A former colleague of mine made a speech today that deserves wide coverage, if only because it is more honest and more sensible and easier to grasp than most Fed speeches.
Cathy Minehan, now president of the Federal Reserve Bank of Boston, is a very experienced central banker who has been involved in sorting many crises including the Penn Central bank collapse, the S&L crisis, the screw ups in third world lending in the 1980s and much else since that never made the news.
When Cathy Minehan tells me to worry, I'm worried. In her overview of the challenges and risks to the US economy today she could be channeling Bonddad!
Key outtakes from today's speech and more below the fold:
- Despite our economy's resilience and relatively high rates of productivity growth, I am concerned that we have been living beyond our means.
- But Being the world's biggest debtor has its downsides. It puts us at risk that foreign investment desires may change, with potentially harmful effects on the stability of our financial markets.
- [I]t makes sense to worry about the potential impact on GDP growth of a combination of a reduction in housing construction and a decline in household wealth. . . . [W]e could be wrong on the magnitudes. Real estate prices could actually decline (though this has never happened for the nation as a whole at least on a nominal basis) and construction activity could retrench more than we expect. And rising mortgage rates could impede consumption more than our forecast predicts. Thus, changes in residential real estate present a source of downside risk to growth.
- I am concerned about the impact on some consumers of mortgages that become too costly, and the possible implications for lenders and markets.
- Unless something in this scenario changes, these forces [eroding Social Security and Medicare surpluses as Baby Boomers retire] will require a steep increase in government borrowing as expenditures will greatly exceed tax receipts. The resulting rising deficit and debt-to-GDP ratio could pose challenges to the level of private investment in this country, and to the future improvements in its standard of living. So far the political process has failed to enact measures that might credibly be expected to bring the budget back closer to balance.
- [Foreigners] could stop lending to us to make up for our lack of national savings. This could have serious consequences. Indeed, when developing countries have run external deficits of this relative size the results have usually involved major financial and economic crises.
So to sum it all up, the economy look rosy as long as it proves that the housing bubble deflates only a tiny bit, employment growth remains strong, the fiscal deficit is brought under control by a political process that is magically reformed toward good sense and restraint, foreigners keep wanting to invest in the USA, and nothing really bad happens.
Cathy Minehan is a smart central banker and an experienced hand in a crisis. She's said it clearly: "It makes sense to worry."