I don’t know about you but I feel a bit cheated. There we all were, led to believe by so many commentators that the sub-prime crisis was going to force the United States into a new era of dust bowls and breadlines, a slump that would call into question the very functioning of the capitalist system in the world’s largest economy. Carried away on the surging wave of their own economically dubious verbosity, the pundits even speculated that this unavoidable calamity might presage some 1930s-style global political cataclysm to match.

Well, it’s early days, to be fair, but so far the Great Depression 2008 is shaping up to be a Great Disappointment. Not so much The Grapes of Wrath as Raisins of Mild Inconvenience.

In the past five major housing market corrections (and there were some big ones, such as in the early 1980s when home sales also fell by 50%-60% and prices fell 12%-15% in real terms), every time home sales bottomed, the pace of house-price declines halved within one or two months.

The explanation is that by the time home sales stop declining, inventories of unsold homes have usually already started falling in absolute terms and begin to peak out in “months of supply” terms. That’s the case right now: New home inventories peaked at 598,000 homes in July 2006, and stand at 482,000 homes as of the end of March. This inventory is equivalent to 11 months of supply, a 25-year high – but it is similar to 1974, 1982 and 1991 levels, which saw a subsequent slowing in home-price declines within the next six months.

Inventories are declining because construction activity has been falling for such a long time that home completions are now just about undershooting new home sales. In a few months, completions of new homes for sale could be undershooting new home sales by 50,000-100,000 annually.

Inventories will drop even faster to 400,000 – or seven months of supply – by the end of 2008. This shift in inventories will have a significant impact on prices, although house prices won’t stop falling entirely until inventories reach five months of supply sometime in 2009. A five-month supply has historically signaled tightness in the housing market.

if wages begin to surge, all bets will be off and the bank will need to hit the economy with additional rate rises until people demanding wage increases get the message.

If you like record-breaking growth rates in the labour price index, then you are probably going to love next week’s March quarter release.

Meanwhile, over in Imagination Land:

BRENDAN NELSON will today challenge Labor’s first budget a week before its release by claiming there was no need for spending cuts because Australia’s inflation crisis was “imaginary” and “a complete charade”.

The most egregious error occurs when people argue that the Reserve Bank has aggressively tightened monetary policy. It has done nothing of the sort. The relevant measure for assessing whether the RBA has tightened monetary policy is the real (inflation-adjusted) cash rate, which stood at 3.1 per cent in March 2005 and now stands at 3.0 per cent. The seven increases in the nominal cash rate over this period have just kept pace with inflation and do not represent a tightening of policy…

The danger is that if I am right and inflation accelerates because the RBA’s approach is too soft, then the RBA will need to move aggressively and hike rates several times.

We got the first bottom-up look at June quarter inflation today, with the release of Don Harding’s inflation gauge for April.  It was a shocker at 0.5% m/m and 4.3% y/y, the strongest annual growth rate on record for this series.  Core inflation (ex-volatile items) rose 0.5% m/m and 3.9% y/y compared to 3.3% y/y in March.  The trimmed mean, which proxies for the RBA’s preferred measures of underlying inflation, rose 0.6% m/m and 4.3% y/y compared to 3.8% y/y in March. 

The creation of a government - that is, taxpayer - subsidised institution, largely for the benefit of non-bank mortgage lenders, would need to be justified either by the existence of a long-term structural problem in the provision of housing finance in Australia, or evidence of a short-term collapse in the availability of home loans.

Neither problem is evident, and in any case it would take too long to set up such a body for it to be of any use in the current credit crisis. Nor is it warranted as a hedge against future crises.

Interestingly, in his upbeat press release, Greg Medcalf was obliged to include the following sentence: “While the proposal has received encouraging feedback, Mr Medcalf said there was some concern the enhancements were addressing a short-term market issue that did not require a long-term fix”. Just so.

Recent sluggish growth rates bring our recession indicator index for the fourth quarter of 2007 up to 26.9%. That’s its highest value since the 2001 recession, but still well short of the 65% reading that we require in order to make a declaration that the U.S. economy had entered a recession as of 2007:Q4.

The numbers are reminding us that if, for example, the tax rebates were to keep GDP growth positive in the second quarter, we would end up characterizing the most recent experience as a period of slow growth rather than a typical economic contraction.

Fed funds futures now imply a 78% chance the FOMC will leave the Fed funds rate unchanged at its June 25 meeting.

the rise in house prices has been much faster than that in construction costs, so the implication is that most of the increase in house prices has been due to increases in the price of land.

That would be the responsibility of state governments.

If APM are to be believed, higher interest rates are improving housing affordability as we speak.