Will there be another recession?

Richard: [00:00:13] Welcome to the latest edition of MPATV. I'm Richard Torne, MPA's US news editor. And today we're going to be talking to a very special guest. He's none other than the senior vice president and chief economist at Fannie Mae, Doug Duncan. He has been named one of Bloomberg and Business Week's 50 most powerful people in real estate. And prior to joining Fannie Mae, he was senior vice president and chief economist at the Mortgage Bankers Association for more than 15 years. Hello and welcome, Doug.

Doug: [00:00:43] Good morning. Glad to be with you.

Richard: [00:00:45] It's great to have you on the show. Now I've interviewed you a couple of times before, but at the time I was focused solely on talking to you about the economy and the housing sector. So it didn't seem appropriate to look beyond that. But today I wanted to ask you what attracted you to the world of finance in the first place and why did you decide to become an economist?

Doug: [00:01:04] Wow. Well, I grew up on a dairy farm and spending my life under the business end of a Holstein wasn't very appealing, but I was interested in how my parents financed things on the farm. So I like to accompany my father to the bank and understand how things were put together, how you valued things. So I was always kind of interested in the finance side of things when I was in the military. I was on a aircraft carrier and I would for some reason I started reading Newsweek magazine and started reading every other week. Milton Friedman and Paul Samuelson, both of it. We were eventually Nobel Prize winners would write an article and they would have sometimes diametrically opposed views. And I thought, Well, that's pretty interesting. Two of the pillars of the of the discipline could have significantly different points of view. I might like to get involved in that argument. And that's honestly the reason that I became an economist. I just thought it was a really interesting argument and that continues to today.

Richard: [00:02:14] I mean, usually economists, they have an economist or some or someone they've admired in the field. Did you follow I mean, you mentioned Milton Friedman or was he somebody that you respected?

Doug: [00:02:26] Oh, definitely I. As I started my doctorate, I read what were the key publications of the major different theories. So Juan Mises and Human Action Monetary History of the United States by Milton Friedman, Lord Keynes's seminal texts. I kind of read all of them thinking If I was going to get a doctorate in philosophy, I ought to understand some of the philosophies and the differences in those philosophies. So I would say while I was going through college, the field of rational expectations and with Tom Sargent and the Milton Friedman's monetary theory were kind of the dominant theories under development at that time. And so it certainly hasn't had an impact on me. But I would say personally, I'm a little more eclectic than either of those specifically. My feeling is since there are four or five different theories, if there was any one that was proven to be correct at all times and in all places, there wouldn't be four or five. So each of them have something to say, and I try to draw on what's relevant for the present time.

Richard: [00:03:43] Good point. What would you say is the most satisfying aspect of your job because you have to predict trends, etc.?

Doug: [00:03:51] Well, one of the responsibilities that I have is to lead some staff on what we call thought leadership that is looking ahead to try to anticipate what might be developing issues that others might not see as an example in the housing space. We pointed out all the way back in about 2014 that the coming issue in the U.S. housing market was going to be the lack of supply, given the demographic push that we had and the destruction of the supply chain that took place in the two thousand seven to nine time period. And we definitely got that right. It's still a subject of discussion today. So those are the things that we enjoy are really trying to do, bring together a bunch of different kinds of minds and do some thought leadership work.

Richard: [00:04:50] Now in your biography, I note that not only are you responsible for forecasting and analyzing both the US economy and the housing mortgage markets, but you also, and I quote, oversee research regarding the potential impact of external factors on the housing industry. Now, today, more than ever, that is particularly relevant. I'm sure you have been closely watching the. Terrible events that are happening in Ukraine and without ignoring the scale of a human suffering there, I have to ask you as an economist, how do you think sanctions on Russia are going to impact on the housing sector and on people's day to day lives?

Doug: [00:05:26] Well, for certain, we've we've seen the impact already in today's release of the inflation numbers and the jump in the energy costs leading into the US inflation numbers. So that's that's going to have an impact on how our central bank thinks about changing its policy positions to combat inflation. It will have to make some judgments on what they think. The path of the development of the war is from a consumer perspective. Obviously, that bleeds into their disposable income. If you if you raise the cost of gasoline, which is now here in Cape Coral, Florida, I think four twenty five dollars a gallon, which is a dollar more than it was even a month ago, roughly that comes that changes the consumption patterns of people from a housing perspective. There's actually, in the short run, been a flight to the U.S. Treasury market, which when prices go up, yields go down. So rates have actually backed up a little bit. Some people who are well positioned and ready to make a move in the mortgage market will find a temporary down downdraft on those rates and take advantage of that. But a lot of the households will be impacted by the upside impact of inflation on their disposable and.

Richard: [00:06:55] So some some are now beginning to think that with such a big hit on living standards, buying a house this year could be relegated to the bottom of the list for many families. Is that a view you share?

Doug: [00:07:05] Well, there's no question that the the general rise in rates that we've seen over this year, even though there's been a little bit of a dip, right? Most recently, rates are clearly above where they were a year ago, roughly a percentage point above that. So rising rates in the U.S. housing market means higher mortgage payments. And we tend to do fixed rate loans, which is you borrow money and have 30 years to pay it back and the interest rate is fixed at the rate that you signed up for when you took the mortgage. So rising rates will take more of the household budget. It's also the case that house prices have been rising. They won't rise as fast this year as they have in the past two years. But again, they are rising so that with the rising rates will constrain particularly first-time homebuyers who typically have challenges coming up with down payments to begin with.

Richard: [00:08:03] Right. I would imagine that when you speak about the housing sector, mortgage professionals tend to sit up and take notice. But in an industry which at times can be extremely volatile, especially with fluctuating rates, have you come up against other economies? You don't. Economists who don't quite share your vision or your market predictions? Or is there an unspoken bonhomie amongst you guys?

Doug: [00:08:27] Well, it reminds me of a joke of a lawyer that was brought to shore by the foundered in the water and was brought to shore by a shark. And people asked him about it, and he said, Well, it was professional. Courtesy. There are different points of view among economists, and you can see that when people are talking about what their outlook is relative to the Fed, so it's always related to the to the central bank. So for example, in our forecast, you will see that we have the expectation in our forecast that inflation will run above the Fed's, both the Fed's forecast and above their target out into twenty twenty four. So that's that's an example of where we would differ from them. And you know, as as is made evident by the fact that there are at any point in time, a range of forecasts, there are a range of opinions on which factors are going to matter more at any point in time.

Richard: [00:09:37] And the first time I interviewed you, this was back in June last year you predicted that it was going to be a great year for the housing market and indeed it was in many ways. You spoke about glitches, most of which are still relevant. You know, we have the ongoing supply problems in the construction industry and demand is still outstripping supply. And as you've mentioned, borrowers are facing higher interest rates and inflation. On the plus side, we are entering spring now, which is traditionally seen as the start of the home buying season. And let's imagine for all manner of reasons and hope that the war in Ukraine is resolved quickly. What can we expect to see then, if if it is?

Doug: [00:10:22] Well, certainly the Fed will not be done with its job on bringing inflation back under control for some months and their their messaging that they want to maintain lots of flexibility, but clearly they're going to start raising rates. The question is, can they stem inflation without also creating a recession? And that's a difficult dance to do, and it is even more complicated, as you know, with what's going on in Ukraine. So the people tend to look at the relationship between shorter term rates and longer term rates. We tend to look at the two year Treasury rate compared to the 10 year Treasury rate. And if that inverts, in other words, if the shorter term rate goes above the longer term rate, it's usually a signal that somewhere in the succeeding months, there will be an economic downturn. Let's suppose that the Fed is successful in raising rates, slowing the pace of inflation. That means mortgage rates will be higher. Right now, there are about three and three quarters of chances are pretty good. They would get up, pushing around five percent. That's going to be a constraint, certainly on refinances we already expect just with the rate that we've seen a decline of over 50 percent, probably 60 percent in the level of refinancing in twenty twenty two compared to twenty twenty one. But it will also slow the level of sales. Again, that rising rate, along with the slowing but still rising house prices, becomes more of a constraint to higher interest rates.

Doug: [00:12:13] The more people fall off the edge of affordability. And so we see a downturn in total home sales of somewhere, probably in the five percent range in this year. One question that's still out there that I don't think will be answered for a couple of years is in the response to the pandemic, where people moved from densely populated areas to less densely populated areas and could do that because they were allowed to work from home. What will businesses do when they judge? Is productivity the same with people working from home or not? And when they start to if they start to pull people back to the office, then you get back into commuting costs and how far away you will live and some of those things. So we're we're not sure exactly where that will fall out, and we think it will be a couple of years before we will know. But certainly part of what would be demand in this year was pulled forward into the past couple of years because of the very low interest rates 2020, for example, no one alive had ever seen a 30 year fixed rate mortgage at two and a half percent, which if you were a good credit, you could get. So there were some people that were clearly brought forward in time by those unusual circumstances. The magnitude of that will be revealed over the course of this next year.

Richard: [00:13:43] I'm going to ask you two very the two final questions. One is going to be a bit difficult having listened to what you said. Do you think there is a possibility of recession? This is already being spoken. We're hearing experts talking about hyperinflation and so on. Do you think that's a possibility if things aren't resolved?

Doug: [00:14:05] Two things one is I think unquestionably that the probability of recession is higher today than it was even two months ago. How high is it? It's certainly not 50 percent, but we're lowering our forecast. We don't release our forecast on the 15th. I don't know exactly what the number will be, but you should expect that our forecast for growth for twenty twenty two and twenty twenty three will be lower than it was with regard to a hyper inflation. If we should probably define terms something over 10 percent annualized, I wouldn't expect that. However, this morning's number came out at seven point nine percent. So we're not far from that. I do believe the Fed will act against it and therefore we won't get to that to that 10 percent number. And there are some supply issues which are being resolved gradually, which have contributed to the underlying rate of inflation, and those are starting to move in the right direction. So I don't think we'll get to that 10 percent plus range, but it will be a while before we get back to two percent.

Richard: [00:15:22] Right. Finally, to end the interview and we come full circle, I'd like to turn it back to you again. And I'd like to ask you if you could give a piece of advice to your younger self starting in the industry. What would it be?

Doug: [00:15:34] I think it's really important to look to the to the sources of information and understand the dynamics of the businesses and people's behaviors. And I think it was [00:15:53] surge a CYA stamp [00:15:55] that said, well, the data all gets down to the village blacksmith and the village blacksmith puts down what he damn well pleases. In today's world of economics, in many instances, the default is immediately to go to some econometric model and use data which are produced somewhere which you don't fully understand the origins of that data. And it can lead you to false conclusions. As an example, when we were trying to understand the implications of the twenty seven to nine downturn on the supply of housing. It just occurred to us that the first thing that you have to have to build a house is a piece of land. So what are people doing that buy and hold land? And what we found was they weren't buying any land at that time, which told us it was at least three years until we would see houses start to emerge. So just understanding the the root roots of any particular economic process are really important to not to forget that.

Richard: [00:17:01] They're very good. Good point. Not just in economics, I think. Well, Doug, thank you so much for joining us today. It's been tremendous pleasure as always, talking to you and listening to what you have to say about my pleasure.

Doug: [00:17:14] Thanks for inviting me. It's been great being with you.

Richard: [00:17:17] Thank you to you, to all our viewers for watching as well. I've been your host, Richard Torne, and we hope you'll join us again soon for another edition of MPATV. May you all have a happy and successful week. Goodbye.