The return of inflation could ruin real estate

by MPA21 Apr 2015
Inflation by some measures may be back and if that’s the case all bets for increased real estate sales are off, according to Peter Miller of RealtyTrac.

“Underlying U.S. inflation appears to be firming despite slower economic growth,” wrote The Wall Street Journal, “a potentially reassuring sign for the Federal Reserve as it weighs when to start raising interest rates.”

Meanwhile, on the same day as the Journal report, the National Association of Realtors explained that “in March the ‘core inflation’ was 1.8%. This increase is still within the Fed’s comfort zone of keeping the inflation lid at 2%. So the Fed need not be in a hurry to raise interest rates — at least not yet.”

So which is it? Rising inflation that matters or rising inflation that has no material impact? Miller writes answer is important because if inflation increases are real then so is the possibility of higher interest rates from the Fed, steeper mortgage rates and fewer home sales.

The Fed has remained unclear on when it will increase interest rates as if the bank gives a definitive answer, regardless of the choice, huge numbers of people will get hurt. It also fears that increasing interest levels could slow the recovery or even bring it to a halt, according to Miller.

The fear stems from the Great Depression, an event that lasted an additional seven years because of government policies according to 2004 research done at UCLA.

“Why the Great Depression lasted so long has always been a great mystery, and because we never really knew the reason, we have always worried whether we would have another 10- to 15-year economic slump,” said Lee E. Ohanian, a co-author of the study and at the time of publication vice chair of UCLA’s Department of Economics. “We found that a relapse isn’t likely unless lawmakers gum up a recovery with ill-conceived stimulus policies.”

If rates do go higher, it’s unclear what will happen because the Fed’s command of the marketplace is less than absolute.

The mortgage marketplace is now flooded with capital, that’s one reason we have rates below 4%. If still more capital flows into the U.S. because of Fed policies then any rate increase might not last long as armies of new investors fight for returns.

If the Fed raises rates too early in the recovery there’s the possibility that such a policy could be a disaster. Consider that in 2014 we had low rates yet existing home sales actually fell. Imagine what would happen with higher rates.

The real problem faced by the Fed is that for all of its promises regarding a return to higher rates the economy remains fundamentally weak and steeper interest costs would make it weaker. Despite economic models and political claims to the contrary, much of the country continues to be deeply mired in recession.

Click here to read Peter Miller’s full article.


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