Housing activity in holding pattern
Housing starts declined a modest 1.3 percent in October to a 1.552 million-unit rate. The magnitude of the drop is within the degree of sampling error, thus suggesting that housing activity was roughly unchanged over the past couple of months. Single family housing starts declined by a similar magnitude, holding at virtually the same level since April.

There is no question that the housing market is benefiting from the sharp drop in mortgage rates over the course of the year - down 120 basis points since last October to 6.62 percent. Mortgage rates have certainly not declined as much as the federal funds rate target, but instead are tied to the yield on the 10-year Treasury note, which has declined by roughly the same amount over the past year. In fact, the October average was at the lowest level since this (mortgage rate) series began in 1971. It is certainly possible that mortgage rates may dip a bit more in coming months, but it appears that bond investors currently believe that an economic recovery will begin in early 2002 and that the Fed's easing cycle is nearly over. Consequently, Treasury yields have increased dramatically in November over the October average. This impacts mortgage rates. Thus, it may very well be that the best news on mortgage rates is behind us. If mortgage rates do increase in the next several months, it could curtail housing starts, hurting the very industry that has sustained economic growth despite weakness elsewhere.

Trade deficit narrows, but irrelevant to economy
The international trade deficit on goods and services narrowed significantly in September to $18.7 billion after reaching a $27.1 billion shortfall in August. Unfortunately, the sharp improvement in the trade deficit was due to the fact that insurance re-sellers packaged some of the insurance losses to foreign companies in the wake of the September 11 tragedy. This caused the surplus in the services balance to spurt to $17.2 billion in September from a $7 billion surplus in August. Because the federal government classifies these figures in a different manner in the national income and product accounts, we won't see this trade improvement in third quarter net exports in the revised third quarter real GDP figures.

In fact, the international trade deficit on goods only deteriorated in September to $35.9 billion from $34.1 billion in August. Merchandise imports declined 2.3 percent, but merchandise exports fell 6.7 percent! There is no question that at least some of the deterioration in trade flows was due to tighter controls at border crossings and at shipping docks in the wake of the September 11 tragedy. For this reason, the monthly trade figures are less meaningful than usual.

Some analysts like to look at bilateral trade deficits with our major trading partners. The two charts below show how the cumulative deficit from January through September 2001 compares with the previous two years. In fact, our trade deficit with Canada and Western Europe has narrowed in 2001, while our deficit with Mexico has widened sharply during this period.

From a political standpoint, it always seems that our trade deficit with China, Japan and other Asian countries is a sore subject. In fact, after growing rapidly in 1999 and 2000, our trade deficit with China has remained roughly unchanged from year ago levels in 2001. This doesn't mean that the trade deficit has disappeared. It stands at $61.2 billion in the first nine months of this year; it just hasn't grown larger. In contrast, our trade deficit with Japan and Asian NICS (newly industrializing economies) has actually declined in 2001. The U.S. deficit with Japan currently stands at $51.1 billion for the first nine months of the year, relative to $60.1 billion last year. Our deficit with NICS is much smaller, $15.4 billion in 2001 versus $19 billion in 2000. The narrowing of the trade deficit in this region does reveal something about weakness in a particular industry -- semiconductors are often imported from this part of the world.