Why house prices cannot recover soon
CalculatedRisk already said this in December 2009, but he buried the lead, so a lot of people likely missed it: for the foreseeable future, house prices are far more likely to fall than rise, because mortgage rates are rising, personal income is flat, and subsidies are falling.
Homes, unlike other kinds of real estate, are historically priced not by their earning power, but as a more-or-less fixed percentage of personal income. That is, homeowners take on the mortgage they can afford, which is a relatively stable percentage of income.
During the bubble, that relationship got out of whack, but has since been mostly restored (it’s still higher than the historical average, but not much). This has led the Wall Street Journal and others to argue that houses are now cheap.
But that makes an extrapolation error. Today’s affordability depends upon today’s interest rates, income and homeowner subsidies. If these change, then prices will eventually change with them.
If you believe home prices will rise in the next few years, then you must believe one or more of the following must occur to make mortgage payments more affordable:
- Mortgage rates will fall.
- Personal income will rise.
- Subsidies (mortgage deduction, homebuyer credit) will be expanded.
None of these is realistic; in fact, all three are moving in the opposite direction. Homes are becoming less affordable. Right now. The odds of an abrupt reversal are remote.
Thus, in aggregate, house prices will probably stagnate or decline for the foreseeable future. There will be regional exceptions, but this is the overall picture for housing in the United States.
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