%. This would be consistent with Rogoff and Reinhardt, which is simply not a conducive environment for inflation.

It may turn out that the model for the US going forward is not 1970s style inflation, but something more similar to Eurosclerosis and Japan. I would add that slow, tepid recoveries are a feature of post-residential real estate bubbles, and they typically take decades to play out.

I suspect the fast money shorting bonds right now is going to be disappointed.

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