Very interesting - how much, if at all, did housing prices factor into FED policy

FROM WSJ

The International Monetary Fund recommended in a housing study released today that central banks in countries with more developed mortgage markets such as the U.S. should take home prices into account when crafting monetary policy. However, monetary policy shouldn’t directly target housing prices, it said.

“Given the uncertainty surrounding both the shocks hitting the economy and the effects of interest rates on asset-price bubbles, house prices should be one of the many elements to be considered in assessing the balance of risks to the outlook, within a risk-management approach to monetary policy,” said authors Roberto Cardarelli, Deniz Igan and Alessandro Rebucci.

Ireland, the U.K., the Netherlands, and France appear the most vulnerable to a further correction in home prices, the IMF said, adding “it is difficult to account for the magnitude of the run-up in house prices on the basis of those countries’ fundamentals.”

The IMF’s housing study found that housing prices are more sensitive to monetary policy in countries with the most developed mortgage markets, such as the U.S., Denmark, Australia, Sweden and the Netherlands. Financing innovations have made access to credit easier in those countries, where secondary markets are a bigger source of funding. Out of the 17 developed countries in the study, France, Italy and Germany rank at the bottom, suggesting tougher access to credit and less sensitivity to monetary policy measures.

The study also found that the housing sector has a bigger economic impact in countries with more developed mortgage markets, since the use of homes as collateral “strengthens the feedback effect of rising house prices on consumption via increased household borrowing.”

On the role of central banks, the IMF said that In the U.S., where the subprime mortgage crisis has sapped strength from the economy and roiled global credit markets, “easy monetary policy at the beginning of the current decade seems to have contributed to the run up of housing prices and residential investment,” the authors said. Loose lending standards and “excessive risk-taking” by lenders also likely contributed to the bubble, they added.

The IMF made the projections in the analytical chapters of its semiannual World Economic Outlook; the chapters were released in advance of the report’s publication next Wednesday. – Tom Barkley

great piece on the bear sterns bailout (naked capitalism)

Bear Bailout: Is No One Too Small to Fail?

The news that Bear had to run to the Fed for help with its rapidly deteriorating cash position, and JP Morgan has been muscled into assisting in the rescue is a sign that Bear was deemed too big to fail. The Fed is lending against Bear's collateral (I haven't seen an estimate as to how large this operation is).

First Countrywide, now Bear. Why did the Fed not let Bear collapse? You can attribute it to the Fed's tendency to take responsibility for problems it can't and shouldn't fix, but this one is a trickier call than Countrywide.

Bear is a large prime broker, which means it lends to hedge funds. It is also a significant counterparty in enough different credit markets that its collapse would have at a minimum caused panic as to who might have been hurt. You'd have a further scramble for liquidity and reluctance to lend, which is precisely the condition the Fed has been trying to alleviate.

In particular, according to Bloomberg, Bear was the second largest underwriter of mortgage bonds, The lead manager (I'm assuming Bear was also a significant lead manager) is the only one who knows where the bonds went and is thus in the best position to trade them. So Bear's role as an important market-maker may have played into the calculus.

But the answer to the question of whether Bear should have been allowed to tank depends on how long it would take the crisis to pass. Swap spreads were elevated a full year after the LTCM rescue, but here the relevant metric would be how long the acute phase might take. If it was two weeks or a month, and no one save maybe some middling sized hedge funds (or a lot of teeny ones) would fail, that would have been acceptable. But the Fed couldn't assess this in a 24 hour period. (However, some parties believe that the Fed's $200 million TLSF was in part to assist Bear; if so, they've had at least a week to evaluate this risk. But in that case, I'm not certain they asked the right questions).

I still think Bear should have been permitted to fail. Now every the same size or larger knows the Fed will ride into the rescue. This is a terrible precedent. It also increases the odds of the Fed running out of firepower long before the crisis is over.

I also wonder what Bear employees were paid in bonuses last year (I assume the checks went out in late December or January) and whether cutting that number by 50% would have saved Bear's hide. (CEO Alan Schwartz's blaming the crisis on "market rumors is classic and should be heavily discounted, although one also has to wonder if Bear would have survived if the TSLF had been operational this week).

Analysts believe that JP Morgan may wind up owning parts or all of Bear. It isn't easy to hive off pieces of trading firms, which Bear is. As we have said before, Bear has such a sharp-elbowed, entrepreneurial culture that it's difficult imagining that anyone could manage it successfully, This bailout (which is almost certain to leave the banks owning Bear, given the dearth of other capable and interested parties) has high odds of being a value destroying exercise for JP Morgan.

For the curious, Bloomberg also describes how the Fed has the authority to rescue a non-bank:

The loan to Bear Stearns required a vote today by the Fed's Board of Governors because the company isn't a bank, Fed staff officials said. The central bank is taking on the credit risk from Bear Stearns collateral, lending the funds through JPMorgan Chase & Co. because it's operationally simpler to accomplish than a direct loan, the staff said on condition of anonymity.

Bernanke took advantage of little-used parts of Fed law, added in the 1930s and last utilized in the 1960s, that allows it to loan to corporations and private partnerships with a special Board vote. The Fed chief probably sought to stave off a deeper blow to the financial system from a Bear Stearns collapse, former Fed researcher Keith Hembre said.

``The Fed really doesn't have any obligation to help a non- bank aside from its role or responsibility to keep the financial markets functioning,'' said Hembre, who helps oversee $107 billion as chief economist at FAF Advisors Inc. in Minneapolis. ``They made a judgment, probably an accurate one, that they're not going to function very well if you've got a full-blown crisis with a major Wall Street firm.''

Dude to America: Shut Up, Already, You Big Baby

From the Financial Times.

Stop behaving as whiner of first resort

By Ricardo Hausmann

Published: January 30 2008 19:36 | Last updated: January 30 2008 19:36

The same voices that supported tough macroeconomic policies to deal with the excesses of spending and borrowing in east Asia, Russia and Latin America are today pushing for a significant relaxation in the US to deal with the so-called subprime crisis. Interest rates should be slashed quickly and $150bn put into taxpayers’ pockets by April at the latest, they say. The Fed cut by another half-point on Wednesday.

The goal seems to be to avoid a 2008 recession at all costs. As Larry Summers, former Treasury secretary, put it, failure to act would make Main Street pay for the sins of Wall Street.

It is easy to lose sight of the overall picture. Main Street consumers have overspent and over-borrowed and are unable to meet their obligations. The fact that households may have so behaved because they were enticed by “teaser loans” does not change the facts; it only assigns blame. Consumption has been above sustainable levels and needs to adjust down, whatever view one has about the responsibility of adults over their financial decisions.
...
The US should face its need for adjustment with courage and reason, not fear. It should stop behaving as the whiner of first resort, ready to waste all its dry powder on a short-sighted attempt to prevent a 2008 recession. Many poorer countries with weaker markets and institutions have survived and benefited from an adjustment that involves a year of negative growth. Faster bank recapitalisation, fiscal investment stimulus and international co-ordination should be first on the ­policy agenda.

The writer is the director of Harvard University’s Center for International Development

Fed - another 50 bps, it's a celebration bitches

WASHINGTON (AP) -- The Federal Reserve on Wednesday cut a key interest rate for the second time in just over a week, reducing the federal funds rate by a half point. It signaled that further rate cuts were possible.

The Fed action pushed the funds rate to 3 percent. It followed a three-fourths of a percentage point cut on Jan. 22, a day after financial markets around the world had plummeted on fears that the U.S. economy was heading into a recession. That decrease had been the biggest one-day move in more than two decades.

The half-point cut Wednesday followed news that the economy had slowed significantly in the final three months of last year with the gross domestic product expanding at a barely discernible pace of 0.6 percent, less than half what had been expected. The report came amid increased concern from several quarters about a possible recession.

.6% GDP in the 4th Qtr, I am going to have to say thats not so good

Fed please give us at least 50 bps today, if not more.

WASHINGTON (AP) -- The economy nearly stalled in the fourth quarter with a growth rate of just 0.6 percent, capping its worst year since 2002.

The Commerce Department's report on the gross domestic product, released Wednesday, showed an economy that had deteriorated considerably during the October-to-December quarter as worsening problems in the housing market and harder-to-get credit made individuals and businesses more cautious in their spending. Fears of a recession have grown, even as inflation remained elevated....