More Insanity in the Housing Market

If you look at the news on any particular day, reports are constantly highlighting the woes of the housing market. Prices continue to fall with no end in sight. The media portrays a “doom and gloom” scenario when it comes to this situation, claiming that we must *do something* to stop the free fall in housing prices and save the helpless homeowners that now have underwater mortgages.

But any competent economist would say, “No! Let prices fall.” Even as heartless as that statement sounds to the millions of families struggling with the effects of the housing crash, it is what needs to happen in order for recovery to begin. Here is a very interesting chart showing different indices of housing prices over the past 36 years.

The drastic rise in prices between 1998 and 2007 was caused by 2 things:

1) The expansionary monetary policy of the Fed.

Between 2002 and 2005, the Fed slashed interest rates to an average of about 1.5%. This made borrowing money a lot cheaper and gave entrepreneurs and businesses the incentive to borrow money for capital projects. As we found out fairly quickly in the early 2000’s, most of this cheap money went into housing construction.

2) Legislation pushed by Clinton and Bush to boost home ownership nationwide, especially amongst minorities and low-income individuals that would not be able to afford a mortgage without government intervention.

As private entities expanded housing construction nationwide, the government pledged to make owning a home more affordable and more accessible especially to low-income individuals. By subsidizing these loans through government-controlled mortgage giants FannieMae and FreddieMac, mortgages were being dished out left and right to people who knew they couldn’t afford them in the long-run.

As the government subsidized more mortgages and interest rates stayed at historical lows, both the supply and demand for houses started to spiral up. The housing market became so lucrative that “house flipping” became a common practice. An individual could purchase a home they could not afford and then sell it a year later for 20% profit because housing prices continued to skyrocket.

Unfortunately, scarce resources caught up to us.

The artificially-induced boom in the housing market had to peak somewhere, and it did in 2007. As prices started to fall, house flippers were immediately in big trouble. They had been banking on a 20%+ growth housing in prices every year, and now they were stuck with mortgages they could never dream of affording. Toxic assets like these started showing up all over the place, and as housing prices tanked, more and more people defaulted on their loans, and sketchy credit-default swaps (which are convoluted investment vehicles that investment banks were using to fund and insure these toxic mortgages) started to fail. “Wealth” that was accumulated over the past 10 years vanished in a matter of weeks.

In reality, it wasn’t real wealth. It was an artificially inflated market induced by the actions of the Federal Reserve and legislative policies of the government.

So here we are in 2011. Housing prices continue to fall. Unemployment nationwide stands at about 9.2% which doesn’t include people who have given up the job search. In the midst of all this, I was watching TV briefly the other day and saw this commercial that was run by the National Association of Realtors:

My reaction: “YOU HAVE GOT TO BE KIDDING ME.” The number of economic fallacies contained in this ad is frightening. Let’s take a few of them step-by-step:

1) “America needs jobs.. and housing creates them. For every two homes sold, one job is created.”

It is true that Americans need jobs. It is not true that housing creates them or should create them. Housing prices are still falling for a reason, namely that there is an excess supply of houses. That means we need less houses, not more. Building more houses, or investing in the housing market would be the stupidest decision for an entrepreneur to make right now, because the market still hasn’t cleared yet. As for the claim about how two houses equaling one job, what does that even mean? This reminds me of the unfortunate Keynesian assumption of homogenous capital, that growth is just blobs of GDP and we just need to build more houses or make new “stuff” to create these mystical “jobs.” If I was a wealthy business-owner, I could easily hire 1000 people (and create 1000 jobs) to manufacture pipe cleaners. According to the assumptions made by most mainstream economists, this would be considered economic growth. When I see that I have produced 200 million pipe cleaners that now sit in a warehouse, I will come to the realization that I engaged in a malinvestment, and that the pipe cleaners truly have no value, because no one will buy them.

2) “Each home purchased pumps nearly $60k into the economy…”

3) “Home ownerships accounts for nearly $2 trillion of our GDP.”

More empty jargon. The use of the word “pumping” assumes that our entire economy revolves around spending and consumption. This is exactly what has caused our current recession: overspending and not enough national saving. We borrowed beyond our means and now we are paying the price. As for the “home ownership” quote, is it suggesting that more people need to own homes? Is it reminding us how vital home ownership is to the economy? The last time I checked, this attitude was the main driver behind the credit expansion and legislative action that propelled the housing boom, which has now turned to a bust.

This post has been a bit scatter-brained because there are so many issues here I could delve into. The housing market will not be fixed by stupid commercials trying to convince Americans to go out and buy a home. “Consumer confidence” will not return until house prices finally bottom out and the recovery begins. The market is in a correction period in which housing prices are reevaluated and adjusted to their true equilibrium points. Less “stimulus”, less government intervention, and true market price adjustments will eventually lead us on a path to recovery. In the mean time, the NAR should stop wasting its time and resources on stupid TV ads that make no logical sense.

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~ by rfreeland on June 8, 2011.

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