Some pundits predict that the U.S. housing market will bottom neatly in 2008 and stage a swifter recovery than during previous downturns. Paul Kasriel isn’t one of them.

“This is shaping up to be a very severe housing recession — one in which housing prices nationally fall by the largest amounts since the Great Depression,” says Northern Trust’s chief economist. “We may see home building bottom out in ’08, but I really don’t expect a sharp rebound. I think we could bounce along the bottom for awhile.”

Defaults in the subprime adjustable mortgage market con-tinued to swell in December, as regulators scurried to control the fallout from years of lax mortgage lending practices.

Housing’s impact
That’s a huge problem because subprime mortgages constitute a larger portion of the mortgage market than ever before — nearly five and a half times what it was in 2001, for instance.

And many of the estimated $600 billion in outstanding subprime mortgages carry high default rates. Roughly one in five adjustable-rate subprime mortgages, for example, ends in default.

That’s especially significant because the housing market now makes up such a big chunk of the U.S. economy. In 2001, home values represented 366% of median household income. In 2005, that had jumped to a record 469%.

And the dollar volume of single-family home sales has surged as well, representing 16.3% of nominal Gross Domestic Product (GDP), nearly double the 1968-2006 median of 8.4%.

“That’s the highest ratio by far,” Kasriel notes. “The previous high was around 12% in 1978.”

But mortgage problems that haven’t surfaced yet could prove the most vexing. Millions of adjustable-rate subprime mortgages haven’t yet entered the reset period where their interest rates — and monthly payments — spike higher. In fact, 2.2 million families could eventually lose their homes, estimates the Joint Economic Committee (JEC) October 2007 report.

But families who don’t lose their homes could also lose economically. Those defaults will undermine all housing values — including yours — to the tune of $164 billion, according to the JEC report. Nationwide, the crisis could knock home prices lower by at least 7% in the next year alone. In total, experts say, homes could lose as much as one-fifth of their value by the second half of 2009.

As builders and buyers turn their backs on the housing market, economic growth already has begun to sputter.

As our neighbors lose their homes and our own home value drops, Americans will understandably curtail discretionary spending and investing. That, in turn, will undercut job growth in such areas as construction and financial services. In fact, some expect half a million fewer jobs will be created nationwide in 2008 as a result.

“Housing has a ripple effect on the rest of the economy,” Kasriel says.

Dollar’s hand
The biggest economic wildcard, however, could be inflation caused by the U.S. dollar, which has been sliding since long before the subprime mortgage crisis surfaced.

Kasriel thinks the Federal Reserve needs to cut interest rates by another 100 basis points to prevent the economy from following the housing market into a recession. But fears of further undermining the dollar and fueling inflation might stay the Fed’s hand.

“The Fed might not be able to cut as aggressively,” Kasriel says. “If the Fed had to raise rates during a recession, it would make a bad situation worse.”