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Drop in home prices could spur new recession, Greenspan warns

By Joshua Zumbrun
Bloomberg News / August 2, 2010

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WASHINGTON — Former Federal Reserve chairman Alan Greenspan says the slowing US economic recovery feels like a “quasi-recession” and the economy might contract again if home prices decline.

“We’re in a pause in a recovery, a modest recovery, but a pause in the modest recovery feels like a quasi-recession,” Greenspan said yesterday on NBC’s “Meet the Press.”

Asked whether another economic contraction, a “double dip,” is possible, Greenspan said: “It is possible if home prices go down. Home prices, as best we can judge, have really flattened out in the last year.”

Slowing economic growth and a decline in housing activity following the expiration of a government tax credit have raised fears the economy could return to a recession before completing its recovery from the worst downturn since the 1930s.

The former central bank chairman said most economists expect “a small dip” in home prices. The National Association of Realtors reported that the pace of home sales fell in June for a second month. Homes are selling at an annual rate of 5.37 million, and the group’s chief economist, Lawrence Yun, said transactions will be “very low” in coming months.

“If home prices stay stable, then I think we will skirt the worst of the housing problem,” Greenspan said. “But right under this current price level, mainly 5, 7, or 8 percent below, is a very large block of mortgages, which are under water, so to speak, or could be under water. And that would induce a major increase in foreclosures. Foreclosures would feed on the weakness in prices.”

Home prices in 20 cities rose by 4.6 percent in May, according to a report from S&P/Case-Shiller last week. Because of the index’s lag in reporting, the extent to which home prices may have slackened in June and July is not yet determined.

Greenspan’s successor, Ben Bernanke, told Congress last month that the economic outlook is “unusually uncertain.” Bernanke and his colleagues on the Federal Open Market Committee will meet Aug. 10 in Washington.

Last week, the Commerce Department reported the recovery slowed in the second half of 2010. The economy grew at a 2.4 percent pace, following growth of 3.7 percent in the first quarter.

“Our problem basically is that we have a very distorted economy,” Greenspan said. Any recovery has mostly been limited to large banks, large businesses, and “high-income individuals who have just had $800 billion added to their 401(k)s and are spending it and are carrying what consumption there is.”

While the Standard & Poor’s 500 Index has fallen from its highest levels of 2010, its July 30 close of 1101.6 is 63 percent higher than its trough in 2009. Greenspan said a continuing rise in the stock market would further stimulate the economy.

“The rest of the economy, small business, small banks, and a very significant amount of the labor force, which is in tragic unemployment, long-term unemployment — that is pulling the economy apart,” Greenspan said.

The Labor Department will report on Friday that the US unemployment rate rose to 9.6 percent in July from 9.5 percent the prior month, according to the median of a Bloomberg survey of 57 economists.

Greenspan said he expects “we just stay where we are” with unemployment for the rest of the year.