The president of the Philadelphia Federal Reserve told female housing and finance leaders Tuesday that he believes housing is recovering, and that it can sustain the central bank raising interest rates, an action it should undertake sooner rather than later.
“My own view is that, as we continue to move closer to our 2% inflation goal and the labor market improves, we must be prepared to adjust policy appropriately. That may well require us to begin raising interest rates sooner rather than later,” Charles Plosser told Women in Housing & Finance Inc. in Washington.
Plosser is considered one of the most hawkish of the central bankers. (Compare this Tuesday speech to the one given at the same time by New York Federal Reserve Bank president and CEO William Dudley, a dove, who also spoke on Tuesday morning at the New York Association for Business Economics.)
In the past, Plosser said, central bankers tended to see housing lead the economy out of the recession, but for a number of reasons, that was not the case this time.
“As we know, sales of existing homes plummeted from unsustainable peaks during the housing boom. Sales bottomed out at an annual rate of 3.5 million houses in July 2010 and then climbed steadily for three years to 5.4 million in July 2013,” Plosser said. “That was about the same annual rate that we averaged in the years preceding the boom. Sales have fallen somewhat since mid-2013, due in part to rising mortgage rates, but those rates remain low by historical standards. The fundamentals of the housing market remain sound, including stronger household formation, solid job growth, and consumers with stronger balance sheets.”
Plosser conceded that home prices are well below their peaks, but they continue to improve as the market recovers.
“Some have expressed concern over the housing recovery in recent months, but I am more optimistic. As I said, the fundamentals remain sound, and even though sales have leveled off recently, prices have continued to rise even over the past three months,” he said. “That suggests that supply may be restricting sales more than weaker demand. But we will have to wait and see how the remainder of the spring and summer plays out.”
Many economists have cast doubt on the “winter weather” excuse for the housing stall, but as spring leads into summer, that rationale has weakened.
Fed Chair Janet Yellen said earlier this month she views housing as a headwind to the economy, not a benefit.
Plosser also gave his take on GSE reform, as he is no fan of Fannie Mae and Freddie Mac as they stand.
“The structure of housing finance in our country remains a topic of intense discussion as it was before, during, and after the crisis. As I have argued in the past, the government-sponsored enterprises, or GSEs, were permitted to operate for private profit but with an implicit guarantee from the government, and so they were able to take extraordinary risk at the taxpayers' expense. This was a classic case of moral hazard, and it must not be repeated,” he said.
He would not say which of the housing reform measures in the House or Senate he leans towards, but simply said that the system must change.
“There are many proposals for a new system of housing finance with varying levels of government support. There is no clear or easy answer to the degree of government involvement in the housing market; that is a decision we must make as a nation, carefully weighing the benefits of homeownership with the costs of the misallocation of scarce capital and the risks of unintended consequences,” Plosser said.
“The U.S. subsidizes homeownership, more than any other developed country. We do so by providing an interest deduction for home mortgages and by underwriting housing debt through an explicit taxpayer support for the GSEs, which is reflected in mortgage rates. There are debates about the quantitative effects of these subsidies. But we should not be afraid to ask hard questions. Most financial advisors would tell you to diversify your asset holdings, yet our housing policies incentivize families to do just the opposite: put your savings in your home. The policies encourage homeownership over other asset classes. The results for many families were devastating,” he said.
He said that housing needs a more clear regulatory and disclosure framework, and a return to basic free market principles that get obscured by government subsidies and backstops.
“If as a nation we choose to continue the subsidies to homeownership, the government involvement and subsidies must be explicit, transparent, and well understood. Burying those subsidies in complex financial arrangements or in new semigovernment enterprises will be counterproductive,” Plosser said. “Markets work best when the risks and rewards of decisions are clearly defined so that prices can accurately reflect each transaction and the appropriate risk monitoring takes place.”
The full text of his speech can be read here.
