In 2008 the U.S. will slip into recession. This will likely kill any chances the Republicans might otherwise have in the 2008 election. But a recession could probably be avoided by starting another war. The argument:
U.S. house prices will continue to go down:
Home prices in 20 U.S. metropolitan areas slumped in August by the most in at least six years, a private survey showed today.
Values dropped 4.4 percent in the 12 months that ended August, an eighth consecutive decline, …
[…]
Most economists expect housing to extend its slump and continue to be a drag on economic growth as loan foreclosures rise and tougher lending standards make borrowing more difficult.
The housing bubble in the UK is also starting to pop:
The British enjoyed lower rates earlier this decade – and the result was double-digit house-price rises. Since August 2006, however, rates have been marching upwards. After six hikes, the base rate is at its highest since 2001. That is already a headache for the dwindling battalions of first-time buyers, or anyone on a variable-rate mortgage. But it will also be a pain for the estimated 2.1 million borrowers coming off low fixed-rate mortgages in the next 18 months.
The mortgage crisis will lead to a recession:
As David Rosenberg, the chief US economist for Merrill Lynch put it in his most recent report:
"We think a miracle is needed to avoid recession. With domestic demand growth struggling to stay above a 1% run-rate, if we manage to avoid a recession with another huge down-leg in homebuilding activity and home prices, we think it will be a miracle."
A Fed bail-out by reducing interest rates back to the 1% level is unlikely. Prices are rising for food and energy:
For example, in the first nine months of this year, food and beverage prices rose at a seasonally adjusted annual rate of 5.7 percent. Transportation costs advanced at a 6 percent annual clip. And energy skyrocketed to an annual rate of nearly 12 percent.
The Fed is playing ostrich by pretending to only look at "core" inflation rates which exclude food and energy costs. But people need to eat and heat their homes and if the Fed lowers interest rates far enough to reignite the mortgage business and housing boom, the dollar would slump even faster and real inflation would blow through the roof.
So what can be done to avoid the recession that will hit during the 2008 election?
Nouriel Roubini points out:
As Ed Leamer showed in his Jackson Hole paper, six of the last eight housing recessions have ended up in a economy-wide recession; and this housing recession will end up being more severe than all of the former eight ones. The only two exceptions of a housing recession not leading to economy-wide ones were those during the Korean War and the Vietnam war when a massive fiscal stimulus rescued the economy. What we spent – or waste – on Iraq is not sufficient to get that fiscal stimulus; we would need another equivalent of $200 billion fiscal stimulus to do the job.
To spend another $200 billion is easy to do. Just start another war.
A war with Iran is such an option: but a war in Iran would lead to an overnight doubling of oil prices to $200 per barrel plus and would lead to a certain U.S. and global recession.
Are we sure about the real effects of another doubling of oil prices? When those prices hit $50 a barrel in 2004, people already thought that this would have severe consequences:
The high oil prices, which climbed to a record high of $49.40 per barrel last Friday, may scare consumers and keep up gas prices. The effect worldwide is real, too. Every $10 added to a barrel of oil is estimated to knock "at least half of 1 percent … equivalent to $255 billion" off world GDP, according to analysis in May by the International Energy Agency (IEA) in Paris.
If the IEA would have been right in their 2004 prediction, world GDP growth should have be down significantly. But the effect on the world economy was much less than expected. Even with oil prices increasing to above $90 per barrel, worldwide GDP growth continued at about 4% per year.
A war on Iran would certainly lead to a spike in oil prices. But during the Iran-Iraq war the U.S. was able to keep the Strait of Hormuz open even when Iran tried to blockade it. Some right wing authors point to this as they argue to attack Iran. They bet that oil prices would soon sink back to sustainable levels.
A U.S. recession because of falling house prices is imminent. A Fed bail-out is unlikely. "A miracle is needed." A war on Iran could be such the ‘miracle’ that would boost the U.S. domestic economy.
The additional spending for such a war would bring enough stimulation to keep the U.S. economy growing. The negative effect through rising oil prices would possibly be short time and less severe than the housing induced recession that needs to be avoided.
I personally do not agree with this view. I don’t think a war on Iran could be contained. The additional money or debt-capability to finance such a war isn’t there either.
But the Republicans would like to win in 2008 and, to avoid an otherwise certain 2008 recession, they think along this argument.
It is certainly one reason why all Republican candidates (ex Ron Paul) are pushing for a war.