Which Candidate Can Help Housing?

There is so much distortion in housing, one knows hardly where to begin to fix the problem. Some of it is structural. Too many overly large houses were built in almost every market. Do not be surprised to see many of them converted into twin units in the future.

No surplus dollar holders are going to start throwing money at housing again and make no equity loans. The problem is intensified by vanishing equity. It is inconceivable that housing prices will continue to go anywhere but south.

It will spill over to all parts of the economy. The reverse wealth affect will affect automobiles and consumer hard goods markets for some time. It is also hard to believe that presidential and congressional candidates are going to argue to permit markets to take their course. That will not happen. Someone will win the coming election. There is a real possibility and likelihood that someone will make things worse. Any ideas?


Overvalued homes discourage buyers
By Patrice Hill
January 21, 2008

Home prices are falling at a record pace and are down by 6 percent or more from their peaks, but economists say that may be just the beginning.

Computer models show that home prices remain as much as 50 percent too high in major cities, where even households with twice the U.S. median income of $47,845 often are unable to afford median home prices ranging from $400,000 to more than $600,000.

The overvaluation of homes has created a buyers strike as potential buyers sit on the sidelines waiting for prices to fall. How much prices have to drop to bring buyers back into the market has become a critical question for the housing market and the economy.

Hanging in the balance is not only the health of the housing and finance industries but also the accumulated wealth and chief asset of the nearly 70 percent of Americans who own their homes.

James Haffly, an Alexandria defense worker, would like to buy a house in the Washington area but thinks that prices are way too high and must come down substantially.

"Housing is out of reach for many folks here unless they have a rich relative," he said, noting that having a high-income, dual-earner family doesn't suffice anymore to buy a typical "starter" home for about $400,000.

He's hoping that the 1 million to 2 million foreclosures predicted nationwide this year will help to drive down prices to affordable levels.

"I mean, here we are at $125,000 a year, and to buy a home on the low end means spending 40 percent of our take-home pay. Something ain't right. I wouldn't buy in this market, not with rent amounts at half or less of what a house payment would be."


Mr. Haffly said he is willing to wait a year or more until prices fall to a level he can comfortably afford. Meanwhile, he can take advantage of the many good deals available on rental housing — sometimes offered by desperate real estate investors who are renting out properties to avoid foreclosure.

The eagerness of buyers to see prices drop puts them at odds with millions of homeowners and banks who financed home purchases and refinancings during the housing boom. These homeowners and lenders face big losses and even foreclosure if prices fall too far. The 5 percent to 25 percent drop in prices in some D.C. suburbs already has spawned record foreclosures and losses.

Ultimately, economists say, how far prices fall could be a critical factor determining whether the U.S. economy experiences only a mild downturn this year or a full-blown recession with wrenching dislocations for homeowners and bank failures that the nation hasn't experienced in nearly two decades.

"The underlying cause of the problems in the financial sector is a persistent fall in house prices," said John Makin, economist with the American Enterprise Institute for Public Policy Research. He expects prices to keep declining until next year for a cumulative reduction of 15 percent nationwide. Such a decline could involve much bigger drops in high-priced cities such as Washington.

Like many economists, Mr. Makin is concerned about the consequences of such big price drops. While it might make houses more affordable for first-time home-buyers, it is hurting homeowners who made a habit of tapping into their housing gains during the housing boom to finance an array of purchases from second homes to college educations. The home-fueled spending was an important impetus to economic growth in recent years.

"The drop in house prices has removed a large part of the elastic credit and wealth appreciation that helped to support consumption during the period of zero savings since the last recession in 2001," Mr. Makin said.

The tense standoff between buyers and homeowners is slowly playing out in the home sales market, where sales have fallen by half since 2006 as buyers wait for bigger price drops and better deals. Many homeowners are pulling their homes off the market rather than sell at steep discounts that buyers are demanding.

"Sellers continue to adjust their price expectations downward but not quickly enough to keep pace with declining demand," said Stephen Bedikian, research director at Real IQ, which tracks home prices in the top 20 U.S. markets.

The group found that price drops accelerated in high-priced cities such as San Francisco, San Diego and Washington at the end of last year after a credit crunch sharply restricted mortgage lending.

Three types of loans were particularly affected: jumbo mortgages of more than $417,000 needed to buy high-priced homes, loans for people attempting to buy homes with no down payment, and "subprime" borrowing by those with shaky credit.

Mr. Haffly puts himself in the latter two categories. He and his wife are attempting to repair their credit after problem credit-card debt put them into a troubled category. On top of that, they would need to finance 100 percent of their home purchase because they have not saved enough for a down payment.

The difficulty buyers are having getting loans is making it harder and even impossible for some to buy high-priced homes, putting further pressure on sellers to lower prices, analysts say.

David A. Levy, head of the Jerome Levy Forecasting Center in Mount Kisco, N.Y., estimates that house prices have to fall from 30 percent to 50 percent from their peaks now that many of the loan products that made homes affordable to first-time buyers have disappeared.

Estimates of how far prices must fall often are based on the historic relationship between home prices and rents. A model comparing the monthly cost of renting versus homeownership in major U.S. cities developed by RBS Greenwich Capital finds home prices overvalued by 24 percent in the D.C. area and 16 percent nationwide at the end of last year.

Among the biggest losers as prices continue to drop are banks and brokerages, which have provided mortgage financing for much of the nation's $23 trillion housing stock. Mr. Makin estimates a 15 percent drop in home prices would cause a $3.5 trillion loss of home values nationwide.

Such a gigantic loss eclipses the $1 trillion of capital banks and brokerages have on hand to offset their share of the losses, he said. Because of that, he predicts banks will be scrambling to shore up their finances — and as a result restricting lending to consumers and businesses — for some time to come.

Their troubles will weigh on the economy, which Mr. Makin expects to fall into recession. He also thinks that bank losses will lead to failures of some financial institutions and an eventual federal bailout of bank depositors that will eclipse the 1980s savings and loan bailout in size.

"This time, the cost — even excluding shareholders — could run to $500 billion," he said