My column from last weekend, "The Fed's Quandary and the Deflation It Could Produce," elicited quite a few thoughtful responses, all of which disagreed with the proposition that monetary policy may be causing deflation rather than the intended inflation.
I was traveling and did not have the opportunity to participate in the discussion, but will consider the issue from a more conventional route in this column by reviewing the homebuilders again.
As I had mentioned in the previous column, consumption is supposed to lead wages, not the other way around, as is now beginning to be evidenced.
If we simply accept for the purposes of this column that right now, for whatever reason, wages are leading consumption, an increase in wages should cause an increase in confidence and an increase in consumption.
The traditional area that consumption increases are evidenced first is in housing, and that is traditionally preceded by an increase in household formations, which is also an indication of an increase in confidence.
I've written about these issues on numerous previous occasions, so I won't do so again here.
Although household formations cratered and actually went negative for the first time ever in 2013, they've since rebounded quite strongly. Although they've pulled back a bit in the last year they are still running above the long-term average and are being driven by the two generations behind the baby boomers, typically called Generations X and Y.
The increase in household formations has not, however, resulted in the expected increase in housing activity as it has in the past.
One of the reasons for that is that student loan debt taken out by these generations is greater than previous generations due to the rate of increase in the cost of a college education, and has resulted in monthly payments that are high enough that they don't have enough income left to qualify for a mortgage.
That issue has been partially addressed by the federal government's plan to lower student loan payments.
In conjunction with that, the Federal Housing Administration (FHA) has lowered mortgage insurance premiums, Bank of America (BAC) and Wells Fargo (WFC) have created new lower down payment mortgage programs, and mortgage rates have declined back to near all-time record lows in the past two years. (Wells Fargo is part of TheStreet's Action Alerts PLUS portfolio.)
On top of all of this, and coming back to the original issue, wage growth is accelerating, yet housing demand, especially by first-time buyers, is not.
I last addressed the homebuilders' stocks four months ago in the column, "Homebuilders Are Doing Better? Cool. Still Not Buying."
In that column, I reiterated the same thing I've maintained for the past 2½ years, that the builders should be avoided.
In that period of time, only one of the seven builders has posted a nominal increase in its stock price. Lennar (LEN) is up by about 10%.
The other six are all down substantially, with the builders focusing on entry-level homes being crushed the most; Hovnanian (HOV) and Beazer Homes (BZH) are down 73% and 67%, respectively.
The one catering to higher-end buyers, Toll Brothers (TOL), is down by 25%.
This is not the way the housing sector is supposed to respond to monetary stimulus and the other issues listed above.
It may be indicative of a structural change in the way younger consumers view housing, as I discussed in the column, "Changes in Housing Attitudes, Changes in Economic Latitudes."
It may also be an indication that consumers have become conditioned by low interest rates for so long that a paradox of thrift has set in with them, which I last discussed in the column, "Fed Strategy Is Having Unintended Effect."
The problem with the paradox-of-thrift argument is that it is supposed to be reversed by higher interest rates and inflation expectations, which act as a call to action by consumers, lest they be priced out of the market by inaction.
That didn't happen when the mortgage rates spiked in 2013, though. The exact opposite did. It also didn't happen this spring following the Fed's December rate hike.
Coming back to the beginning of this column and the column from last weekend, the fundamental issue is that monetary inflation is not causing real inflation and it is not causing consumers to respond as the Fed and economic theory dictate they should.
The Fed, however, appears to be unwilling to admit this and the logical course of events is that the trend toward deflation will continue, with the Fed continuing to respond to it with incremental stimulus measures, which appear to be validating the process.
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