Keep an Eye on the Housing Market Fallout

In a speech to the Economic Club of New York on Monday, Federal Reserve Chairman Ben Bernanke warned that the worsening problems in the housing market that have ravaged homeowners and the subprime mortgage market would probably be a “significant drag” on economic growth heading into 2008. Bernanke also added that it would take time for Wall Street to recover completely from the current credit issues.

 Bernanke added that the central bank would need to closely monitor the economy, but would not commit to another round of interest-rate cuts at the next FOMC meeting on October 30-31. Whether a further rate cut is necessary would depend largely on the economy, according to Bernanke. The general feeling towards a further rate cut is mixed.

 What investors will need to watch is the degree of the housing market impact on consumer spending and economic growth as we move forward.

 As I have said in previous commentary, the trend for the housing market is negative and could worsen over the next few quarters and into 2008. A decline in wealth across America will continue, as housing prices remain soft. Lower prices translate into less material wealth and this negatively impacts the way homeowners spend, especially in regards to bigger ticket items. It is clear the problems in the housing market could translate into further pressure on the mortgage and credit markets. And as I said, even the recent surprise move by the Federal Reserve in cutting the benchmark Fed Funds rate by 50 basis points to 4.75% may not be enough.

 As we move forward, we expect to hear of more impacts driven by the fragile state of the subprime market and increased credit concerns in the banking system. The Federal Reserve appears committed to do its best to avoid a potential recession, something that investment firm Merrill Lynch has said has a 64% or so chance of occurring.