For economic forecasters divided over the strength of the economy in 2007, the elephant in the room remains the house, or more precisely, housing.
While very few forecasters predict growth of more than 3 percent for next year, and most agree that the cooling of the housing boom may hurt consumers, one major question remains: Is the worst over?
Housing played an outsized role in the most recent recovery. Beyond the surge in residential investment — which accounts for 5 percent to 6 percent of the economy — rising home prices and billions of dollars in home-equity extraction fueled household spending at a time of stagnant wages and low private saving.
Few dispute that a slumping housing market will have a depressive effect on consumer spending. What is less clear is whether we can now officially declare a soft landing, or whether we should expect more turbulence from the unraveling of the housing boom.
Some of the smartest economists in the U.S. now say the worst of the housing cycle is over. Indeed, two-thirds of economists in a recent Wall Street Journal survey answered affirmatively that “the worst of the housing bust is behind us.” Their case is that even after a 17 percent fall in new-home prices and a significant decline in home-equity withdrawal in the third quarter, consumer spending defied gravity and remained at 3.1 percent.
The problem is that none of the bulls seem to have a good answer to the facts being laid out by David Rosenberg, the chief economist for North America at Merrill Lynch & Co. Rosenberg’s contention is that when you take a close look at homes for sale, including those being completed and those under construction, the glut in supply seems likely to get worse, not better.
In a Nov. 27 comment, Rosenberg notes that in addition to the record 4.3 million residential units for sale as of October, there were 1.95 million home completions, the 12th-highest month since 1979. Units under construction were through the roof as well. Rather than seeing supply dwindle and prices start to firm up in early 2007, Rosenberg says “it could be a year before the reduction in starts begins to put a meaningful dent into the inventory backlog.”
John Mauldin, an investment adviser and frequent contributor to Investors Insight, a financial-data publisher, throws an extra log on the fire. According to Mauldin, even the current projection of housing sales may be overstated and thus the existing supply of homes greater than what is reported in the official data. The reason is that the Census Bureau, one of the Commerce Department’s statistical agencies, fails to account for cancellations in home sales contracts. Cancellations ran as high as 40 percent for some major homebuilding firms last quarter.
Nonetheless, as the new year approaches, the housing bears seem closer to getting it right than the Goldilocks crowd.