Housing slump might usher in recession

Meanwhile, assets backed by home loans are rapidly falling in value as foreclosures rise. Financial institutions that hold these assets are taking larger-than-expected hits as they write down their values. So far this year, foreign and U.S. financial institutions racked up an unexpected $100 billion in credit-related charges.

“We need to stop having so many negative surprises about the balance sheets of large financial institutions. It just heightens people’s anxiety about what will happen next,” said Doug Elmendorf, an economist at the Brookings Institution.

Yet, bigger write-downs are expected. Goldman Sachs expects more than $100 billion in bank write-offs on the horizon, while Moody’s estimates a total loss of $275 billion to investors.

“Under some dark scenarios, these write-downs could spook investors and revive the turmoil in the credit markets, resulting in a broader credit squeeze,” said Mark Zandi, chief economist at Moody’s Economy.com. “This is likely if a commercial bank took a major write-down that resulted in its insolvency or put it very close.”

Lenders and homebuilders are also at risk of bankruptcy if market conditions worsen. This year saw the demise of dozens of subprime lenders, while the credit squeeze punished the remaining mortgage lenders. At the same time, the large, national homebuilders booked record losses, while smaller, private builders shuttered their operations.

“I don’t know who specifically won’t be with us at the end of next year, but I won’t be surprised if there are fewer publicly traded builders at end of the day,” Zandi said.

The federal government has stepped in, mostly symbolically, to restore sanity in the marketplace. Last week, the Bush administration along with lenders, investors and consumer advocates unveiled a voluntary plan to extend lower, introductory interest rates on home loans before they reset at higher levels to qualifying borrowers.

Many experts believe the plan’s requirements are too narrow and won’t help enough homeowners. Homebuilders and lenders are calling for more government measures like the temporary expansions of Fannie Mae and Freddie Mac’s funding capacity as well as another cut in a key interest rates from the Federal Reserve.

Low interest rates also help to depress the dollar’s value, which could keep the economy above water while it weathers the housing downturn, Elmendorf said. Ever since the dollar hit lows against several major currencies, the trade balance has improved as foreigners snap up cheaper American goods. If that continues, it would be a powerful balance against the housing slump, he said.

Amid the predictions, sellers are sitting on the sidelines, hoping 2008 will bring more traffic, while potential home buyers try to time the bottom of the market.

Cliff and Erika Stice of Castle Rock, Colo. have had their two-year-old stucco and stone ranch home on and off the market since February 2006. They’ve had 30 showings, just a handful of repeat lookers and no offers, despite cutting the price to $1.255 million from $1.35 million.

“We really thought we would sell the house fairly quickly,” said Cliff Stice, 66, a retired telecommunications and cable executive.

Fortunately, the Stices are in no rush to sell. They won’t buy another house until theirs is under contract.

“Our realtors think 2008 is going to be much better than 2007. If people are less scared to make a commitment then the market will start taking off again,” Stice said. “Until then, it’s not a bad place to hang out.”

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