High & Low Finance: Don’t Be Alarmed, It’s Just the Economy About to Speed Up

The American markets are getting worried again. But this time the fear is refreshingly different.

The worry is that economic growth may be about to accelerate.

After five years of a disappointing economy, such a concern sounds too good to be true, and perhaps it is. But imagine what will happen if it is not. We’ve been complaining for years about how slow the recovery is. It would be great if it sped up appreciably.

But you might not know that if you listened to some of the commentary these days. Those who see a black cloud behind every silver lining can point to plenty of negatives in a good economy. Bond investors will lose money as the value of long-term bonds declines. That will mean that a lot of people are poorer. Banks own a lot of Treasuries, and some of them could suffer as the value of those bonds decline.

Perhaps rising interest rates will prompt a sell-off in the stock market. Perhaps they will choke off the recovery in housing.

The federal government will suffer a hit from having to pay higher interest rates as it borrows money. The Federal Reserve, which has bought a lot of long-term government bonds and mortgage securities, will lose money — perhaps a lot of it — as it sells those securities at lower prices than it paid. It might lose so much money that it stops funneling profits to the Treasury, further damaging the government’s fiscal position.

Added to those specifics is the feeling that we are about to enter uncharted territory. Just as the Fed never before engaged in quantitative easing, it has never before unwound the positions. Who knows if it can handle the challenge?

“The Federal Reserve will need to carefully navigate through the completion of quantitative easing,” the Organization for Economic Cooperation and Development said this week in its generally gloomy semiannual global economic forecast. “A premature exit could jeopardize the fragile recovery, but waiting too long could result in a disorderly exit from the program with sizable financial losses.”

Of course, we’ve all known that — someday — the Fed would have to start reducing its positions. But on Wall Street, someday can seem a very long way off. “This was supposed to be next year’s trade,” a hedge fund manager told me this week.

What made it seem like this year’s trade was the sudden backup in the bond market that began early in May and accelerated late in the month after the Fed’s chairman, Ben S. Bernanke, mused that the Fed might be able to start to backing off the easing program later this year. The yield on 10-year Treasuries, below 1.7 percent early this month, rose above 2.1 percent on Tuesday.

That may not sound like a lot, but to owners of such bonds, it is a problem. If they bought at the latest auction of 10-year Treasuries, on May 8, the value of their securities fell enough in three weeks to offset more than a year of income.

That latest drop came on the heels of some surprisingly good economic news, as well an upbeat forecast. Last week, the Federal Reserve Bank of New York said it expected the unemployment rate, now 7.5 percent, to fall to 6.5 percent by late next year. That is earlier than the Fed had expected when it said 6.5 percent was the level at which it might choose to back away from quantitative easing,

Then this week the Standard Poor’s Case-Shiller home price index was reported to have leapt 10.9 percent over the year through March. That was the largest gain since 2006, when the housing bubble was in full expansion. And on the same day that was reported, the Conference Board said consumer confidence was at a five-year high.

There are reasons to restrain enthusiasm about both figures, though. Home prices hit their lows for the cycle in March 2012, so this is a bounce off the bottom. And while consumer confidence is up, it is still well below the levels that seemed acceptable before the financial crisis. During the decade before the economy began to crater in 2008, there were only two months — in 2003 — when the index was as low as it is now. And not all statistics are surprising on the upside; first-quarter gross domestic product was revised a bit lower in the latest estimate, released Thursday.

Floyd Norris comments on finance and the economy at nytimes.com/economix.

Article source: http://www.nytimes.com/2013/05/31/business/economy/dont-be-alarmed-its-just-the-economy-about-to-speed-up.html?partner=rss&emc=rss