The Housing Chronicles Blog: Have the housing bust & credit crunch been overstated?

Monday, August 18, 2008

Have the housing bust & credit crunch been overstated?

We keep hearing that a major impact of the 'reverse wealth effect' of declining home prices is a pullback on consumer spending. However, according to Dick Green, President of, that conclusion just isn't supported by the facts. From his article (hat tip: Brian McDonald):

The defining characteristic of this business and financial cycle has been a massive correction in the housing industry. That has had direct implications for that economic sector and financial stocks. The implications for the rest of the economy and other stocks, however, have been exaggerated. first addressed the implications of the housing implosion in a Sept. 25, 2006 Big Picture article titled "Housing: Correction or Crisis?" In that, we noted Fed studies that suggested an annual 10% decline in home prices would reduce GDP each year by about 0.25% due to the wealth impact on consumer spending. That is hardly dramatic, and is about in-line with what has occurred.

It is hard to separate the negative impact on consumer spending of the wealth impact from lower home prices, but it is not hard to show that consumer spending has not declined even in the face of the massive housing correction...

There has not been a single quarter of a decline in consumer spending.

Spending growth has slowed the past year, as payrolls have stagnated, and as higher gas prices have sapped consumer spending power, but the nonstop talk that a recession will develop because of a pullback in consumer spending has simply been WRONG...

Another feared implication of the housing crash has been that a credit crunch will result from the earnings and balance sheet problems at financial firms.

Here the problem is partly compounded by imprecise language.

There is a credit crisis on Wall Street. There is a lack of liquidity in the secondary market for mortgage-backed assets and many related securities.

That is not the same, however as a credit crunch.

A credit crunch is defined as a contraction in availability of credit as reflected in declining levels of loans. This has not happened.

The simple fact is that the level of outstanding commercial and industrial loans (C&I loans) was up steady last year and has risen every month this year....

There is no doubt that lending standards have tightened. The quarterly Fed report makes that clear. But, it is illogical to assume that just because a majority of banks respond to a questionnaire by stating that they have tightened standards, that a credit crunch has developed.

Banks are tightening standards from what had been extremely loose standards. And, they may be tightening standards for mortgage loans but not as much for C&I loans. Regardless of the surveys, the hard data show lending is continuing.

(It is sometimes noted that commercial paper, another form of credit for companies, has declined over the past year. That is true, but the decline has been in financial company commercial paper. This is not at all surprising. Nonfinancial commercial paper has not declined and remains a means of obtaining capital for companies outside the financial sector.)

The bottom line is that it is WRONG to say that there is a credit crunch. Nonfinancial companies have access to the credit they need to grow and manage their businesses.

The housing crash has created an understandably negative tone which has adversely affected consumer and investment sentiment.

On top of this, the spike in energy prices and the (mathematically modest) declines in payrolls have created an environment conducive to shrill journalistic claims of recession or worse.

Yet, the fact remains that housing is the only major sector of the economy that has contracted. Consumer spending, business investment, exports, and government spending have each increased EVERY SINGLE QUARTER in the GDP data over the past year.

The overall economic situation is of a major contraction in the housing sector that has not had significant ripple effects for other sectors of the economy, and shows no sign of doing so in the future.

This disconnect from the reality of the limited implications of the housing crash and the fears associated with it creates investment opportunities. Longer-term, nonfinancial companies now present many good reward/risk scenarios. Stocks such as 3M, GE, IBM, and others reflect good values with good dividend yields.

This is not to say that the market is a screaming "buy," but it is still our opinion that it would be wrong to panic on the fears that have been so prevalent through 2008, and that good, nonfinancial companies will deliver long-term value.

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