Builders Rained Out, Fed Awash in Expectations
- Housing Starts for August decreased by 5.0 percent to a 571,000 unit annual pace.
- Permits for new residential construction increased by 3.2 percent to a 620,000 unit pace.
- An FOMC policy announcement is due tomorrow afternoon.
In the August new residential construction report we see the effects of Hurricane Irene and the storms that followed, putting a damper on construction activity in the South and in the Northeast. Total housing starts fell by 5.0 percent, to a 571,000 unit annual pace, below consensus expectations. In the South, starts fell by 3.3 percent; and in the Northeast, starts were down by 29.1 percent for the month. The Midwest and the West saw small gains of 2.6 and 2.2 percent, respectively. The good news in the report came from an increase in permits for new construction. If it’s too wet to build houses you can at least file for permits. Total permits were up 3.2 percent to a 620,000 unit annual pace. This was the highest rate of permits so far in 2011. The small boost to permits is good news but it may be a false positive as builders have little incentive to ramp up construction with house prices still sagging in many areas and consumer confidence badly shaken.
Tomorrow, the FOMC will issue a much anticipated policy statement. The current FOMC meeting follows a contentious 3-member dissent on August 9 and also an announcement that the previously scheduled one-day meeting would be expanded to two days. So we know that the FOMC collectively feels that there is a lot to talk about. What we cannot safely assume is that the FOMC will vote to undertake significant new monetary stimulus. The FOMC appears to have four options on the table. First, they could drop the interest rate on excess reserves to zero, freeing up some additional bank capital for lending. This would be a largely symbolic move that would not significantly impact business credit conditions. Secondly, the FOMC could change their language associated with target levels of unemployment and inflation. This would have little near-term impact on the economy and potentially unleash a host of unintended consequences. Third, the Fed could conduct an “Operation Twist” by selling short maturity Treasury bonds and buying longer maturities, thus lowering the long end of the yield curve. The value of a “twist” would be lower long-term lending rates and a QE-like push to investors into risker assets. Equity and commodity markets could firm up and we could potentially see a positive wealth effect and improvement to sagging measures of confidence. Finally, the Fed could launch QE 3, or a combination of a “twist” and more QE. This “leveraged” QE has some compelling arguments but it may not be politically possible given the three dissenting votes cast at the August 9 FOMC meeting.
Market Reaction: Equity markets are giving back opening gains. Treasury yields are down at the long end of the yield curve. Oil is up to $86.37/barrel. The dollar is down against the yen and the euro.