Cuts by fed boost consumer spending

See Housing Highlights the Promises—and Limits—of the Fed’s ‘Insurance’ Rate Cuts: Sales have rebounded as mortgage rates declined, but trade uncertainty has damped the benefit of lower borrowing costs in other sectors by Nick Timiraos of the WSJ.

The title I used was the one from the print edition.This is what we teach in principles, that lower interest rates increase aggregate demand. But I also wanted to post it along sides excerpts from another article in the same print edition of the WSJ which said that rates cuts were not as effective as they used to be (Oct. 29, 2019).

Excerpts from the first article:

"An analysis by Morgan Stanley found consumer spending on interest-sensitive durable goods such as cars and appliances rose at a 14.6% annualized pace over the six months through August. Contributions from durable-goods spending have accounted for 40% of the gains in consumer spending over those six months, up from 16% of the monthly increases last year.

Applications for mortgages to purchase homes are up nearly 9% this month from a year earlier, after declining 2% last November from a year earlier, according to the Mortgage Bankers Association. The average 30-year mortgage rate has fallen this month to 4% from a recent high of 5.2% last November."

"Changes in the Fed’s benchmark rate, currently in a range of between 1.75% and 2%, influence a broad swath of financial conditions, including stocks, long-term interest rates and corporate bonds."

"Falling interest rates extend buyers’ purchasing power. A general rule of thumb holds that a one-percentage-point drop in interest rates is equivalent to a 10% reduction in the costs of purchasing a home."

Now the other article. See Why the Fed Is Losing Potency: Neither consumers nor businesses are responding as forcefully to Federal Reserve rate cuts as they used to by Justin Lahart (the print title was "Fed Rate Cuts Don't Pack Punch They Once Did: The central bank's ability to spur consumer and business spending with easy policy has diminished").

"Consider the housing market. Lower mortgage rates have certainly been good for it, driving a rebound in home sales. This in turn has been a plus for the overall economy, just not as much as it might have in the past.

That is because housing represents a smaller share of the economy than it used to. Money spent on residential investment, which includes new-home construction, among other items, now accounts for about 3.7% of gross domestic product. In the 50 years before the last recession that figure averaged 4.9%.

Similarly, money spent on furniture and appliances—items that are often bought after a home purchase—also command a smaller share of GDP than they used to.

Another way Fed rate cuts can affect consumer spending is by pushing up the value of assets such as stocks and homes. But wealth effects appear less potent than they used to be, perhaps because stock-market and housing wealth have become more concentrated in the hands of the well-to-do.

Companies also don’t appear to be responding to low rates as forcefully as might be expected. Business investment contributed far less to growth in the second and third quarters than it ought to have considering the drop in interest rates, Morgan Stanley economists estimate.

One explanation is that low borrowing costs won’t induce companies to spend on new equipment if there isn’t enough final demand to put that equipment to use."

When rates are very low they initially lead industry leaders to invest heavily, discouraging competitors who can’t keep up. Eventually the leaders face few competitive threats and become “lazy monopolists” that don’t invest much either.

The problem is compounded by the higher borrowing costs that smaller firms tend to encounter."