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May 29, 2005

Home, Home Out of Range

The LA Times has a great article on the housing bubble, and its stubborn unwillingness to pop, this morning. In it, they talk to a bunch of economists who've been predicting a crash for years now, only to see their best models and most educated guesses foiled by the market's relentless upward momentum. Best quote comes from Dean Baker, who you all remember from the Social Security wars. He writes:

A year ago, Baker was so sure the collapse was at hand that he sold his Washington condo, which had tripled in value in the seven years he owned it. He moved two blocks away into a rental and wrote another article warning that "the crash of the housing market will not be pretty."

He pointed out that housing prices traditionally didn't rise faster than inflation, but that on the coasts the price jumps were exceeding that level by double digits. He dismissed the argument that prices were increasing because of immigration, or the scarcity of land or the demographics of the baby boomers.

Despite this excellent list of reasons, the crash stubbornly refused to happen.

"It's kind of troubling, like you were a physicist studying the laws of motion and you see an object that ignores gravity," Baker acknowledged.

That seems about right. But the fact is the housing market simply can't sustain itself long-term because most folks can't pay the prices being asked. What you've been seeing is a lot of trading: person A's $350,000 home shoots up to $500,000, so he sells it, borrows/liquidates $100,000, and moves into a new $600,000 place. The owner of that place does the same thing, moving into an $800,000 place. And so it goes, both up and down the food chain.

But the reality remains that wages just aren't growing this fast, they're barely keeping up with inflation (indeed, last quarter, they didn't), while housing prices are racing past them both. So the only real way for people to buy these homes is to cash in on places they already own, liquidate assets, or borrow. That'll sort of horizontal motion will keep the market moving for a bit, but long-term it's not sustainable. Sooner or later, the market will slow to accommodate new buyers rather than seller and traders; the only question is whether, in doing so, it busts or it rusts.

Moving to policy on this, the government is going to have some culpability for the ensuing pain. Read Ben Wallace-Wells' excellent piece on Alan Greenspan's attempts to sustain the recovery by exposing home buyers to risk and ruin. Important stuff.

--Ezra

May 29, 2005 in Economy | Permalink

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Comments

Dean Baker was right to sell when he did. Nobody back then would have thought the introduction of 3-7 year Interest Only morgages would prove to be so popular or so strongly supported by Government policies. Now Fannie Mae is announcing the 40 year morgage.

I wish bloggers like yourself, Kevin Drum, Krugman and Delong would give serious consideration to the idea that the dirty secret behind the Republican victories in 2002/2004 had something to due with the RE bubble as much as "Moral Values". I seem to have met more than a few, "I got mine Jack" smug homeowner/suburbanites who are convinced that they have every right to be sitting on an RE goldmine of inflated value.

Posted by: llamajockey | May 29, 2005 7:10:43 PM

We haven't quite run out of greater fools yet....

Posted by: donna | May 30, 2005 1:29:27 AM

llamajockey,

I'm sure the RE bubble helped Bush in the elections. Even though the economy wasn't doing so great, a lot of people were making a lot of money, plus, more people than ever owned homes (the American dream).

The fact that we're seeing articles saying this time it's different... and the bullish stick their tongues out at the bearish is enough to convince me that we're in bubble territory now.

These home price increases are unsustainable. I'm not sure when the pop will come. Will it be gradual or sudden? Once the interest rates are high enough some people will start feeling the pain.

Posted by: Unstable Isotope | May 30, 2005 9:09:04 AM

One stat says it all, I contend: 62% of all first mortgages in California in the first quarter of 2005 were Interest-Only!!!

Posted by: NixonWatch | May 31, 2005 2:24:00 AM

I'm not saying whether or not I think it's a bubble. I don't know. But I have two questions.

1) Why does the fact that a "typical" home is unaffordable to the average person mean we're in a bubble? In Europe, the avg person can't afford a 3bed 2bath single family, 2-car garage, etc. So, they just buy smaller properties, flats, etc. This is clearly an inevitable trend in the long term, since the population is growing and the land isn't. I can't afford a yacht, that doesn't mean there's a yacht bubble.

2) Why is an interest-only loan a sure sign of a bubble? And why are int-only loans considered high risk? It's not as if you pay much of your home down in the first 10 years anyway. I could see how adjustable, zero-down loans would be considered risky. But if your rate is fixed, I don't see the danger.

Posted by: Henry | May 31, 2005 7:08:07 PM

they are a risk. To banks. Consider: if you borrow against your house and only pay interest, you are effectively renting your home from your bank, which has on hell of a lot of capital tied up in that house. Should the housing bubble burst the bank is then left with liablilities exceeding its assets.- Which is doubleplus ungood if you are a financial institution. -
in the traditional case people paid off their mortage, and if housing fell 10 (or 20) percent this didn't really matter to the finanical system because the average -partially-paid-off - loan was smaller than the new valuation of the property, and thus still fully securitised.

Q: So why are banks offering interest-only loans in a high-valuation housing market?

A: They're nuts.

Q: Why is this my problem?

A: you have a bankaccount? Any savings ? Then it's your problem.

Posted by: Thomas | Jun 1, 2005 1:57:54 AM

Thomas,
What you're saying is that banks are at risk if "the bank is then left with liablilities exceeding its assets". Isn't the banks risk of this happening much higher in the case of zero-down loans than interest-only loans. After all, in the first several years of a traditional 30-year loan, you hardly pay any principal anyway. So, if I were a bank, I'd much rather give an interest-only loan to someone with 20% down, than give a 30-year loan to someone with 0% down.

Also, checking/savings accounts are FDIC insured. You needn't worry about them.

Posted by: Henry | Jun 1, 2005 1:24:22 PM

How to maximize your return on investment when selling your home.

I want to give buyers something to talk about by investing their resources into getting their home into its best condition. This is time and money well spent but you’ll need to concentrate on the areas that will bring you the most return.
Focus on the areas that buyers notice and value - bathrooms, kitchens, and curb appeal. Make sure your rooms are spotlessly clean and free of clutter. A fresh coat of paint in a neutral color is one of the least costly investments that can go a long way towards making a good impression. De-personalize your rooms by packing away your nick-knacks and dust catchers. If possible. put extra furniture or belongings into storage so that your home appears open and spacious. Clean your windows so they sparkle - and don’t forget the window sills.

Trim your trees and hedges and keep the lawn mowed. Plant some colorful flowers in the garden. Drive by your home and try to look at it from an objective viewpoint. What’s the first thing you notice? Does your front door say, “Welcome”? If not, maybe a fresh coat of paint - or perhaps even a new front door - and some potted plants could help.
The way your house looks should not be your only concern. Is there a pet odor or other potentially offensive smell in the air? Be sure any odor producing agents are removed or controlled to keep your home fresh smelling at all times. When you live in a home you can become used to certain odors and they are easy to overlook. Be sure to ask others if your home passes the “sniff” test.
Be aware that certain investments you made for the personal enjoyment of your home will not necessarily raise the value of your home to prospective buyers. Don’t expect to add on to the price of your home all the money you paid to improve it.
In fact, some things, like swimming pools, can frequently be viewed as a liability. Generally, painting and improving your kitchen and bathrooms will be a good investment. The kitchen is viewed as the heart of a home - most family activities take place here so improving your kitchen can facilitate the sale of your home. Adding a bathroom usually generates a good return as well as adding decking outside.
The best return for your home improvement dollar comes from bathroom remodeling (80%), bathroom addition (81%), minor kitchen remodeling (87%), major kitchen remodeling (80%), and a second storyaddition (83%). The least profitable investments are a home office (54%), reroofing (60%), a sun room (60%), replacing windows (68%), and refinishing your basement (69%). In a slower market, it’s essential to pay attention to the presentation of your home. With so many homes on the market to choose from, you want to be sure you outshine the competition. You may even want to consider hiring a professional home stager to help you.

Wally Smith Anne Vaughan
Realty One Group
10161 Park Run
Las Vegas NV 89145
(800) 403-1808 toll free
(702) 375-2700

Posted by: Wally Smith | Dec 2, 2006 11:50:43 AM

I am remodeling my bathroom and kitchen and I see that it is a good investment but also I am remodeling my home office and replacing the old furniture with new one

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