The Prospector spoke to Douglas Duncan, the senior vice president and chief economist at the US Federal National Mortgage Association, which is commonly known as Fannie Mae. It is an organisation founded in the 1930s in response to the Great Depression, but is now a private company which acts in the mortgage market to help lenders maximise their borrowing capacity by securitising mortgage debt and issuing residential mortgage-backed securities.
Duncan is responsible for managing Fannie Mae’s Economics & Strategic Research Group and the conversation covered a broad spread of subjects, the results of which will be published here in the coming days.
Jay Elwes: On the theory of secular stagnation that Larry Summers warns against—from the analysis you gave, and the notion that the US house price bubble was to so great an extent a driver of the US economy before 2007/8, your analysis would seem to chime with his: that the US economy—and also western economies—have had stagnant growth, and stagnant wage growth since the early 1980s, and the only thing that has masked that stagnant activity has been a succession of bubbles—especially the housing bubble. As you have set out very clearly, the effects of that housing bubble have been stripped away and are still currently being reversed and this is beginning to reveal the real, weak state of western economies. I wonder if you go along with this secular stagnation thesis.
Doug Duncan: I think it brings into relief the debate between the monetarists, or classical economic theories, and the Keynesian view. I think the one thing that hasn’t been part of our conversation up to this point is—what was the role of fiscal policy in this?
As for the UK, it seems to be getting some benefits from more of an austerity approach, in terms of the revival of their growth, than the US has from taking a more Keynesian approach. So I’m not a complete adherent to the stagnation argument. I would characterise it more as a credit constraint issue as households try to get their balance sheets back in order. We put out a little piece about a month ago—there were a number of stories in the US—based on Federal Reserve data that indicated that household wealth had been restored. So we took a look at that, because we didn’t see that response in consumers. And we looked at it, after we adjusted it for inflation, and it had not been restored. Then we adjusted it for the change in the number of households, and it was even less restored.
And then when you looked at the distribution of the kind of wealth that had rebounded, it was much more in stock market equity wealth than it was in housing. In the US, stock market holdings are much more highly concentrated in upper-income households, where it is clear that consumption has rebounded, but much less so in the broader population, where housing is a more important wealth factor. So our view is that households simply retrenched, trying to increase savings rates and rebuild wealth, and that was a significant factor in why consumption had not picked up.
And I think our forecast has been below the Fed’s forecast for the last four years. And right now our current forecast is at the lower bound of the Fed’s range, which is actually a little closer to the Fed than we have been in the last several years. This would indicate that while we do think we are getting there, we are not there yet.
JE: That’s interesting what you say about the UK economy and how you see some progress being made here. Could you say a bit more about that? What’s your take on the austerity policies of the UK?
DD: I’m not an expert on the subject, but if you set aside the housing market in the UK—there seem to be some international influences, particularly in London, that seem to be driving things—it looks to me as though your economic growth has made some progress, and relative to the US perhaps more progress. You have had a different balance of fiscal policies than we have had, although I think our monetary policies have not been terribly different.
JE: If we could talk about Janet Yellen and the beginning of her tenure at the Fed. She seems to be confronted with a problem over tapering. Bernanke tapered first—that was his final act. And then Yellen tapered at the first FOMC meeting that she chaired. But then the nonfarm numbers and manufacturing numbers that have come out since suggest that maybe she’s going to have to stop tapering. What is your reading of that?
DD: I think it is the Fed’s view—it is certainly our view—that the inventory build-up in the third quarter, which carried into the fourth quarter, was unsustainable going into the first quarter of this year. So our forecast for growth for the first quarter this year is at about, or a little lower, than two per cent. I think the Fed has the same view, and I think they expect growth to pick up beyond that, and that is certainly our expectation. I don’t think that is going to change their view of the process of slowing their securities sales. If they were to get a second significantly weaker quarter, I think they might alter that point of view.
Right now, given that many parts of the US have been hit with a lot of snow and ice and cold weather over the last couple of months, there is a lot of discussion about how much the weather is impacting some of the indicators. I don’t personally give the weather as much credit for the downturn as I give the necessities of getting inventories in balance.
As I said before, I think the Fed has realistic expectations about consumers. The retail sales data just came out and they were disappointing. And so the Fed will watch those things. While they talk a lot about forward guidance, if the data take a turn that they’re uncomfortable with, they will alter policy. But I think that the data to this point are within their range of expectation. So I think her testimony the other day about continuing the previous policies—I think that was an honest statement. But certainly they retain the right to adjust policies according to conditions.
JE: To be absolutely clear—do you think on balance she is likely to halt the taper, or on balance she is likely to continue with it?
DD: Oh, I think she’ll continue. I think they are set on a path. Our forecast has them ending the purchases to add to the Fed portfolio by the November/December 2014 time period.
Duncan is responsible for managing Fannie Mae’s Economics & Strategic Research Group and the conversation covered a broad spread of subjects, the results of which will be published here in the coming days.
Jay Elwes: On the theory of secular stagnation that Larry Summers warns against—from the analysis you gave, and the notion that the US house price bubble was to so great an extent a driver of the US economy before 2007/8, your analysis would seem to chime with his: that the US economy—and also western economies—have had stagnant growth, and stagnant wage growth since the early 1980s, and the only thing that has masked that stagnant activity has been a succession of bubbles—especially the housing bubble. As you have set out very clearly, the effects of that housing bubble have been stripped away and are still currently being reversed and this is beginning to reveal the real, weak state of western economies. I wonder if you go along with this secular stagnation thesis.
Doug Duncan: I think it brings into relief the debate between the monetarists, or classical economic theories, and the Keynesian view. I think the one thing that hasn’t been part of our conversation up to this point is—what was the role of fiscal policy in this?
As for the UK, it seems to be getting some benefits from more of an austerity approach, in terms of the revival of their growth, than the US has from taking a more Keynesian approach. So I’m not a complete adherent to the stagnation argument. I would characterise it more as a credit constraint issue as households try to get their balance sheets back in order. We put out a little piece about a month ago—there were a number of stories in the US—based on Federal Reserve data that indicated that household wealth had been restored. So we took a look at that, because we didn’t see that response in consumers. And we looked at it, after we adjusted it for inflation, and it had not been restored. Then we adjusted it for the change in the number of households, and it was even less restored.
And then when you looked at the distribution of the kind of wealth that had rebounded, it was much more in stock market equity wealth than it was in housing. In the US, stock market holdings are much more highly concentrated in upper-income households, where it is clear that consumption has rebounded, but much less so in the broader population, where housing is a more important wealth factor. So our view is that households simply retrenched, trying to increase savings rates and rebuild wealth, and that was a significant factor in why consumption had not picked up.
And I think our forecast has been below the Fed’s forecast for the last four years. And right now our current forecast is at the lower bound of the Fed’s range, which is actually a little closer to the Fed than we have been in the last several years. This would indicate that while we do think we are getting there, we are not there yet.
JE: That’s interesting what you say about the UK economy and how you see some progress being made here. Could you say a bit more about that? What’s your take on the austerity policies of the UK?
DD: I’m not an expert on the subject, but if you set aside the housing market in the UK—there seem to be some international influences, particularly in London, that seem to be driving things—it looks to me as though your economic growth has made some progress, and relative to the US perhaps more progress. You have had a different balance of fiscal policies than we have had, although I think our monetary policies have not been terribly different.
JE: If we could talk about Janet Yellen and the beginning of her tenure at the Fed. She seems to be confronted with a problem over tapering. Bernanke tapered first—that was his final act. And then Yellen tapered at the first FOMC meeting that she chaired. But then the nonfarm numbers and manufacturing numbers that have come out since suggest that maybe she’s going to have to stop tapering. What is your reading of that?
DD: I think it is the Fed’s view—it is certainly our view—that the inventory build-up in the third quarter, which carried into the fourth quarter, was unsustainable going into the first quarter of this year. So our forecast for growth for the first quarter this year is at about, or a little lower, than two per cent. I think the Fed has the same view, and I think they expect growth to pick up beyond that, and that is certainly our expectation. I don’t think that is going to change their view of the process of slowing their securities sales. If they were to get a second significantly weaker quarter, I think they might alter that point of view.
Right now, given that many parts of the US have been hit with a lot of snow and ice and cold weather over the last couple of months, there is a lot of discussion about how much the weather is impacting some of the indicators. I don’t personally give the weather as much credit for the downturn as I give the necessities of getting inventories in balance.
As I said before, I think the Fed has realistic expectations about consumers. The retail sales data just came out and they were disappointing. And so the Fed will watch those things. While they talk a lot about forward guidance, if the data take a turn that they’re uncomfortable with, they will alter policy. But I think that the data to this point are within their range of expectation. So I think her testimony the other day about continuing the previous policies—I think that was an honest statement. But certainly they retain the right to adjust policies according to conditions.
JE: To be absolutely clear—do you think on balance she is likely to halt the taper, or on balance she is likely to continue with it?
DD: Oh, I think she’ll continue. I think they are set on a path. Our forecast has them ending the purchases to add to the Fed portfolio by the November/December 2014 time period.
