The Wall Street Journal-20080126-Green Thumb- What Slump May Mean for Consumers- Fixed Mortgages- Card Rates to Sink- Inflation a Threat
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Green Thumb: What Slump May Mean for Consumers; Fixed Mortgages, Card Rates to Sink; Inflation a Threat
If an economic slump is in the cards, and recent gyrations suggest it is, it's guaranteed to hit people where it hurts: in the wallet. The issues can get tangled and complex, with scary words such as "recession" and "stagflation" being bandied about, not to mention the possibility of resurgent inflation.
For the average family, the economic slowdown means falling home prices, rising unemployment and shrinking income on savings accounts. On the plus side, it means more-affordable mortgages and lower credit- card rates.
In a survey by The Wall Street Journal, a group of more than 50 economists put the odds of recession at 42%, up from 23% in June. Clearly, Washington is worried. After the Federal Reserve abruptly cut the federal-funds target rate by 0.75 percentage point this past week, congressional leaders and the White House agreed on an economic- stimulus package that will distribute rebates of as much as $600 a person.
Some economists warn that, because it will be months before consumers actually see the checks from the government, the rebates may come too late to prevent a recession. Others warn that the rebates may not have a big impact on consumer spending. They cite evidence that consumers who have received such rebates have tended to use much of the money to pay off debt or build savings.
Here's what to expect in some key areas if the slowdown worsens:
-- Housing. In previous recessions, the housing market has been both part of the problem and part of the solution. Falling sales, shrinking home prices and declining construction help tip the economy over. The resulting lower interest rates help rekindle growth.
That isn't likely to happen this time.
First, the current glut of homes will delay new-home construction. Second, housing prices, though they have fallen in many places, could still fall further because the dour mood engendered by a recession will keep a lid on the home-buying market. Finally, many would-be borrowers will be locked out of the mortgage market.
While prime borrowers -- those with high credit scores and lots of equity in their home -- will have little problem landing a mortgage at the best rate, others will find it much more difficult.
The housing market "will not lead the recovery this time," says Doug Duncan, chief economist at the Mortgage Bankers Association.
The good news: 30-year fixed-rate mortgages, currently under 5.5%, are likely headed lower. The bond market is pricing in a 2% to 2.25% fed-funds rate, which translates into mortgage rates near 5%, says Mark Zandi, chief economist at Moody's Economy.com.
Additionally, the fiscal-stimulus package would temporarily allow Freddie Mac and Fannie Mae to buy mortgages of as much as $729,750. Currently, the cutoff for these so-called jumbo mortgages is $417,000. That will likely spur more homeowners to pursue refinancings or new- home purchases.
Inflation is a potential kink. If investors perceive that the fiscal-stimulus package and the reduced interest rates are reigniting the economy, rates on 10-year Treasurys, which drive mortgage rates, will rise.
-- Consumer Credit. Rates on credit cards, home-equity lines of credit and car loans are getting cheaper. But interest rates on savings accounts are falling, too. These generally follow the prime rate, which, in turn, tracks the fed-funds rate. Already, a one-year certificate of deposit yields less than 3.8%, according to Bankrate.com, and will go lower as the Fed cuts rates more.
If you're currently depending on your savings to provide income, you might want to lock in today's rates -- but not for longer than a year. If inflation kicks in and the Fed decides to raise rates, CD rates will also likely rise, as will Treasury-bond yields.
-- The Job Market. Recessions often hit Main Street in the form of job losses. Michael Eisenberg, a certified public accountant in West Los Angeles, says padding your savings now can cushion the blow of a job loss. The money should be kept in safe short-term investments, such as a money-market account or CD.
-- Higher Prices. Many observers are worried that inflation, though currently in check, could kick in again. By cutting the fed-funds rate so severely, the Fed is effectively pumping money into the economy, and that could result in higher prices for manyr goods -- and erode the value of savings.
A recession won't help the weak dollar, which is already causing prices of imported goods to rise quickly. The weakening dollar also causes oil-producing countries to raise oil prices. With high commodity prices and future reacceleration of growth, "it won't take much to reignite inflation pressures," says Diane Swonk, chief economist at Mesirow Financial.
Economists say one thing consumers shouldn't fear is "stagflation," a combination of slow economic growth, high unemployment and rising prices.
The worst-case scenario, says Anthony Chan, chief economist for J.P. Morgan Private Client Services, is "stagflation light," where inflation rises a bit above the Fed's comfort zone and unemployment rises.
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Navigating A Downturn
What consumers can expect in the coming months:
-- A recession, which appears increasingly likely, and could
boost unemployment.
-- Mortgage and credit-card rates may be headed lower.
-- Inflation remains a concern; consumers may not get much
relief from high gasoline prices.
