Kevin Erdmann, whose comments on this blog are much appreciated, wrote
There wasn’t even a housing boom. We all just decided to freak out about the one type of homebuilding that was growing – single family units for sale – and ignore every single other category of housing supply, which included homes built by owner, multi-unit homes, and manufactured homes. All of those categories had been in decline. Of course, it was the decline that created the illusion of a boom, because it was precisely those cities where we can’t build, yet where income opportunities are available, where home prices were skyrocketing, because households were bidding up the stagnant pool of homes in those cities in an attempt at economic opportunity in a country that has become inflexible.
What I think he is saying is this (and I could be wrong in my characterization):
1. Because of natural and artificial constraints on supply in cities like SF, the housing stock stays just about fixed, so any increase in demand shows up in price.
2. People have to live somewhere. When supply is fixed in some places, some households get pushed to other places. However, the rise in supply in those other places was never much ahead of demand.
3. If there were excess supply, we would expect rents to fall, and they have not.
4. The sharp fall in house prices came from tightening mortgage credit by much more than was necessary.
My own thoughts:
1. A fact that is salient to me is that the share of mortgages for non-owner-occupied homes went from about 5 percent before 2004 to at least 15 percent in 2006. To me, this says that at the margin there was some demand that was not driven by housing needs. Also, I believe that in housing the marginal supplies and demands exert big effects on prices, even though those marginal Q’s are small relative to the stock of housing and the total number of household.
2. Another salient fact is that the average price-to-rent ratio also shot up over this period.
3. This suggests to me that something other than “pure” supply and demand was at work in driving up house prices. I am inclined to see some combination of looser credit and (unrealistic) expectations for house price increases.
4. I think that Kevin is right to stress that the characteristics of housing markets differ in different locations. In SF or DC, rapid gentrification combined with restricted supply gives you one dynamic. (I don’t think I would pin it all on people bidding for “an attempt at economic opportunity,” as if these cities offer better jobs to people of every skill, which is what Enrico Moretti has claimed. Instead, I see a shift in economic opportunity inside cities away from low-skilled workers and toward professionals in the New Commanding Heights sectors.) In rural Ohio, a long decline in economic opportunity gives you another dynamic. In Texas, a big population inflow with more elastic supply gives you yet another dynamic. I could imagine that national averages, including the national averages I tout as “salient facts,” could be quite deceiving. Perhaps to understand the whole you need to study the parts.
There are many housing markets but for the most part only one debt market. This results in islands of prosperity amidst a sea of falter and retreat.
If someone gave you enough land in San Francisco to build a 3 family structure, your development costs would still far exceed $1 million, and the resulting units would not realistically be marketable to working class families. In high cost areas like SF, DC, NY and Boston, you can’t build a building cheap enough for the middle class, just isolating for building codes and trade costs.
So…
Price/Rent was being driven by 2 things.
1) Broadly lower interest rates leading mortgage/rent ratios to remain tighter than price/rent
2) Rent Expectations. If SF has clawed out a $30k wage increase, then they have a $20k rent increase. (Broadly accurate facts on the ground).
However, if that wage premium is going up $1000 YOY, then housing prices are determined by the future. Which means that your house prices are based on the future $50+k/year wage premium.
Or in today’s actual things that are actually happening, a house in Mountain View that sold for $1.6 MM rents for $5000/month.
Your summary is pretty good, Arnold. And, MeyerKev248 definitely has a bead on what I’m saying, here and in other comments I’ve seen.
On your reactions, Arnold, you are definitely on to some things. I am working on a book on the topic, and I think when you see the argument in its entirety, it will move you even further. In reaction no. 1, you already see that the “subprime crisis” is a misnomer. You are right about marginal quantities, I think. Even in Las Vegas and Phoenix, the problem was that there was a significant shock of outmigration from California and local supply didn’t react. One thing that has been lost in the discussion of the period that is relentlessly focused on excess demand is that in 2003-2004, there were intense pressures put on the GSEs. The rise of the private pools was a reaction to that, not the cause of it. Some combination of the supply problem, the migration that ensued, and the hampering of our standard conventional mortgage sources led to the expansion of unconventional mortgages, split between subprime, bank held, Atl-A, and jumbo. Just like everyone focused on homes built for sale and ignored everything else, we focused on subprime and ignored the growth of all the high quality private mortgages and the decline of conventional mortgages. There was no subprime boom.
no.2: This was very localized. There was a small national boost from interest rates but the difference between Dallas and coastal California is enormous.
no. 3: the expectations were high, but realistic. It helps to view this through income instead of asset values. The rent inflation required to justify 2005 prices has happened and will continue to happen in the cities where prices were highest. The marginal bubble cities (Phoenix, Las Vegas, etc.) are a different story, but they were a small and late part of the story. Alt-A loans played a role there, but it wasn’t excess credit that was causal there, it was a refugee crisis.
no. 4: you’re right. My book will be built around the idea of 2 Americas with 2 markets that we aggregated and were misled by that. From 2000 to 2007, nearly 4 million Americans moved away from the problem cities (coastal CA, urban NE). There is a significant segregation by income happening – high income moving in and low income moving out. So, you’re right. Some of this is just compositional shifts, and some of the higher incomes there are due to productivity. If they could expand their housing stock, neither the high prices nor the migration would happen. There would be much less stress, much less de facto inequality, more consumer surplus from the output of those industries, much lower debt, and, ironically, had they built more homes, there would never have been a moral panic about a housing bubble.
My latest findings concern trends at the zip code level. Notably, the collapse in 2006-2007 was led by the highest priced zip codes. They led the decline in home sales and the price collapse. After private mortgages had begun to collapse, the high priced zip codes were already falling while the low priced zip codes were still rising. In most cities, when prices were rising, they were rising evenly over all zip codes (except in the problem cities – too complex to get into here). But, when the collapse came, it happened first at high prices. Then, in 2008 and 2009, high priced zip codes began to stabilize and low priced zip codes really crashed – 20-30% a year in some cities. The low priced crash was the lagging measure! This is not what the “subprime crisis” narrative would have us expect. We killed those neighborhoods by killing the mortgage market. We’re still doing it today. People in low priced homes today could lower their monthly expenses dramatically by owning instead of renting. But they can’t get a mortgage. Returns to low end real estate today are very high.
Sorry to go on.
One thing that should always be remembered is that the best definition (and there are a ton of them out there) of a subprime loan is one that does not meet GSE standards.
Another thing that should always be remembered is that the idea that the GSEs had any pressure applied to them by anything other than the market is silly.
Finally, good luck in an attempt to show that the bubble in FL, AZ, and NV was driven by a refugee crisis as opposed to a banking system gone wild. I would pay particular attention to the simple fact that in those areas the vast majority of mortgages issued in those areas were investment homes. And that is true even with all the outright fraud we know existed in listing the occupancy of many mortgages.
“Another thing that should always be remembered is that the idea that the GSEs had any pressure applied to them by anything other than the market is silly.”
Get your government hands off my GSEs!
You know how systems work, right? Like systems.
“Another thing that should always be remembered is that the idea that the GSEs had any pressure applied to them by anything other than the market is silly.”
Did you bother to think about the events of the time, or is this simply a possibility that exists outside the set of things you are willing to see?
No, just facts.
IF the GSEs were pressured to do anything how is it possible that their market share dropped 40% throughout the bubble? And that with all of their built in advantages.
And if they were pressured to do things in terms of issuing mortgages to unqualified people, how is it possible that their porfolios completely outperformed the private banks?
The numbers “required” for the GSEs to meet these goals were insignificant, while the penalties for not meeting these goals were so small as to be laughable in the unlikely event they did not meet the goals.
Meanwhile, the bubble blew up despite those facts.
Ah. I see there has been a misunderstanding. The pressure was negative. They had a sharp decline in activity because there was pressure against them. At this point, my research has led me to argue that the private pools were only filling the gap left because GSE activity was sharply curtailed after 2003.
You’ll have to show me that work. Cause what I plainly saw during the period is the investment banks running wild and creating a huge pool of “qualified buyers” solely by appraisal fraud; underwriting fraud; and securities fraud by the credit rating agencies.
GSE market share declined because they could not compete with those things. That is clearly shown in the FCIC report(something everyone should read while ignoring Wallison’s insane dissent).
BTW, almost the same exact thing happened in the sub prime auto finance market in the US(my area of expertise). No GSEs there. And of course there is also Europe.
My name links to the blog where I have been working out the story.