Today in "Economists Are NOT Totally Clueless" (Part 1 of 2 or 3)
The WSJ collects reactions to the release of the latest Case-Shiller index. Let’s look at two, just for fun:
One in four mortgages are currently underwater. Foreclosure and delinquency rates, which hit a record high at the end of the third quarter of 2009, are therefore likely to continue to rise, perhaps sharply. In addition to this, the inventory of homes for sale remains near record highs. … Despite the recent positive reports on housing prices, we believe that prices have further to fall—about another 5%-10%. — Patrick Newport, IHS Global Insight….
When the Case-Shiller index began increasing in the summer, there were concerns that exaggerated seasonal patterns were an important driver, as trends had briefly improved in the summer of 2008 as well. However, while some seasonality does appear to have been present, the fact that the Case-Shiller home price index is continuing to increase is good news. We still believe that home prices could fall a bit over the course of 2010, but the majority of the price adjustment has probably already occurred. — Abiel Reinhart, J.P. Morgan Chase
I’m not cherry-picking here. I could make fun of the excluded “the long-awaited U.S. housing market recovery is well upon us” all day, but I’ll leave that one to CR (who, I now see, has already done a Variation on the Theme).
But let’s look at pieces of the two points, and see why I’m not sanguine (besides being long housing, that is):
- One in four mortgages are currently underwater. One in four = 25%.
- “[W]e believe that prices have further to fall—about another 5%-10%.”
- “[T]he Case-Shiller home price index is continuing to increase”
- “Home prices could fall a bit over the course of 2010, but the majority of the price adjustment has probably already occurred.”
Even if you take all of those at face value, you have to combine Bad Economics and Bad Policy to assume the worst is near over.
Details below the fold.
Bad Economics: If 25% of households are underwater right now, it would be foolish to assume that those people would or should stay in their house. (Steve Randy Waldman made this point a while back.)
This doesn’t mean that all 25% of those householders should move. There are major transaction costs in moving, not the least of which is the cost of moving itself. Renting will not be a better deal for everyone, but more and more people are going to realize that not walking away will be A Bad Idea, damaging the future of their child and themselves long after any credit report impact will have dissipated.
And if prices are still 5-10% above where they will be, the decision will become that much more inevitable, especially in areas where employment is lagging.
Looking at the “bright spot”—the counterintuitive rise in the Case-Shiller Index—which looks less firm than one might gather from the commenters—we see that this is another Second Derivative Problem: the pace of the decline has slowed (7.3% YOY) and the gain (“a seasonally adjusted 0.4%”) comes primarily from two areas (Phoenix, which has the largest YOY decline in the Index, and SF), with only five other positive gains over the month, none greater than 0.4% (SD; New York City is flat).
There are green shoots there, but they are on rather fallow ground.
Bad Policy is made clear in the last point: “the majority of the price adjustment has probably already occurred.”
Let’s assume that statement is true. We are, therefore, slightly away from equilibrium, but probably close enough.
But 25% of householders are underwater. And probably 80% of those—one in five “homeowners”—would have their economic situation improved by walking away and renting.
The term that comes to mind is “deadweight loss.” And let’s look at that in the next post.
[Warning: Spoiler Alert]
For everyone who gets their news from CNBC and is hoping that America is looking at a bright future of green jobs, progressive public policies and expanded govt, here is something to think about.
The US is bankrupt. The banking system is bankrupt. The consumer is bankrupt. And the Govt. is bankrupt.
The Govt has been lying to you about the “green shoots”. All Bernanke meant was “we are not going to die right away”. Think of the Black Knight in Monty Python’s “The Holy Grail”. We are still spewing blood, and we are going to die…eventually.
Your home will not appreciate in real terms for 15 years (unless you live in D.C., Manhattan, or Grenwich, in which case it might go up next year)
Your children will have a lower standard of living and less hope than you did.
Unless you have been frugal, saved all your money and avoided buying a house and financial at inflated prices you are actually the one to blame for all this (well, in addition to D.C. and Wall Street). After all, it is your lack of savings, your purchases of useless crap from China, and your underwater mortgage that are the source of all these problems.
If you were frugal, saved all your money and avoided buying assets at inflated prices then I have worse news: the Govt is going to reward you by destroying everything you have sacrificed for. You will make nothing on your savings and the Govt will do anything and everything it can to reinflate the asset markets.
Happy New Year!
So, do you consider your predictions to be good or bad for our long term progress as a nation?
And will our misfortune be good or bad for the rest of mankind? ( I may be confused because you began with “spoiler alert”, but ended with “Happy New Year”?)
Sorry for the confusion.
The spoiler alert was for the optimists out there who think things are going to work out.
I would have to say that my level of pessimism is at a 4 out of 5.
I don’t know what it means for our progress as a nation.It might be good if the system burns down and a new generation of American’s is produced. The irony is that it took the Great Depression to create The Greatest Generation, and yet our politicians are doing everything they can to avoid a severe economic callamity and to perpetuate the values of the “me generation”. My fear is that what we will produce is the “Cynical Generation”, and the demise of Western Civilization will be accelerated. If our children cannot believe in us, our values, our “system”, or our leadership, what future do we offer them?
I think our misfortune will be bad for mankind. For all of our faults, the US (and the West in general) is still the global good guy
The Happy New Year was sincere. All you can do is hug your family and laugh about this $hit.
Is it possible that the Case-Shiller index is inaccurate due to median income figures being distorted by the imbalance of wealth distribution?
Is median income as simple as: 9 incomes of $1 + 1 income of $91 = a median of $10 ?
Good answer. I disagree though on your “global good guy” claim. I am willing though to accept that we are less bad than previous empires.
Sorry but I have no idea what you are talking about.
The CS index is based on the change in price of a home between the current sale and the last time it was sold.
Unlike the completely BS data put out by the NAR, which is just “the average transaction price of all home sales” and can change due to a changing composition of the sample (e.g., an increase in sales of expensive homes increases the average price, regardless of actual price apprecation in any of the homes sold), the CS index is relatively accurate.
The data show weakening in the trend of home prices, suggesting that we are not about to return to “sustainable 5% appreciation in home prices per year” as was hoped by the govt. gnomes working in the basement of the Fed, furiously printing greenbacks.
The following graph shows the price-to-income ratio using the Case-Shiller national index as of Q3 2009, and the Census Bureau’s median income tables (assuming no increase for 2009).
“sustainable 5% appreciation in home prices per year”. How does that reconcile with stagnant wages ? I thought we tried that already.
There is a post on Calculated Risk which includes a graph that combines the Case-Shiller index with median household incomes. I mistakenly assumed that this graph was part of the CS index exclusively. Sorry for asking what now seems to be a stupid question.
I would still like to know however, at the risk of compounding stupidity, if any consideration is given to wealth distribution when calculating median incomes?
You should never walk away. I think if your home is worth more than 85% of your mortgage then you might be able to weather the storm. In a few years you should be ok. If your home is worth less than 85% then you should consider stop paying the mortgage and delaying foreclosure as long as possible. Save the payments. Never walk away.
Re. “sustainable 5% appreciation”: you got my point exactly. The “green shoots” croud would have us believe that all Americans need is a change in attitude, a little more confidence, and we will all go merily back to our spendthrift, debt-enabled habits. In the absence of income growth and / or credit expansion, I don’t see how housing is going anywhere for a long time.
Re. median income: I think they just calculate median income based on actual IRS or census data. What you are describing is more like average income, which would be affected by income distribution.
Good post, but you are blurring the difference between “mortgage borrowers” and “homeowners”. 30+/-% of homeowners are debt-free, so 25+/-% of 70=/-% equals
Before making the claim that every major sector in the US is bankrupt, you might want to look up the meaning of the word “bankrupt”. Most households are paying their bills. Most government entities are paying their bills. Some banks have been rescued, some allowed to fail, but “US banks” are not bankrupt as a class. Just a lot of banks. If the government and households and the business sector outside of banks are mostly making payments on time, then it is simply nonsense to claim the US is bankrupt.
We have serious problems. Making nonsensical claims about those problems won’t help us through them.
“I would still like to know however, at the risk of compounding stupidity, if any consideration is given to wealth distribution when calculating median incomes?”
The nice thing about using medians rather than means is that big outliers (in this case, the super wealthy) don’t affect the statistic.
Walk away if you can, Walkaway while you can!!
Also the more the merrier ,.. 2 things would happen ..
banksters are going to be screwed and homes will become affordable ….
***Some banks have been rescued, some allowed to fail, but “US banks” are not bankrupt as a class. ***
It’s impossible to tell I think. When people talk about bankruptcy, they probably mean “solvency” since bankruptcy per se means that the bank has closed its doors and turned its affairs over to the courts. Besides which US commercial banks usually don’t go through bankruptcy, their affairs are liquidated by the FDIC.
Are US banks solvent? By some criteria, maybe. By others, certainly not. Here’s a link to a lengthy analysis:
Are they all going to die? Probably not. But, if they were liquidated today, it does seem likely that mass bankruptcy would result. In point of fact, they apparently are solvent only if most of their loans are eventually paid off under the terms of issue. I don’t think that will happen with CRE if the loans are non-recourse. Residential? Maybe.
So, are the banks largely insolvent? Probably yes. Will they survive and return to solvency? Maybe.
***Is median income as simple as: 9 incomes of $1 + 1 income of $91 = a median of $10 ?***
No, that’s the definition of mean income. Median income is the income where half the values are greater and half less — $1 in your example.
What VtCodger said. 🙂
VtCodger + Guest,
Thanks, I get it.
“and the demise of Western Civilization will be accelerated.
I think our misfortune will be bad for mankind.”
Surely you jest.
Like the Grand Sweep of History itself, your cranial interior is vast, ludicrous, ridiculous.
The median income is the middle value in the series arranged in ascending value. (For an even number of values it the average of the middle two values.)
In your sequence of 9 incomes of $1 and one income of $91, the average is $10; the median income is $1.
$1 $1 $1 $1 $1 ^ $1 $1 $1 $1 $91
The ^ shows the point where there are as many cases above as below = median.
While I agree that we are in for hard times (probably something that can be said every New Year just as accurately as can be said we are in for good times) I COMPLETELY disagree with your assessment of our govts risk of bankruptcy. The bankruptcy risk is ZERO! ZERO! ZERO! This is not to say that we have no financial problems, only that govt default is not one of them.
You need to find out why that is true here: http://bilbo.economicoutlook.net/blog/?p=6891
While I do not think walk away is necessary in many cases, nor do I think someone should avoid it for “moral” reasons. Making a smart financial move is always………………SMART! We would never begrudge a company that made a smart financial move to get out from under some smothering debt why should we apply a different standard to an individual??
Corporations are fighting via the Supreme Court, this very minute, to be treated as individuals, with the same rights in regards to political expression. Why shouldnt individuals have the same rights of corporations when it comes to financial decisions? After all we are all the same aren’t we?
If, “homes will become more affordable” than more homeowners will, as a result of those falling prices, be underwater. Thereby adding to the total percentage of those whose homes are worth less than they owe on them. When does it end if we encourage those folks to walk away. Isn’t there a risk of snowballing price reductions and a rising tide that, instead of lifting homeowners puts more and more of them underwater? When does it end if we encourage ‘walk-a-ways’?
Home prices are driven mainly by interest rates. High rates, higher payments, less buying power, lower home prices. Right now rates are at historical lows so we can’t expect a return to 2000 prices, not until rates also return to the 7.5% that was prevalent then.
I’ve been shopping for homes in Tokyo, and was simply stunned by the (still) sky-home prices, then I realized that 35 year loans at 3% can really jack up housing bigtime. I expect similar rates are in the cards here if the PTB can figure out how to swing it.
Lower home prices are a GOOD thing. Every dollar we spend on land and rents is simply a tax on the productive, a wealth transfer from labor to parasitical capital.
All the money loaned this decade didn’t disappear in bad debt. SOMEBODY still has it, and we’ve got to claw it back.
Who is we? And under what circumstances is a productive way to talk about it…if creditors do not feel a compunction to re-negotiate when it might be usefull, why a mortgage borrower should not have some of the same options remains unclear.
They are totally clueless as well as worthless.