Tuesday, July 17, 2018

Housing: Part 311 - The Premise Determines the Conclusion

Bill McBride has a post up today at Calculated Risk remembering testimony from Alan Greenspan in 2005.  This strikes me as a good example of the premise determining the conclusion.  The Fed held a meeting in the summer of 2005 where they looked in depth at housing.  Greenspan's comments here, that there could be some contraction in some local housing markets, but that it would be manageable, reflect the conclusions of that meeting.  And, those conclusions were basically correct.

Here's part of the excerpt at Calculated Risk:
The U.S. economy has weathered such episodes before without experiencing significant declines in the national average level of home prices. Nevertheless, we certainly cannot rule out declines in home prices, especially in some local markets. If declines were to occur, they likely would be accompanied by some economic stress, though the macroeconomic implications need not be substantial. Nationwide banking and widespread securitization of mortgages make financial intermediation less likely to be impaired than it was in some previous episodes of regional house-price correction. Moreover, a decline in the national housing price level would need to be substantial to trigger a significant rise in foreclosures, because the vast majority of homeowners have built up substantial equity in their homes despite large mortgage-market-financed withdrawals of home equity in recent years.

Whether you see his comments in 2005 as obtuse and foreboding or as reasonable completely depends on your premise.  If the crisis was inevitable, these comments are foreboding.  If the crisis was avoidable, then it is 2005 Greenspan that was reasonable, and it was the FOMC members in late 2007 who saw their jobs as being disciplinarians enforcing catastrophic losses who are chilling.  It was federal regulators who cut off lending to millions of households after 2008 who are chilling.  The premise does all the work here.  And, unfortunately, we had and have the political means to impose the premise of inevitable collapse on ourselves.

Because the premise itself holds so much power in the stories we tell ourselves about the crisis, nearly everyone has developed a strong sense of certainty about their conclusions. But that certainty is a mirage.  And, that certainty led us to impose the policies that created the conclusions that only reinforced the premise and the conclusion.  Rinse and repeat.

Everything in Greenspan's comment above was true.  The national housing price level did need to decline substantially to trigger a significant rise in foreclosures.  The foreclosures that impaired the value of AAA rated securities at the center of those markets happened after 2008.  Believing that those foreclosures were inevitable, even as the public and policymakers explicitly recognized our ability to avoid them and chose not to, allows one to turn the truth Greenspan spoke into an untruth.


  1. Agreed.

    There was something else going on too. Every FOMC meeting 2003-9 had hundreds and hundreds of references to the word "inflation." There was an entire branch of macroeconomics profession devoted to daily sermons on the perils of inflation. Inflation became a peevish fixation for much of the profession-- and indeed, even today, there are those who contend that a central bank's only obligation is to keep the price level absolutely flat (as measured no less).

    That was a toxic brew in 2007.

  2. It's always possible that house prices may drop but with full employment keeping hopes high we're seeing prices continue to rise.