US housing: what happened to the underlying demand?

The US housing crash rolls on, with the Case-Shiller house price index showing prices fell in 19 of the 20 city markets it surveys in February. According to the Case-Shiller index, US home prices are now down 3.3% from a year ago (see below chart) and have fallen by around one-third since the housing bubble burst in 2006.

However, the broader FHFA national index, which measures home prices across 50 US states, has shown lower levels of volatility. This is because the US housing bubble/bust has been confined mostly to a minority of cities, as illustrated by the below chart, which compares the narrower 10-city Case-Shiller Composite Index against the FHFA 50-state House Price Index (chart courtesy of Carpe Diem).

As you can see, the US housing bubble/bust has been most pervasive in the cities making up the Case-Shiller 10-city Composite Index, namely: Boston, Chicago, Denver, Las Vegas, LA, Miami, NYC, San Diego, San Francisco, and Washington D.C.. As a group, the remaining US markets have experienced smaller increases/decreases in prices.

Back in January, I explained how the extreme differences in price volatility between US cities/states was due predominantly to how these markets regulate land-use.

Housing markets where strict regulatory barriers are in place, such as urban growth boundaries, restrictive planning/zoning requirements, and minimum lot sizes, have been incapable of quickly and efficiently supplying low-cost housing. These supply constraints have ensured that increases (decreases) in housing demand have fed directly into higher (lower) prices instead of changes in new construction. The perceived land/housing shortages and rising prices during the upswing also encouraged speculative demand and ‘panic buying’ from first-time buyers, which assisted in driving home prices up even further. However, when the economy and sentiment soured in the wake of the financial crisis, causing housing demand to evapourate, prices collapsed in these supply-restricted markets.

By comparison, in housing markets with lighter-touch land-use regulations, low-cost housing was able to be built quickly and efficiently in response to rising demand. The rapid supply response prevented prices from rising dramatically, which also reduced speculative intent, since there was little prospect of achieving strong capital gains. And with house prices remaining relatively steady, ‘panic buying’ from first home buyers was less prevalent. Put simply, prices never rose as high or fell as far in the supply responsive markets.

To illustrate these points, consider the wild bubble/bust conditions experienced in markets identified by Demographia or the Brookings Institution as operating highly restrictive land use practices:

By contrast, markets adopting more liberal market-based approaches (‘more responsive land regulation’) have experienced lower levels of volatility and more moderate rises/falls in home values:

The findings are the same when the Case-Shiller city data is charted instead (click to view charts here and here).

Demand ain’t what it used to be:

An interesting feature of the US housing market was that the mainstream view at the height of the bubble was that prices were justified based on pervasive housing shortages and high levels of household formation (known as ‘underlying’ or ‘pent-up’ demand).

For example, California, which had experienced lower rates of home construction than Australia, was said to have a chronic housing shortage driven by continued high rates of household formation and inadequate construction.

And there are many other examples too, including:

  • Neil Barsky, from Alson Capital Partners LLC, who made the following statements in the WSJ on 28 July, 2005 [my emphasis]:

“There is no housing bubble in this country. Our strong housing market is a function of myriad factors with real economic underpinnings: low interest rates, local job growth, the emotional attachment one has for one’s home, one’s view of one’s future earning- power, and parental contributions, all have done their part to contribute to rising home prices… What we do have is a serious housing shortage and housing affordability crisis.”

  • James F. Smith, Director, Center for Business Forecasting, who in April 2005 argued that US housing demand would stay strong for years to come due to robust underlying demand [my emphasis]:

“There is no evidence of a housing “bubble” in the United States and housing demand should stay strong for years to come. Three major factors lead to this conclusion. First, the 77 million baby boomers are approaching the peak home ownership ages of 65-75 (over 83.0 percent versus a national average in 2004 of 69.0 percent). Second, immigrants, a growing share of the U.S. population, tend to buy houses ten years later than people born in the United States of the same income group and family size. Third, mortgage rates are not likely to go high enough (8.0 percent or more for 30-year fixed rate mortgages) to put a crimp in demand. Despite some areas of concern, overall homeowners’ equity is at record levels above $9 trillion. Delinquencies are still less than one percent of mortgages outstanding.”

  • Samuel Lieber, President, Alpine Woods Capital Investors, who said in the WSJ on 12 April 2006 [my emphasis]:

“We don’t see a bubble. Historically, home prices just don’t go down nationwide unless we are in a significant recession… It’s employment that really counts. The underlying fundamentals of real estate are still very positive. Job creation and household formation drive housing.”

  • Mark Vitner, Senior Economist, Wachovia said on 19 January 2006:

“Everybody is looking for evidence of a housing bubble…There is not a housing bubble. The supply had not kept up with demand.”

  • And finally, who can forget this testimony from Ben Bernanke in 2005 [my emphasis]:

“House prices have risen by nearly 25 percent over the past two years. Although speculative activity has increased in some areas, at a national level these price increases largely reflect strong economic fundamentals, including robust growth in jobs and incomes, low mortgage rates, steady rates of household formation, and factors that limit the expansion of housing supply in some areas.”

Even as recently as June last year, another so-called property expert predicted that the USA would soon be experiencing another chronic housing shortage because it was “not building enough homes to keep up with potential demand”. According to James Gaines, a real estate economist with Texas A&M:

Just 672,000 new homes were started in April [2010], an annualized rate of less than half the long-term run rate needed to meet the nation’s natural population growth. So far, the shortfall has been masked by a weak economy that has put a damper on home buying. Once the job market rebounds, however, people will look to have their own homes again. This pent-up demand could get unleashed on unprepared markets, causing shortages and rising local prices.

And yet US home prices continue to fall and vacancies rise, despite negligible new home construction. So what happened to the strong underlying demand and so-called shortages that were supposed to underpin the US housing market?

Well, a recent Bloomberg interview with the creators of the Case-Shiller home price index, Karl Case and Robert Shiller, provides some answers.

First, despite continued population growth, the US is experiencing a decline in the number of households (i.e. a negative rate of household formation). As such, home vacancies continue to rise even though new home construction has ground to a halt. There are multiple possible reasons for the decline in households, including: rising unemployment; difficulty in obtaining finance (despite record low interest rates); and extremely low levels of confidence (in spite of high levels of housing affordability).

Second, US housing starts are currently running at 60-year lows, which is particularly problematic for the economy since new home starts (construction) has pulled the US out of the last 3 or 4 recessions. So unless there is a turn around in household formation and construction, the downturn is likely to persist for some time yet.

Finally, the government-sponsored Fannie Mae, Freddie Mac and the Federal Housing Administration are the key pillars supporting the US housing market at present. And if government support is wound back, then the home values could again fall precipitously.

‘Undersupply’ is not always a bullish indicator for home prices:

The key lesson from the US experience is that the argument that housing shortages arising from high levels of underlying (or ‘pent-up’) demand would prevent home prices from falling is inherently flawed. General economic conditions can deteriorate, causing unemployment to rise and the number of people per dwelling to increase as they group together to reduce their housing costs. Such actions can also turn a perceived housing shortage into a surplus.

The economic reality is that the demand for housing is highly changeable depending, largely, on the prevailing economic conditions. And when housing supply is unresponsive (‘inelastic’), these changes in demand feed directly into prices instead of new construction, making the housing market more volatile and prone to boom/bust cycles.

Once again, think about the US the next time an ‘expert’ claims that Australia’s so-called housing shortage would prevent house prices from falling here.

Cheers Leith

[email protected]

www.twitter.com/Leithvo

Comments

  1. The reason demand is falling has to do with just ONE thing, and nothing else whatsoever. Americans, myself included, have lost all hope that housing in the USA will ever be worth investing in. Gold and silver were shunned in America from 1980 to 2000 because it was considered a bad investment. However, gold and silver have shot up in demand in the past 10 years and priced in US dollars, they have gone up tremendously. It is a simple matter of perception from an investment perspective, so do not blow this up with other fluff like regulations.

    • Rob – your comment sounds like the destination not the journey. In Australia right now, the journey is just beginning – some people will be lucky enough not to get to the destination you speak of.

      Phil

  2. Terrific post UE.

    I think it was a contributor to macrobusiness who said (I paraphrase):
    “There isnt an undersupply of houses, theres an oversupply of speculators”.

    Pretty much nails the situation in my opinion, in all of the worlds housing markets, irrespective of the regulatory environment. Intense speculative activity increases ‘velocity’, and therefore prices. Reduce the velocity, and you get the reverse.

    • When it comes to homes, market shortage is not equal to real shortage. It is very hard to significantly increase “consumption” of homes, therefore there is no real underlying demand (no extra people who need place to live), just demand from greedy speculators who wants to earn millions overnight on the expense of new generations.

  3. THERE IS AN “UNDERSUPPLY” OF HOUSES LIKE THERE IS AN UNDERSUPPLY OF CARS, FRIDGES PLASMA TV’S, WOMENS SHOES AND CLOTHING, SHOPPING MALLS… ETC,…ETC,…ETC,… SOME PEOPLE LIVE IN A WORLD OF PERPETUAL INTELLECTUAL WANKING !

  4. “First, despite continued population growth, the US is experiencing a decline in the number of households (i.e. a negative rate of household formation).”

    We alredy experianced increase in average household size – it slighlty increased between 2001 and 2006. 2011 census data will be interesting

  5. I think a graph of German house prices would be very similar to the ‘responsive’ markets in the US. Even though Germany regulates everything to the Nth degree, as I understand it, it is a constitutional right that when you buy land you can build on it. I suspect that is a big reason why there are mostly long term corporate investors rather than speculators in the German housing market. Renting laws giving certainty of tenure to tenents also make many Germans feel the best option is to be a life long renter and save/invest excess income. Maybe that is why they actually make things in their economy.

    • Germanys model is something I personally and professionally would like to know more about, as it is enticing.

      Apart from their rabid exposure to PIIGS debt, the German economy is definitely a poster boy, and it seems the way the regulate housing and inflation are key parts of that success.

      Although they have a different population structure to Australia (see link below) with zero growth, how they manage this in a growing dynamic economy without deflation or inflation is very much worth looking into…

      http://upload.wikimedia.org/wikipedia/commons/thumb/2/22/Germany_demography.png/800px-Germany_demography.png

      • Great Leith.

        I think a comparison between our economies is welcome, as there is a possibility that we may face very low population growth from here on in. A contrarian position to be sure, but a possibility nonetheless.

        The major differences for mind are cultural and education: the Germanic people welcome robust regulation with a commensurate rise in productivity and are much better educated than Western nation counterparts. (incl Straya)

        Disclosure: I’m a Germanophile, for sure.

      • Read up on the debt based money system. This is what we need to eliminate – End the Reserve Banks which are pure evil.

    • I read somewhere that the key issue is that local government revenue is mainly from local income tax. Therefore a regional government’s key concern is to attract more people to live in their tax jurisdiction. Therefore they have to make sure there’s lots of affordable and desirable housing available. Hence house price speculation will always be strangled at birth.

  6. Wow negative household formation with a growing population.

    On the positive as we often talk about certain policies pulling demand from the future, in the US demand is actually being pushed into the future. Prices will fall and eventually get to the point where the cost of household formation are so low that people will realise the risk is worth taking.

    Perhaps I am an America-phile but I actually am bullish on the US medium term. I think they are the only western economy that is actually allowing a large scale debt cleansing to happen in the household sector. People are able to walk away from their debts and so are able to re-start with a clean slate.

    The $US weakness and the end of $US reserve status will all be positive for the $US economy which is why I think the US stock market is a good medium term investment.

    • “Wow negative household formation with a growing population.”
      Please consider
      “The U.S. Census Bureau reports the Hispanic population has surpassed 50 million and accounted for more than half of the 27.3-million population increase in the last decade.”

      http://articles.latimes.com/2011/mar/24/nation/la-na-census-hispanic-20110325

      http://projects.nytimes.com/census/2010/map?hp

      A considerable component of your ‘WoW’ effect is due to the rapid change in USA demographic & ethnic distribution. Hispanic birth rates are ~3.9 per female and culturally tend towards larger family domiciles.

      • Yeah, and there is a huge birthrate disparity between the Christian evangelicals/fundamentalists in heartland USA, and the “liberals” in coastal States. “The Dirt Gap” by Steve Sailer, is a very illuminating essay. The heartland manages to cope with high birthrates without house prices going up, because they are also “pro development”, because there is less influence there from loony green liberals.

  7. Can’t wait for the house prices to fall by 20-30% so at least down the track for those who have been savings prudently they can retire with a roof on top of their head.

  8. Is anyone else disappointed that Sarah hasn’t stopped by to disabuse us of these silly negative notions, and to reassure us that it’s house prices to the moon?

    • Whilst I am firmly a big ol bear on Oz property (and the Oz economy in general) and have been for numerous years now, I really like to read the opinions of folks like Sarah etc who have a different view.

      I think we should listen to everyone with an open mind and entertain the possibility that they may indeed correct and my view, maybe completely wrong. There are plenty of folks out there smarter than me. Sarah maybe one of them.

      I can tell you the last 5 years it has felt like I have been very wrong, even though I am still very confident we are heading for some very hard times.

      I can’t speak for all, but this site would lose some of it value if everyone here had the same opinion and “Me Too!” was the best anyone contributed.

      Just my thoughts.

  9. David Van Der Klauw

    Zoning restrictions cause price to break free from cost of production and become subject to many other influences. Price behaves like a balloon with its string cut.

    If a little girl is holding a balloon by a string then the position of the balloon is dictated by the girl’s hand. A very simple situation. If her naughty brother cuts the string then the balloon is cut free from the girl’s hand and its position comes under the influence of all sorts of things such as the helium inside it, updrafts and downdrafts and cross-winds, and even passing birds with sharp beaks.

    http://www.aph.gov.au/SENATE/committee/hsaf_ctte/submissions/sub80.pdf

  10. The reason for continued weakness in the housing ‘market’ is as simple as the formula for making a housing market.
    Housing prices, on average, MUST track average wages.
    And in the post-bubble recession, average wages are falling faster than they were during the bubble.
    As a result, the bust in housing activity (prices and sales) must continue its decline until the economy turns around, and can achieve the natural market ‘equilibrium’.

    There can be no major ‘capital-formation’ pool around housing that drives this market in the future.
    This time it WILL be driven by the natural economic factors that were faked by all those analysts quoted in the article.
    As an economic leader, housing was.

  11. Yeah! more deregulation of planning laws
    bigger cars, bigger motorways, bigger houses and best of all more cheap credit on real estate. That’s the solution for a bust economy.
    Somehow how does it square with France where boom and bust is minimal ?
    Reminds me of household formation when state retirement fund was created at the end of the war. That allowed young couple to leave the farm and their parents; move to the factory (50 glorious years)Now the state retirement fund is dying, they contribute to private pension and they are bankrupt

    • France, interestingly, seems to have quite a good “vent” for urban land supply. Paris actually “sprawls” from the Channel to Burgundy.

      This is because in France, tiny land holdings all over the countryside go back centuries, and no government has ever forced consolidation of these into larger units – quite the contrary, in fact.

  12. I see that you don’t mention the critical difference between the Case-Schiller charts and the FHFA charts–one covers all houses, the other only GSE-securitized mortgages. It isn’t surprising at all that the FHFA numbers would show less volatility, especially as the GSE’s market share of loans decreased during the bubble.

    Also, here in the Boston area, where we have among the most restrictive land-use regulations of any place in the country, we have suffered far less than places like Phoenix, Las Vegas, and Miami, which went on unprecedented construction binges. The land-use restriction argument only holds water when there’s a real shortage of housing, which was not the case during the bubble.

    • Also, in our area, one sizable activity that fed the bubble was the conversion of existing rental apartment stock into condos. Not sure how that factors into your analysis. Obviously, not so much a shift in housing supply as a shift in people deciding to own rather than rent because of cheap credit and the feeling of a sure-thing investment.

      Flipper who were late to the game have ended up as landlords with rentals.

  13. This seems like a classic example of seeing what you want to see in the data.

    If the reason for increases in price was frustrated demand, then one would think that states that allowed the most new construction (ie Ohio, Pennsylvania) would have a large slump in prices once the market for housing dried up, and they were left with excess inventory. Instead, what this data seems to indicate is that traditional supply/demand models don’t adequately capture what is going on in the housing market. Something funky is going on in both the supply and the demand side.

    You seem to be claiming that Washington and Ohio experienced similar demand for housing, but Washington constructed fewer houses and so prices rose, whereas Ohio constructed more houses, and so housing prices remained consistent. But in that case, one would expect Ohio to now have a glut of houses, driving prices down. Instead, an alternative hypothesis—that speculation about future prices was behind the housing boom in most cities—seems to better fit the data you are using, and most of the other information I’ve seen about the housing boom.

    • What are you on about? “Market for housing dried up”. The market for housing is not like a puddle of water in the sunshine. It does not dry up.
      If Ohio experienced increased demand for housing and allowed extra housing to be built, then one would NOT expect Ohio to now have a glut of houses. Perhaps adequate housing was built then, and perhaps the housing is still adequate. Wouldn’t it be nice if the same could be said about Sydney?

  14. This is an odd analysis. I live in Southern California, one of the more “regulated” markets wrt housing, but you wouldn’t know regulations got in the way. Construction was everywhere, even in the densest urban areas. Dozens of industrial buildings in downtown LA were converted to lofts, where prices immediately shot up to $600k for 600 sq-ft spaces, then dropped like a rock to 1/2 or 1/3 of peak.

    Los Angeles, Orange County, Riverside, San Diego — plenty of regulations. Plenty of housing construction. Plenty of devastation. They even built-up (former) parks, wildlife refuges, military bases, deserts, mudslide areas, etc.

    For SoCal, the reason for the bid-up in housing is climate, entertainment, job prospects, and illegal immigration. Since Great Depression II began (there, I said it), illegal immigration has fallen, annecdotally, to 1/7th of what it was. And no one bothers to count people going the opposite direction.

    Discounting international migration, California has been net losing people for a while. With the economic devastation, we’re just seeing this trend accelerate.

    What you’re seeing in your graphs is the relative stagnation or rural areas. People left the farm for the city. Now that they didn’t make it in the city, they are returning back to the farm.

    I fail to see what regulation has to do with any of this. It was speculation based on easy credit, plus “soft” demand — meaning that people who came here had a Plan B. And speculators don’t speculate on farmland in Idaho because it isn’t “hot.”

    • With respect Scott, I suggest that you check out the construction data relating to California. You will find that it was amongst the lowest in the USA relative to population growth. More importantly, the supply response was also very slow. It took up to 10 years to turn a Californian greenfield development into new housing due to the complex and bureaucratic planning system. As such, supply was unable to respond adequately to changes in demand, resulting in bubble/bust conditions.

      • Okay, how about this data:
        http://www.nahb.org/fileupload_details.aspx?contentid=55104&channelID=311

        Merced, CA: 70% decrease in building permits this March, compared to last March.
        Modesto, CA: 68% decrease in building permits.
        Los Angeles, CA: 13% increase in building permits.
        San Diego, CA: 13% decrease, less worse than the 21% average decrease for California.

        Guess which two areas have dense, zoned, regulated housing construction, and which two have extremely lax housing construction. Yet even in pricing free-fall, the regulated areas have relatively higher rates of building permits.

        I don’t see any support for this regulation theory. Seems like there are many other factors going on, interstate and international migration being my guess a factor.

        Personal economics are another factor. We see that in Riverside, where a lot of construction workers reside (usually driving into LA or Orange County), building permits where down 51%. Getting a building permit for Riverside should be easier than LA or Orange County. If you think laxly regulated areas weather the storm better, what happened to Riverside?

        You can compare housing prices over time by metro area here: http://u.zillow.com/v9/

        Every metro area was affected, regardless of “regulation” — unless you’re saying something about statewide regulation. I didn’t read anything in the original post about statewide regulation.

      • As you know Leith I strongly support Scott’s argument here.

        The other evidence to add is that Houston, the poster child of free land markets, suffered a massive bubble in the 1980s and was still recovering from it when that latest national bubble popped.

        http://www.housingbubblebust.com/HM/HM-Main.html

        That suggests that free land markets do not have the price impacts you are suggesting.

        I would also add that contemporary Australian planning regulations do not restrict supply (or as you explain, increase the slope of the supply curve). They simply designate the locations available for each type of land use. The stock of approved new dwellings has tripled in SEQ in the past decade indicating that councils approve far more dwellings than the market can absorb.

      • “Massive bubble” hey Cam. If that was the case, then why did Houston’s Median Multiple (median house price divided by median household income) reach a peak of only 3.3 times in 1982/83 according to the Harvard Joint Center on Housing? By comparison, Los Angeles has not had a Median Multiple below 3.8 times since 1980. If that’s a “massive bubble” to you, then can Australia have some please?

        I find it astonishing that you continue to argue that restrictions on land supply have absolutely no impact on price. Sure, we can debate whether demand-side influences are greater or not, but to argue that supply has no impact whatsoever is crazy.

      • The “free land” status of Houston is largely an illusion. They don’t have zoning, but they do have plenty of land-use requirements. Minimum lot sizes, restrictions on multi-unit housing, excessive roadway requirements–essentially, suburban sprawl is a government mandate. It’s a regulated market, the regulations just move opposite the way they do in most other places.

  15. But that’s exactly the problem — there was no shortage of supply. Infinite credit meant the supply/demand curves went all asymptotic. If there was a dearth of construction, there would have been a lack of houses on the market. There was plenty of houses available. Orange County was built up into the boonies. They turned vacant warehouses into lofts in downtown LA. Sales were frequent and common, but not incredibly fast.

    For chrissakes, they used cheap Chinese drywall that poisoned people by giving off phemalgyhide in the new construction in Florida. I really don’t think we need to cut corners on construction more than they already are.

    The problem is the myth that housing is the only investment that never lost money, that if you don’t buy now you’ll never own, easy credit through securitization, etc.

    The places people demand to live in require tighter regulation, I’ll buy that. What’s not obvious from the aggregate data is that the regulations were a significant burden. The feverish pace of development and the sudden crash tells me that permits weren’t such a burden on new constuction.

    • Scott, it seems we are on the same page. Of course supply restrictions could be a suspect in ‘the case of high prices’, but the evidence suggests that there have not been any supply restrictions. Controlling the location of development is not the same as controlling the rate of new development.

      If someone believes supply is restricted and is willing to pay more because of it, this is simply another excuse to add to irrationally high demand – not an actual supply restriction about which some action could be taken.

      • Hang on Cam, after arguing feverishly that supply constraints have no impact on price, you now accept that they could in fact be a suspect in ‘the case of higher prices’. Why the sudden turn around?

        As for your claim that the rate of development is not controlled in California or Australia, are you serious? The Productivity Commission recently confirmed that it often takes 5+ years to turn a greenfield site into housing due to the onerous planning system. It is the same in California. This compares to around 180 days in Houston. Hence, supply is highly unresponsive in Australia/California resulting in greater levels of price volatility as demand changes. This volatility is not present in Texas.

      • As I said a while ago –

        “While I might not have made it clear, I do believe that governments COULD influence the general price level of housing through planning controls if the result was effectively a quota system ie. they would only approve a certain number of dwellings per period over quite a large area, say greater SEQ or greater Melbourne. But I have never seen such a situation, hence my lessons reflect how I see development happening on the ground (where quantity of sales limits dwelling construction, rather than development approvals)”

        http://ckmurray.blogspot.com/2011/04/8-lessons-on-planning-and-housing.html?showComment=1302217904143#c838662067521342929

        In the discussion at
        http://macrobusiness.com.au/2011/03/productivity-commission-on-planningzoning/
        I tried to be clear about explaining that the argument is about actual planing regimes, not theoretical situations where government implements a supply quota.

        For example “The following points outline why the supply of residential land and housing is not constrained in any way, and why high prices are a reflection of demand (including the role of relaxed credit) and speculation”

        Further, the time for approvals can’t be an argument, since the stock of approved dwellings continues to grow – therefore many more dwellings are approved than can be sold. Whether one individual approval amongst many takes 5 years to complete does no change the overall situation.

        The other factor which suggests that supply is actually not restricted is that rents are pretty well tracking CPI. If there were supply restrictions, even in the short run, we would see similar volatility in rents.

        http://www.whocrashedtheeconomy.com/housepricevsrentsdec2010.gif

      • Hang-on. Using the rents argument is a straw man. The whole supply-side debate, as I have framed it, is not whether we have actual housing shortages, but whether low cost supply is able to quickly respond to changes in demand, thereby dampening price volatility. If the supply response is slow, as it is in California and Australia, you are more likely to get boom/bust conditions as demand first rises (much of which is speculative based on perceived shortages) and then evapourates. This is the key difference between the coastal markets of the USA (plus Nevada and Arizona) and the other markets. Where supply constraints exist, be they regulatory or physical, price volatility has been greater and affordability lower.

      • Cameron –

        I can personally vouch that anyone with a pulse could easily find a house for sale in any area, and get financing at any price, regardless of creditworthiness.

        I looked at buying a modest condo in Orange County during the height of the bubble. At an open house, the mortgage broker (notice it wasn’t a real estate agent) who showed me the house did a quick back-of-the-envelope calculation and told me what the interest-only loan would be — 75% of my take-home salary. I told him so, and he told me “no problem. happens all the time.”

        The bubble would have been popped much sooner if it weren’t for the real estate == investment myth and the outright fraud that was going on.

        Riddle me this, hot shot economist — if the supply was so tight, why couldn’t the lenders and brokers afford to be choosy about their prospective buyers?

        Makes no difference to me, though, since I rent over here in bubbleland I have no dog in this fight. I’m just trying to warn you as someone who has seen this first-hand not to poor fuel on the fire.

  16. Seriously, do you think construction companies sit on their hands while they wait for permits to come back? They pipeline this stuff.

    1. Submit form
    2. work on unrelated project
    3. by the time the unrelated project is finished, the primary project has approval

    As someone else pointed out, states and municipalities make a significant portion of their budget from property taxes. They have a strong motivation to keep the gravy train rolling.

    By demanding more shortcuts to boost construction, you’re going to make the downside that much steeper. Speculation and easy credit makes the rate of supply increase moot. You’ll just have an enormous supply overhang on the other side.

    Why not increase interest rates and see how speculative the demand is? Seems easy to me.

    • Scott, what you call a “pipeline” IS one of the many factors that force prices up in markets where regulatory processes take a long time. Obviously, a “shorter pipeline” is going to cost construction businesses a lot less to hold.

      Worse, a “long pipeline” increases the need for developers to compete with each other for “land banks”. This is why “6 years supply” of land (according to the planners) or even 10 years, or even more sometimes, is just piss-useless. Every developer in the industry HAS TO HAVE several years supply of their own, and every developer has to compete with every other developer, for their several years supply.

      In Britain, where this racket has been going on for decades, developers have gradually been quitting the business, to the extent that while Britain’s actual shortage of homes has been going up by a million homes every few years, the numbers getting built, and the number of people employed in the construction industry, has steadily dropped by ten to 20 per cent per decade, and there is now almost nothing left of it.

      Add to the developers problems, that they have to carry these land banks through “bust” cycles, and permission processes are so slow that even in the “boom” cycle, is is doubtful whether they can complete more than one project before the bust hits.

      Of course shitty buildings end up commonplace when the cost of the land is several times higher than the cost of land PLUS building SHOULD be.

      Other countries, like Australia, COULD learn from the Poms negative example.

  17. There is an official term for all the gouging that councils, State governments, consultants, lawyers, local residents, incumbent landowners, etc get up to under these conditions. It is “Planning Gain”. A stroke of a pen, in Britain, can raise land values from $4,000 per acre to $500,000.

    This phenomenon is sort of like Cameron Murray’s “working backwards from demand” to “see what it can stand”. But there is a massive literature on all this; it is complete nonsense to say that monkeying with supply has no consequence for prices, just because “demand” seems capable of shifting incredible distances in response.

  18. On Germany, there is an extremely informative series of books and papers co-authored by Oliver Marc Hartwich and Alan W. Evans, that compares Britain, Germany, and several other nations. Try “Bigger Better Faster More: Why Some Nations Plan Better Than Others”. It is fascinating how Germany incentivises their local authorities to be PRO development, through the formula under which they are bulk funded from federal revenue.

    Oliver Marc Hartwich is now at the CIS in Sydney; Australia is incredibly lucky to have such an expert right there; you need to beat a path to him and hear what he’s got to say.

  19. On Houston, it is interesting that their LOW income earners are apparently a disproportionately large constituency AGAINST “zoning”. These people also obviously do not mind the large minimum lot size regulations etc – land remains so cheap that there is hardly anywhere else a low income earner is BETTER OFF.

    It is deeply ironic that left wing politicians and activists who claim to care about these people, seem to mostly be guilty of forcing up their living costs like no previous economic phenomenon in history, through their desire to re-run the USSR’s great planning experiments.

  20. What Scott S and Cameron Murray do not “get”, is that all that “plenty of supply” in Southern California, Las Vegas, and Phoenix; was STILL far too expensive because the land supply was constrained (and delayed) to the point that developers had to compete with each other for it, hold land banks, and outbid each other for ALL “permitted” land (if they wanted to stay in business).

    You guys can’t seem to see that there will be a price-inflationary effect in “limits” to supply LONG BEFORE regulations reach a setting of “NIL SUPPLY”. You guys seem to argue that only “NIL SUPPLY” of permitted land, would convince you that restraints are responsible for price inflation.

    THINK about it. How much more difference would “6 months supply” make, compared to “nil supply”? Why would “3 years supply” be a guarantee that NO price inflation will occur? Or “10 years supply”?

    Any fool can do some basic maths on this. HOW MUCH “supply” of land would be HIGH enough that every developer would regard it as a waste of time to “land bank”, and every property owner within the limit, to regard it as a waste of time to “hold out” for MAJOR capital gains? Wendell Cox and others calculate 20 years plus.

    Note that historically, it was quite normal for property owners around the fringe to “hold out” for greater capital gains AFTER the city had “grown out around them”. This is just logical “location advantage” economic rent. If you waited 20 years, you might get twice as much for it. But “Planning Gain” now puts immediate expectations into fringe land owners minds, that their land is immediately worth ten times as much as it was as a farm, and if they hold out for ten years, it might be worth fifty times as much.

  21. Another problem that occurs, is that when development is far too constrained in areas where demand is highest, development often ends up pushed to stupid locations, but where it is EASIER to get permission. (Albeit still difficult in States like California and countries like Britain and Ireland). This worsens the “bust” when it comes, partly because, also, these locations are usually dozens of miles away from anywhere and involve high transport costs as well as the inflated mortgage costs involved in the bubble.

    While the pro planning advocates now point to Southern California and say “see how bad sprawl is”, there are thousands of square miles of land where the poor bustards SHOULD have been living, closer to everything, and the prices SHOULD have been a fraction of what they DID pay for the WRONG place, as well as the fact that their transport costs SHOULD have been lower.

    The planning advocates like to talk about “combined cost of transport plus mortgage” when they argue that people should live at higher density closer to employment opportunities and amenities, but they completely fail to understand that their policies drive the MOST people into “Hobson’s choice” home purchases where the cost of transport is ten times higer than it should be, but because the cost of the mortgage is “only” 4 times as high as it should be rather than 20 times as high as it should be (in the efficient location), the total cost of the stupid location is still much more attractive than the cost of the good location.

    There’s your reality, explained. Do you get it?

  22. PhilBest,
    No they do not get it and will not get it. I have been dealing with shortage-deniers like this for many years.
    The explanation lies inside the mind of the shortage-denier. No amount of logic and commonsense outside their head can get in and resolve it.
    Cameron has been told that rent for an ordinary house in Sydney has gone from 1/3 a normal salary to 1/2 a normal salary. Yet he still maintains that rents have not risen, and these stable rents prove there is no shortage.
    I think the explanation for their behaviour is that many shortage-deniers are actually government-restriction-lovers. These lovers of government can never bring themselves to admit that their true love has caused a problem.
    Hence they will deny the true cause and will lobby for more power to government and more government restriction to solve the problem caused by the other government restrictions.
    Most shortage-deniers believe that government restriction on credit are the solution to the housing situation.

  23. I quite honestly don’t care whether there is regulation or not. I rent.

    What the original author failed to do is make his case. He threw up some graphs and said non-metro areas had less volatility. He attributed the stability to an abundance of housing supply provided by lax regulation.

    He contrasted this situation with metro areas with large volatility. He attributed the volatility to shortage of supply, and stated this was a consequence of the regulatory regime.

    First, the author did not show that the supply was constrained in the metro areas. If there is exactly one house for every person — but the credit supply is infinite — you could still have a housing bubble. Look at the housing bubble in China. Massive oversupply, still huge bubble.

    Second, the author failed to conclusively connect the supply shortage he failed to substantiate to burdensome regulations. Is it that hard to call up a developer and ask them how regulations affect them? I’m sure they will talk your ear off about how painful the local government is to deal with. There is nothing in this piece that even says that non-metro areas are in fact easier to develop in. I am sure it is, but how? And did it constrain supply?

    Again, I maintain that supply is irrelevant as long as we are paying with Monopoly money. Crooked appraisers were being paid to inflate appraisals to pad brokers’ and realtors’ fees. The lax underwriting enabled the shenanigans. These are better places to start turning over rocks to prevent the next housing bubble.