A slight improvement in the economy in the past month has touched off a raging debate among titans of the economic world over whether the worst of the housing and mortgage crisis is over.
Treasury Secretary Henry M. Paulson Jr. started the debate by declaring last week that a month of relative calm in financial markets suggested that the credit crisis has reached its peak and that Americans can look forward to an improving economy for the rest of the year. Other administration officials and many Republicans in Congress echo his assessment, as do many on Wall Street.
“We’re closer to the end of this than the beginning,” Mr. Paulson said as he watched U.S. printing presses churn out tax rebate checks that he expects to improve the health of the economy by the end of the year, after a few “bumps on the road.”
Optimists cite reports suggesting that the economy has skirted the precipice of a recession, including a small 0.6 percent increase in economic output during the first quarter, a bounce in sales at department stores and other retailers, and a smaller-than-expected loss of 20,000 jobs last month.
In a surprising dissent, Martin Feldstein, a conservative economics professor at Harvard University who usually aligns himself with the Republican Party, said the “sanguine view” taking hold in Washington and on Wall Street is “very misleading.” On the Financial Times Web site last week, Mr. Feldstein said the economy is in danger of imploding into a deep recession without further steps by Congress and the administration to ease the housing crisis.
Mr. Feldstein’s views have particular force because he heads the National Bureau of Economic Research committee that is charged with the official determination of whether the U.S. economy is in a recession.
In his rebuttal of administration views, he makes the case of a recession: Private employment has dropped by 300,000 jobs in the past five months, while industrial production, retail sales and personal incomes, adjusted for inflation and taxes, have fallen since January, fulfilling three of the committee’s four prerequisites for declaring a recession.
Two further signs of a recession, he said, are reports that new housing construction projects have plummeted 13 percent just since January and private estimates that the broadest measure of economic output peaked in January.
“Although the tax rebates now under way may provide some temporary help,” Mr. Feldstein said, “… the most serious risk is that the rapid fall in house prices — down more than 12 percent in the past year and falling at a 25 percent rate in the past three months — will raise the number of negative-equity mortgages, leading to widespread defaults and foreclosures.”
To prevent a deeper recession, Mr. Feldstein said, the government should adopt a vigorous foreclosure-prevention program beyond the legislation pending in Congress and providing low-interest loans to anyone who needs to refinance their mortgage to avoid foreclosure.
Federal Reserve Chairman Ben S. Bernanke weighed in with a cautious assessment on Tuesday, noting “some improvement in financing markets” for mortgages in recent weeks but saying the gains were limited.
“These are welcome signs, of course, but at this stage, conditions in financial markets are still far from normal. A number of securitization markets remain moribund,” he told a banking conference in Sea Island, Ga.
Former Fed Chairman Alan Greenspan last week chimed in with his usual penchant for nuance and qualification.
“The worst of the credit crisis is over if we assume that current market prices for subprime and Alt-A securities have fully discounted the ultimate losses that will emerge as house prices and the value of home equities stabilize,” he said.
Mr. Greenspan ultimately landed on the side of economists anticipating more trouble. “House prices still have a long way to fall. It is possible, but unlikely, they will stabilize by year-end,” he said.
Paul A. Volcker, Mr. Greenspan’s predecessor, also has taken a darker view, warning that inflation has become a problem again after years of dormancy and suggesting that the housing and mortgage morass is the culmination of years of U.S. spending profligacy that created the nation’s enormous trade deficits and debt to the rest of the world.
It will take a long time to unwind those years of excesses, Mr. Volcker said.
James Dimon, the chief executive of JP Morgan Chase who in March played a key role in assisting the Fed’s rescue of Bear Stearns from bankruptcy, sought to moderate the debate on Monday by suggesting that both sides are right in their own way.
“Even if the capital markets crisis resolves, it does not mean that this country will not go into a bad recession,” he told a conference in New York. He contended that “the recession just started. … We don’t know if it’s going to be mild or severe.”
Please read our comment policy before commenting.