by Calculated Risk on 12/16/2005 02:28:00 PM

A couple of blogs have responded to my post dismissing the Samwick, et. al. Social Security proposal. Let me reiterate, I respect Professor Samwick's intentions, but I think his efforts are misdirected.

The first blogger, Arnold Kling at Econlog writes:

Even if one were to accept the premise that the fiscal problem is larger elsewhere, this is a phony argument. CR is acting like an angry teenager, sticking his fingers in his ears and saying "I'm not listening to you."

But the premise is also wrong. If we allocated a larger share of payroll taxes to Medicare instead of SS, we could argue that Medicare is not a problem but SS is the big issue. We should be looking at the challenge of funding spending as a whole, not looking at the arbitrary allocation of taxes to different programs. In terms of overall spending, Social Security is a gigantic issue.

Finally, it is disingenous to whine that we need to solve the other problems first, without offering a solution. Overall, this stance of "solve X and Y before you tackle Z" comes across to me as mere demagogic rhetoric, the end result of which will be that X, Y, and Z will remain unsolved.

Skipping over Kling's personal attacks, Kling is completely wrong - both about my suggestions and about the underlying economics.

First, although not included in my Social Security post (for brevity), just last week I wrote that there is good news for reforming health care in America:

... there is hope for the health care system. Currently the US has the most expensive health care system per capita in the World, and some of the worst outcomes for a first world nation. This offers an opportunity to reform the US healthcare system, and luckily there are several examples of systems that provide better outcomes for substantially lower costs. (See Angry Bear's and Kash's posts on the left under Topics: The U.S. Healthcare System)

So I'm not suggesting moving money from bucket A to bucket B; I'm actually suggesting reforming the entire system and dramatically cutting the costs and improving outcomes.

But Kling really goes astray when he suggests looking at "spending as a whole". The real issue in all of these debates is who pays the taxes and who receives the benefits.

As a mental exercise, imagine if we eliminate SS spending and the SS payroll tax - what happens? The General Fund deficit stays exactly the same and we would need to address the significant General Fund shortfall. Would Kling then suggest raising taxes on lower and middle income Americans to cover the shortfall? That seems to be Kling's suggestion.

So I believe we want to do the exact opposite of what Professor Kling suggests; for some programs we want to analyze each program and revenue source separately.

Two Lenses


One of the skills of a successful executive is to be able to manage with two lenses: a wide angle lens (to see the big picture) and a telephoto lens to zoom in on problems. But just like a photographer, the executive needs to know when to use each lens.

Its not that I'm "not listening", I'm prioritizing.

I believe there is no need to discuss the details of Professor Samwick's proposals; the wide angle lens shows Social Security is irrelevant.

by Calculated Risk on 12/15/2005 07:19:00 PM

DataQuick reports: Southland home sales strong, prices hit new peak

Southern California home sales remained at near- record levels last month as prices continued their climb to new heights ...

A total of 27,637 new and resale homes were sold in Los Angeles, Riverside, San Diego, Ventura, San Bernardino and Orange counties last month. That was down 3.0 percent from 28,489 in October, and up 0.6 percent from 27,459 for November last year, according to DataQuick Information Systems.

A decline from October to November is normal for the season. The strongest November in DataQuick's statistics was in 1988 when 29,303 homes were sold. The slowest November was in 1991 when 13,537 homes were sold. So far this year 326,746 Southland homes have been sold, virtually unchanged from 326,880 for the first eleven months of last year.
...
The median price paid for a Southern California home was $479,000 last month, a new record. That was up 1.3 percent from $473,000 in October, and up 15.4 percent from $415,000 for November 2004. Annual price increases have been in the mid teens since April.
...
The typical monthly mortgage payment that Southland buyers committed themselves to paying was $2,238 last month, up from $2,169 for the previous month, and up from $1,830 for November a year ago. Adjusted for inflation, current payments are about the same as they were in the spring of 1989, at the peak of the prior real estate cycle.

by Calculated Risk on 12/15/2005 07:16:00 PM

DataQuick reports: Slower Bay Area home sales, steady price increase

Bay Area home sales continued to slow on a year-over-year basis while prices continued to climb, a real estate information service reported.

A total of 9,717 new and resale houses and condos were sold in the region last month. That was down 7.5 percent from 10,508 for October, and down 10.8 percent from 10,897 for November last year, according to DataQuick Information Systems.
...
Last month was the third-strongest November.
...
The median price paid for a Bay Area home was $625,000 last month, a new record. That was up 1.8 percent from $614,000 in October, and up 17.3 percent from $533,000 for November a year ago. Annual price increases so far this year have ranged from 17.2 percent to 20.5 percent.
...
The typical monthly mortgage payment that Bay Area buyers committed themselves to paying was $2,921 in November. That was up from $2,815 in October and $2,350 for November last year. Adjusted for inflation current payments are 16.5 percent higher than at the peak of the last real estate cycle in the spring of 1990.

Indicators of market distress are still largely absent. Foreclosure rates are low, down payment sizes are stable and there have been no significant shifts in market mix, DataQuick reported.

by Calculated Risk on 12/15/2005 02:22:00 PM

From Professor Samwick at Vox Baby:

Along with Jeff Liebman of Harvard University and Maya MacGuineas of the New America Foundation, I am pleased to announce the "Nonpartisan Social Security Reform Plan."

My response was blunt:

Professor, I appreciate your efforts, but ...

The two most pressing fiscal challenges for the US are: 1) the health care system and 2) the General Fund Deficit (close to $600 Billion this year alone).

Social Security is irrelevant when compared to those two problems.

I suggest fixing the most serious problems FIRST, and then returning to Social Security.

Ranking the Challenges

Any good manager would 1) measure the problem and then 2) solve the largest problems first. With that approach, here are the three largest fiscal challenges facing the United States:


Click on graph for larger image.

This chart shows the relative sizes of the three major fiscal challenges over the next 75 years. The NPV for the General Fund deficit is based on deficits equal to 5% of GDP. Note: the fiscal 2006 general fund deficit will be close to 5%.

The estimates for Medicare and Social Security are from the GAO report (pdf): The Long Term Fiscal Challenge

From the GAO report:

"Health care is a bigger problem than Social Security. Participants acknowledged the need for Social Security reform but emphasized that Social Security is a relatively small part of the long-term fiscal challenge when compared to spending on health care. ... Several participants observed that few members of the public are aware of this. Rather, the general public impression is that solving Social Security would solve most of the longterm fiscal challenge, and this is not correct.

And on the General Fund deficit:

"Participants agreed that a key moral context is the impact federal budget deficits will have on future generations."

Conclusion

The debate should be focused on the two major issues: Health Care and the General Fund deficit. Without addressing those issues first, reforming Social Security is irrelevant.

by Calculated Risk on 12/15/2005 11:07:00 AM

The Orange Country Register sponsored a roundtable on real estate this week. The participants included "economists, real estate executives, consultants, a researcher and a broker" and the comments were unsurprisingly mostly positive.

This discussion of exotic loans was interesting:

... the panelists weighed in on risks and benefits of creative financing, prospects of widespread foreclosures, and solutions to the housing crunch.

The prevalence of easy money is a concern, and much of it originates in Orange County, according to Scott Simon, who heads the mortgage investment team at the Pimcobond firm in Newport Beach.

"This is the hub of creative credit in the world," Simon said.

Simon said some lenders have dramatically increased the amount of interest-only loans they make in recent years. The trend has helped increase the percentage of Americans who own homes, but has led to a number of buyers borrowing too much, he said.

A day of reckoning for some buyers could be in the offing, according to Simon and some other panelists.

Several panelists said homeowners most at risk of foreclosure are those who bought homes since 2003, have no equity, and have adjustable mortgages with very low rates. Most buyers before 2003 have built up a fat cushion of home equity to fall back on if mortgage rates rise, they said.

The number of homeowners at risk of foreclosure probably is in the range of 7,000 to 8,000, said Chris Cagan, director of research and analytics with First American Real Estate Solutions in Santa Ana. That total would represent 7 percent to 8 percent of local buyers over the past two years, he said.

Cagan said that if all of those at risk defaulted, it would add about two months' supply of homes for sale to the market, not enough to sink it.

I think there will be additional factors impacting the economy if housing prices flatten. Not only will some recent buyers be at risk of foreclosure, but there will be less employment in RE related industries and less equity extraction to fund consumer spending and home improvement projects.

by Calculated Risk on 12/14/2005 06:13:00 PM

The Economist is amazed by the American consumer:

FOR several years now, economists have been watching American consumers with the same mixture of astonishment and anticipation that wide-eyed fans bring to endurance sports: amazing that they’ve made it so far, but how much longer can they go on like this? Strong consumer spending has underpinned America’s robust economic expansion, even as most other industrialised countries have struggled to get their economies back on track. But consumers have been running down savings to sustain this level of spending; the personal savings rate has actually been negative since June. Booming house prices and low interest rates have enabled consumers to take on more debt without suffering much, but with interest rates now climbing, Americans have begun to feel the pinch. Data from the Federal Reserve show that the percentage of household disposable income devoted to servicing debt was a record 16.6% in the third quarter.

Yet the consumers soldier on.

A nice summary article.

by Calculated Risk on 12/14/2005 04:55:00 PM

The Orange County Business Journal quotes PIMCO's Bill Gross:

"Housing in the next month or two will display extreme weakness, and the Fed will stop,"

The short article adds:

Gross, Pimco's chief investment officer, predicts a rate cap of 4.5%, though others see at least two more hikes by the Federal Reserve.

Two predictions to check back on in a couple of months.


Click on graph for larger image.

According to Dr. Altig's calculations, the Fed Funds Futures shows at least two more rate hikes. This is a regular feature at Macroblog.

Right now I think hikes to 4.5% in January and 4.75% in March are likely. Although I agree with Gross that the end of the rate hikes is near.

by Calculated Risk on 12/14/2005 10:40:00 AM

The Mortgage Bankers Association (MBA) reports: Refinance Applications Continue To Decline

Market Composite Index — a measure of mortgage loan application volume was 619.3 -- a decrease of 5.7 percent on a seasonally adjusted basis from 656.7, one week earlier. On an unadjusted basis, the Index decreased 8.1 percent compared with the previous week and was down 11.0 percent compared with the same week one year earlier.

The seasonally-adjusted Purchase Index decreased by 3.5 percent to 477.9 from 495.1 the previous week whereas the Refinance Index decreased by 9.7 percent to 1441.8 from 1596.4 one week earlier.

Click on graph for larger image.

The graph shows overall and purchase activity since June. Overall activity has fallen significantly due to the drop in refis. Purchase activity is steady.

Mortgage rates decreased slightly last week:

The average contract interest rate for 30-year fixed-rate mortgages decreased to 6.28 percent from 6.32 percent on week earlier ...

The average contract interest rate for 15-year fixed-rate mortgages decreased to 5.83 percent from 5.84 percent ...

Overall this report shows purchase activity is steady at a very high level.

by Calculated Risk on 12/13/2005 08:48:00 PM

The U.S. Census Bureau and the U.S. Bureau of Economic Analysis reports that the U.S. trade deficit for October was $68.9 Billion. Imports increased to a record $176.4 billion from $171.8 Billion in September.


Click on graph for larger image.

The October record was the result of the significant increase in imports and only a small increase in exports.

Imports from China set another record of $24.4 Billion, while exports to China increased slightly to $3.9 Billion. Imports from Japan increased to $12.2 billion from $10.9 Billion in September.

The Petroleum deficit set another record of $24.2 Billion, up from the previous record of $22.3 Billion in September. The increase in the petroleum deficit was mostly due to a 25% surge in the import of refined products that added almost $2 Billion to the October deficit.

by Calculated Risk on 12/13/2005 01:24:00 PM

Reuters reports:

U.S. retail sales rose a smaller-than-expected 0.3 percent in November and fell when a surge in auto purchases was excluded, setting the stage for what could be a disappointing holiday shopping season, government data showed on Tuesday.

Sales of motor vehicles and parts rose for the first time since July, surging 2.6 percent. But without the auto sales, retail demand fell 0.3 percent, the Commerce Department said. That was the first decline since April 2004.
...
"A report like this will continue to fuel the debate about how strong consumer spending will be over the holiday season," said Alan Gayle, a managing director at Trusco Capital Management in Atlanta.
...
Much of the weakness in November's sales was due to a 5.9 percent drop in sales at gasoline stations -- a direct result of the decline in gas prices last month and hardly bad news for consumers.
...
"Excluding autos, spending growth looks healthy -- not a blockbuster holiday season, but far better than it appeared a couple of months ago when gasoline prices were over $3 per gallon," economist Nigel Gault said.

When the drop in sales at gasoline stations is excluded, retail sales rose 1.0 percent in November.

October sales were also revised higher, helping take some sting out of the disappointing result. Total sales rose 0.3 percent that month, up from the 0.1 percent decline initially reported.
...
Still, with October and November sales weaker than expected, analysts said there could well be an outright decline in retail sales in the fourth quarter -- which in turn would hurt economic growth in the final three months of 2006.

"This was a disappointing number relative to expectations and certainly consistent with the idea that consumer spending is going to be a much smaller contributor to economic growth in the fourth quarter than in the third," said Chris Probyn, chief economist at State Street Global Advisors in Boston.
...
"Seasonal business remains below expectations," Redbook said. "An early-December lull was factored into most sales plans for the month, so retailers remained cautiously optimistic as they continued to sit out the pre-Christmas wait."

I hope these two posts make the retail outlook clear.