Fed’s High Wire Inflation Fighting Effort Risks Triggering a Recessionary Fall

Imagine a high-wire act performed without a net.  That describes the Federal Reserve’s effort to curb inflation without crashing the economy.  Success will bring applause and relief; failure, a brief downturn, at best, with a prolonged recession the worst case outcome. 

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The job market surged in June. Can much stronger economic growth and the long awaited “flex point” in the housing market be far behind?

Those were the key questions triggered by a welcome and largely unexpected Department of Labor report showing that employers added 288,000 jobs in June, blowing well past the most optimistic forecasts and pushing the unemployment rate down to 6.1 percent – its lowest level in nearly six years.

Adding to the good employment news, the number of long-term unemployed workers – out of work for 27 weeks or longer ― fell to 31 million, a big number, but the smallest since 2009 and an indication that employment opportunities are beginning to expand.

“The labor market is literally exploding,” Chris Rupkey, chief financial economist at Bank of Tokyo-Mitsubishi, told Bloomberg News. “It’s a full-on expansion,” he added.

Decidedly less exuberant and considerably more skeptical about the report, Robert Brusca, chief economist for FAO Economics, pointed out that most of the job gains were in the part-time category. Full-time positions, on the other hand “dropped by 700,000,” he told MarketWatch.

Exuberance Prevails

But exuberance prevailed as analysts assessed the employment report. The fifth consecutive month of 200,000 plus job gains – the first such streak since 1999 — persuaded most that the nearly 4 percent decline in first quarter GDP was a weather-related blip in a recovery that is finally gaining strong and sustainable momentum. The consensus view: The economy is now poised for what one economist termed “a break-out year.”

Can the same be said of the housing recovery? Before the labor report, the answer would have been overwhelmingly negative. After successive months of declining home sales, analysts have been slashing previously upbeat forecasts, most agreeing with a Wells Fargo report concluding that the market faces “a larger and bumpier” recovery road than previously forecast. The Mortgage Bankers Association lowered its estimate of home sales for this year to 5.28 million, 4.1 percent below the 2013 total. Freddie Mac, similarly, reduced its estimate by nearly 2 percent. Even the steadfastly upbeat National Association of Realtors agreed that sales this year will fall short – 4.93 million vs. 5.09 million last year.

Consistently Inconsistent

But if there has been a consistent theme in a year of inconsistent indicators, it has been their tendency to refute the conclusions drawn from them. Helped by a slight decline in mortgage rates, existing home sales in May increased by nearly 5 percent over the previous month. That left sales still more than 5 percent below the year-ago pace, but it was the largest monthly gain in nearly two years. Pending sales increased by more than 6 percent, reaching their highest level in 8 months and suggesting more sales gains to come this year.

Following the trajectory of the employment report, new home sales handily beat projections, reversing three consecutive monthly year-over year declines to record their fastest pace in more than two years. The annualized sales of 500,000 units were nearly 17 percent above the year-ago level.

Construction starts for May reached an annualized rate of 1 million units, falling a little below the April pace. Permits, an indicator of future activity, also declined by 6.4 percent. But all of the decline was in the volatile multi-family sector; single-family permits increased by 3.7 percent to their highest level since last November. Those numbers boosted builder confidence, as measured by a National Association of Home Builders index, by 4 points to 49 in June, just shy of the dividing line between positive and negative outlooks.

“A Tough Environment”

The inventory of new and existing homes combined increased slightly over the April level, putting them almost 12 percent above the year-ago mark, and addressing what analysts have identified as one of the impediments to stronger sales. Unfortunately, most of the inventory increase thus far has been in the middle and upper end of the market. The supply of entry-level homes has actually declined, creating “a tough environment” for first-time and lower-income buyers, Stan Humphries, chief economist for Zillow, noted in a recent report.

Recent home price trends suggest some potential relief in the affordability area, which has been the focus of increasing concern, with all of the major indicators showing prices still rising but at a slower rate. The 5.1 percent year-over year gain the NAR reported was the slowest rate since 2012; the Case-Shiller index recorded a 10.8 percent annual appreciation rate in April compared with 13.7 percent in November of last year; and CoreLogic’s year-over-year 8.8 percent May increase was more than 3 percent below the annual rate the company was recording just three months ago. The moderating price trend “should help cool things down a bit and keep the housing recovery going,” Armand Nallathambi, CoreLogic’s CEO, told DS News.

With home sales up for the month but still down for the year, prices still rising but appreciation rates slowing, inventory levels increasing, but not at the low end of the market, and negative equity conditions improving in many markets but still problematic in many others, Zillow’s Humphries says he can understand why many find current indicators confusing.

“The reality is that the market is moving from one defined by distortions including high negative equity and constricted inventory, to one defined by fundamentals like household formation rates, jobs and income growth,” he told BusinessInsider. “Unfortunately, some of these fundamentals are still fairly weak. This is a multi-year process that we are far from done with. This ride is not for the faint of heart,” he agreed, “but we are slowly getting back to normal.”