Relevant and even prescient commentary on news, politics and the economy.

American Street Update

There’s one more to-be-revealed contributor, but the list is otherwise complete:

Angry Bear

Bill Scher

Chuck Currie

Dave Johnson

David Neiwert


Dirk Steele

General J.C. Christian

Jeff Alworth

Jeralyn Merritt


Kevin Hayden

Luis Toro

Mary Ratcliff

Mark A.R. Kleiman



Tom Burka

The most recent additions are Ross, Tom Burka, and General J.C. Christian. Ross adds some great expertise on health care issues, while Tom Burka and The General ably mix healthy doses of insight with even healthier doses of humor. Overall, I think Kevin Hayden did a great job of assembling a group with complementary skills. Nice job, Kevin.


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Full-Scale War in the Senate?

With this news, President Bush may have fired the launched a meaner, dirtier, nastier Senate than any of us has ever seen in our lifetimes.


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Why Are Long-Term Interest Rates Still So Low?

In a thought-provoking post, Brad DeLong ruminates on the fact that bond prices yields are far below where most economists think they should be.

My two favorite explanations:

1. Vast quantities of foreign demand for US bonds is keeping bond prices high. As the Treasury report mentioned in the post below indicates, foreigners (especially central banks) are plunking down $20 to $30bn every month to buy US government bonds. I think that should be plenty to keep prices significantly higher than they would be otherwise. In addition, some of those buyers (again, especially central banks) have other priorities (such as exchange rate goals) that supercede their beliefs about the future of US inflation and interest rates.

2. Short-term rates affect long-term rates. The fact that the Fed is keeping short-term rates so low for so long does seem to cause long-term rates to fall. Yes, the Fed is supposed to only be able to affect short-term rates, but as one of my friends at the Board of Governors says, “I don’t know how or why, but we DO have control over long-term rates.”


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Foreigners Still Buying US Assets

Today the US Treasury released the latest statistics on international capital flows into the US, covering the month of November 2003. It shows a few interesting and surprising things.

1. Foreign private firms and individuals increased their purchases of US stocks and bonds in November. In fact, through Nov 2003 private net purchases of stocks and bonds totaled $575bn, up from $511bn in 2002. This surprises me, since I expected that the falling dollar was in response to weak private foreign demand for US assets. However, foreigners were still gobbling up US stocks and bonds in November. This suggests that the fall in the dollar may be due more to speculative activity in short-term investments rather than due to a major shift in long-term investor sentiment.

2. Foreign central banks continued accumulating US government bonds, buying a net of about $19bn during November. However, nearly all of this is accounted for by Japan alone. Japan’s central bank now owns over $525bn worth of US government bonds, up from about $385bn at the beginning of the year. (See chart below.) This is a stunningly massive quantity of US government bonds under the control of one institution. Good thing they’re on our side.

3. China’s central bank has not been accumulating large amounts of long-term US government bonds – contrary to what I expected, given their massive increase in foreign reserves. Together, China and Hong Kong have only added about $30bn in US government bonds to their portfolio this year. (Again, see chart below.) This creates a bit of a puzzle: where is China putting all of their dollars, if not in US government bonds? Is it all in short-term assets such as cash and T-bills?

It’s an interesting report. I need to take a closer look at it and think about it some more, but my preliminary conclusions are to be less worried about a significant drop-off in the willingness of private foreigners to lend in the US right now, to be more perplexed about China’s reserves, and to be more sanguine about the possibility of a huge sell-off in US government bonds this year, since I think Japan is much less likely to do that than China would be.


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Pension Problems

Not good:

WASHINGTON, Jan 15 (Reuters) – The federal agency that provides a safety net for U.S. corporate pension funds said on Thursday that its deficit had more than tripled last year, to a record $11.2 billion.

The U.S. Pension Benefit Guaranty Corp., which insures the pensions of about 44 million Americans, had started fiscal 2003 with a $3.6 billion deficit. Executive Director Steven Kandarian said the growing red ink threatened the agency’s ability to protect pensions in the future.

This is a problem that’s going to get a lot worse before it gets better. Expect US taxpayers to pony up several tens of billions of dollars to fund these pensions over the next decade.


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Kash’s Call #4: Housing Market Prices

My prediction is that housing prices will peak in 2004 in many (perhaps most) of the major regional markets in the US. By late 2004 or 2005 house prices will actually begin to fall in many of those markets.

Why? First, because housing prices are historically high. The chart in the post below that shows house prices in several states describes what I mean. I’m a great believer in reversion to long-run trends in general, and housing is one market in particular where prices have almost always reverted to long-run trends. As the IMF report also cited in the post below concludes, “housing booms are more likely than stock booms to end in a bust.”

Second, because the discrepancy between rents and house prices is huge. Right now, rental markets are soft in many places. Rents are stable or falling, and renting is cheaper than buying a similar place almost everywhere in the US. Historically, such a condition does not persist – people arbitrage between renting and buying (albeit slowly), and in the long run the two types of housing prices tend to converge.

Third, because interest rates will rise later this year. Various forces make this likely, including decreased lending by foreign investors and an increase in inflation in the US from its historically low levels. Recently, low interest rates have enabled people to put off repaying more of their house until later, so some people have been willing to pay a higher price for a given house than they would have otherwise (see the post below for further explanation). Well, the reverse is also true – when interest rates and inflation rise, people will react by being willing to pay less for their house.

Put these factors together and I am forced to conclude that we’re near the peak of house prices in several markets – and that once we’re past the peak, they will go down.


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Dispelling Myths About The Real Estate Market

To lay the groundwork for my next prediction, let me first summarize and dispel a few commonly-held misperceptions about home ownership.

Myth #1: Real estate prices never fall.

In fact, housing price busts are extremely common. For some examples, take a look at the graph below, which shows real housing prices in several different states in the US since 1975. (Note: data is from the Office of Federal Housing Enterprise Oversight.) It’s evident that house prices can fall as well as rise, despite the overall upward trend.

To provide a broader picture of house price busts, the IMF published a couple of papers about asset price bubbles and crashes last April (available here). They studied 52 stock market busts and 20 housing market busts that have happened in the last 30 years. Among the numerous interesting points they made were:

  • Whereas only about 25% of stock market booms are followed by busts, about 40% of housing booms are followed by busts.
  • On average, when there is a bust in the housing market, real prices fall by an average of about 30%.
  • The bigger the price boom in the period leading up to the peak, the bigger the fall in prices after the peak.

Myth #2: Owning is always preferable to renting, because at least you build up some equity with your monthly payments.

While it is true that you build up equity when you own a home, there are other factors to consider.

  • During the first 5 years of the typical mortgage with 10% down, about 85% of your mortgage payments go straight to the bank’s pockets as interest payments.
  • If the price of your house falls by just 5% during those first five years, your equity in the house will be lower than your initial down payment, so you will have lost money despite the fact that you were supposedly building up equity.
  • If your monthly payments to buy a house are 15% more than your monthly payments to rent something similar, you could rent at the lower monthly rate, save the difference in a money market account, and still come out ahead (in the absence of capital appreciation) by renting versus buying.

Myth #3: It’s okay to pay a high price for a house right now because interest rates are very low, reducing the monthly payments.

Actually, interest rates are not particularly low right now in real terms. The following graph shows the average interest rate on 30 year fixed mortgages, adjusted for inflation. Yes, nominal interest rates are very low right now, but that’s simply because inflation is very low. Real interest rates are about average for the past 15 years.

What does this mean? It means that while low nominal interest rates make monthly payments on a mortgage look cheap, it also means that the burden of your monthly payments won’t be eroded over time by inflation as much as it would if inflation were higher. Effectively, this means that you pay off less of your loan now, and more of it in the future. But the house is not any cheaper because of low nominal interest rates any more than a car is cheaper when you repay your car loan over 5 years instead of 3 years.

The fact that these commonly-held conceptions are wrong does not mean it’s never worth buying a house. In fact, it almost always still makes sense to buy a house if you’re going to be living there for several years. And even if it’s more expensive to own versus renting, there are non-monetary benefits to home-ownership that are not trivial. However, the points made above are important to understanding my next prediction…


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Offered Without Comment

From the Washington Post (Mike Allen Reporting):

In the winter, Bush and his heartiest alpha aides burn the towering pyramids of cedar.

That may sound like a chore, but Bush would certainly rather be there than here. The early-rising president can get crabby and punchy if he doesn’t hit the pillow by 10 or so at night. On Monday, Bush was not scheduled even to arrive at a dinner hosted by Mexican President Vicente Fox until 9:10 p.m. local time (10:10 Eastern).

Bush, who returned to the White House on Tuesday night, sounded tired and bored at the few public appearances during his 28-hour visit. His remarks had unusually long pauses. Cutaway television shots captured Bush glowering into space as other heads of state talked about “economic growth with equity to reduce poverty,” “investing in people” and “democratic governance.”


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How Much Oxygen is There in Mars’ Atmosphere?

Here’s what I think would be a really bold experiment that NASA could use to determine whether there’s enough oxygen on Mars.

  1. Build another Mars Rover. Call it Spirit II (cost: about $500 million, assuming the second one will be cheaper than the first one):

  2. Fill it up with cash, large bills.
  3. Send to Mars.
  4. Conduct experiment: see if cash will burn on the surface of Mars.



    If the money does not burn, then fire powerful missile at the cash.

  5. Repeat steps (1) through (4) as needed until need to waste money and unquenchable thirst for deficits are satiated.


BTW, those are plus signs, though they could double as crosses, in which case they would represent the faith-based component of the Mars mission.

UPDATE: Dwight Meredith astutely observes that this proposal “bears an uncanny resemblance to the ethanol program here at home.”

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American Street Update

As Ezra K. at Pandagon quipped, the number of bloggers at TAS is “growing by the minute too … Like liberal bacteria.” Our latest paramecium contributor is Digby, of Hullabaloo, writing about Bush’s credibility gap.


UPDATE: Digby’s post brings to mind this exchange from Brit Hume’s interview of George Bush:

HUME: How do you get your news?

BUSH: I get briefed by Andy Card and Condi in the morning. They come in and tell me. In all due respect, you’ve got a beautiful face and everything.

I glance at the headlines just to kind of a flavor for what’s moving. I rarely read the stories, and get briefed by people who are probably read the news themselves. But like Condoleezza, in her case, the national security adviser is getting her news directly from the participants on the world stage.

HUME: Has that been your practice since day one, or is that a practice that you’ve…

BUSH: Practice since day one.

HUME: Really?

BUSH: Yes. You know, look, I have great respect for the media. I mean, our society is a good, solid democracy because of a good, solid media. But I also understand that a lot of times there’s opinions mixed in with news. And I…

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