Let Home Prices Fall

Declan McCullagh Says Further Government Intervention Will Do More Harm Than Good

(CBS)  This column, Other People's Money, is written by CNET's Declan McCullagh. It appears each Wednesday on CBSNews.com.

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By now it should be clear that our economic woes have been caused in large part by an unsustainable increase in housing prices, which are now falling back to earth.

Some of the blame must go to politicians like Democratic Rep. Barney Frank, whose prognosticating abilities were evident five years ago when he fought reform of Fannie Mae and Freddie Mac by claiming they do not pose "a problem with a threat to the Treasury." Whoops.

Now these same Washington soothsayers are predicting that today's economic troubles can be ameliorated by propping up real estate prices. Reps. Frank and Nancy Pelosi said last week that it's "essential" to partially guarantee 1.5 million mortgages, and President-elect Barack Obama also wants "direct, immediate assistance for homeowners." (See related CBS News video.)

Meanwhile, the Bush administration is horrified that Americans are saving money and banks are returning to the tighter lending rules they used a few years ago. It announced this week two different programs totaling $800 billion that could, in part, goose house prices by lowering mortgage rates.

On Capitol Hill, house builders have been swarming like houseflies. Toll Brothers wants Congress to "stimulate demand by reducing mortgage rates and fees" and creating more tax incentives to buy homes. The Wall Street Journal reported on Monday that builders are "ramping up" lobbying efforts.

In reality, more government intervention will do more harm than good. The sooner prices are allowed to naturally fall to normal, post-bubble levels, and the sooner that houses become affordable, the sooner the economy can heal itself and start growing instead of contracting.

By way of analogy, imagine a reprise of the Dutch tulip mania of 1637. Say the price of tulip bulbs has grown handsomely in the last few years, and impressive fortunes were made by early speculators.

Bidding wars erupt, with the winners hoping to resell them the bulbs at a handsome profit months or years later. Cable TV hosts proclaim that a golden age of prosperity has dawned. Prized bulbs change hands for $1 million each, and skeptics are reviled as doomsayers.

Eventually this boom leads to a bust, as new buyers become scarce, and the price of tulip bulbs suffers a dizzying fall down to $10 each. Speculators complain to Congress. Politicians pledge to use tax dollars to purchase bulbs for $1,000 or $10,000, invoking phrases like "stability" and "liquidity crisis," or offering taxpayer-backed loan guarantees to speculators.

This would sound silly for tulips, but it's close to what's happening for houses. All this will do is slow -- and not arrest -- the process of prices falling. Not even the president of the United States can veto the laws of supply and demand.

It's difficult to convince someone to buy a tulip bulb (or house) today if he thinks the price will be a lot lower in a year. Worse, government spending diverts funds away from productive purposes, including investment, education, and infrastructure.

By usual metrics, such as the ratio of prices to incomes, the ratio of rents to mortgages, and the ratio of current prices to expected ones, some areas of the country still look pretty bubbly.

In the decade ending August 2008, according to S&P Case-Shiller data, house prices in New York metropolitan area leaped by 2.2 times, though incomes grew only modestly. The Washington, D.C. area experienced a 2.1-fold jump -- while non-bubbly areas like Cleveland saw an increase of a mere 1.17 times, which is consistent with incomes and inflation.

The median family income in Allentown, Penn. is $46,400, and the median home price is $125,000, meaning houses tend to cost 2.7x the median income. Compare that to San Francisco, where homes consume a whopping 11.6x the median annual salary.

Robert Shiller, who teaches economics at Yale University, has calculated that housing prices have remained remarkably constant from 1890 through 1998, rising only 13 percent when adjusted for inflation -- through world wars, the automobile, and the rise of the two-income family. When the dot-com bubble burst, money flowed into real estate, encouraged by the Federal Reserve cutting interest rates more than prudence allowed.

Which brings us back to a taxpayer-funded "rescue" of homeowners. It's true that many people who bought homes in the last decade acted responsibly, made sizable down payments, and purchased a house within their means; they owe more than they paid through no fault of their own.

On the other hand, many people were speculators, fibbing about their income, lying about their assets, and treating their house as an ATM to finance cruises and flat screen TVs. Many banks were in on the game, knowingly placing people in homes they couldn't afford. Even if a bailout is justified, Washington is in no position to determine who's deserving and not. Any bailout punishes renters and Americans who were fiscally responsible by taxing them to benefit those who weren't.

Prices in some areas need to fall, and the market needs to return to normal. Eventually it will. All Washington can do is prolong the pain.

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Declan McCullagh is the chief political correspondent for CNET. He previously was Wired's Washington bureau chief and a reporter for Time.com and Time magazine in Washington, D.C. He has taught journalism, public policy, and First Amendment law. He is an occasional programmer, avid analog and digital photographer, and lives in the San Francisco Bay area. His e-mail address is [e-mail]

[chad55555]

If home prices fall so does everything else,when wages and income falls home prices are still too high,as you can see it''s a catch 22. No good will come from either home prices falling or wages falling.DAMNED IF HOME PRICES DOES FALL AND DAMNED IF IT DON"T.NO WAY OUT OF THIS MESS.

[standlee5]

It''s the change we''ve been hoping for. The new America where failure is obsolete and anyone and everyone is guaranteed a winner. They teach it in schools and are now learning it in real life.

[farnorth5]

As an observer from the area north of your fine country,I was struck by the fact that Real estate prices dont swing either direction the same way.The difference is no Residential Mortgages can be issued unless they are 35 year term or less and there is a 5% minimum down payment,plus and this is the important part,if you have less than 20% down there must be mortgage default insurance which costs an extra 1% or so.This means that the Insurance Company rep.in effect is always looking to see the paperwork is correct and the buyer really can afford to buy same.At the present time only about 5% of people are in technical default.Generally prices have come down on average about 6% over this past two years.Simple and clear regulation really does matter in the long run.BTW Happy Thanksgiving to everyone and best of luck in the New Year.

[wl7bzh]

By your analysis
we should look at the US dollar &
see that it also is propped up to unrealistic levels.
All amerika is overvalued in relation to the rest of the world. The treasury is just printing money out of
worthless paper. The buck is a duck & will go under water.

Posted by Markangeloo at 01:01 PM : Nov 27, 2008

Simplistic, but to the point-kinda catchy too.

My compliments to the Chef.

[sebastian27-2009]

Amen!to the concept of letting housing stabilize on it''s own. Americans have been sold on the concept that house always go up, never down. Not true! When I was selling real estate in the sixties and seventies there was a rule that usually held pretty true that if you had to sell your home in less than 3 years after you bought it, you would not get all of you money back. This was especially true if you bought in a subdivision that was still in the development stage as most buyers would buy a new house rather than a used one, even if the used house had value added by window coverings, land scaping etc. Of course, all real estate prices are local, depending on other factors such as the local economy.

[whitemale08]

As the economy continues to be reamed by the failed Presidency of George W. Bush and Ronald Reagan''s phylosophy of ''trickle-down'',

Americans are hunkering down this holiday season by taking that ''local vacation'' and wallowing in their stupidity to believe that ''home-equity-credit lines'' to take cruise to the Bahamas.

May we learn the error of our ways and get to work on rebuilding the ''industrial America'' that made us great!

NO MORE SUPPLY-SIDE-TRICKLE-DOWN-WALMART-HOME-DEPOT-SERVICE-SECTOR-CONSUMER-LED-DEBT-BASED-ECONOMY!!!!!

Good riddance!

[mollydtt]

I live in Austin, where property values keep climbing at an alarming rate. I wish my home''s value would go down so I could afford the property taxes.

That said, when is the last time someone bought a house, then a year later it goes up in value resulting in a new mortgage. Never. If the value goes down, you can''t cry that you are being cheated somehow with an unfair mortgage.

Sorry, but people know it is a real risk when buying any kind of property---it can go up, or it can go down, and you buy it, because you know you can afford it, and not because you plan to sell in a short amount of time. I was hoping to live in my house for a long time, but I won''t be able to keep up with the taxes. Same problem, but for different reasons.

[markangeloo]

By your analysis
we should look at the US dollar &
see that it also is propped up to unrealistic levels.
All amerika is overvalued in relation to the rest of the world. The treasury is just printing money out of
worthless paper. The buck is a duck & will go under water.

[jowand]

This total housing-subprime fiasco is because people who should never have been given a mortgage to begin with. They had trash credit and lied about, with the aid of the loan officer, their jobs and earnings.
80 percent of the mortgages in default are people who fit this description.

[riddelup]

It is not just homes which were overvalued but assets have been overvalued across the board, Assets like oil which are very liquid have fallen and the market has stabilized and the economies which are defendant on that market are adjusting. The governments of economies which do not allow adjustment are due for more problems caused by their interference.

[hotwitch]

Property values have dropped as far they''re going to go, in many markets. Around here, it''s as cheap or cheaper to pay a mortgage on a $200,000 house ($160,000 financed, 20% down) than it is to rent a 2 bedroom apartment. If you want housing values to rise, and not bring back easy credit, then wages must rise.

[berniepeders]

When my wife and I bought our home back in 1994, we barely qualified for the mortgage. We bought the house for $79,900 and put $10,000 down, so our mortgage was for $69,900, at 6.5% interest. When we were able to refinance several years ago at 4.875%, we did it. We live WITHIN OUR MEANS! Doesn''t anyone out there understand this concept anymore? I can''t work up to much sympathy for people who ''bit off more than they could chew'' simply because the banks had lots of easy money.
Peace

[omnibus66]

Property values are down, and it is unlikely that anything the federal government does will change that anytime soon.

Besides, unless you are going to sell your house, what difference does its market value make? Your local government is going to raise your valuation every year regardless, so that they can collect (steal) more money from you. I know mine does.

Some expert on one of the news channels yesterday said that the money the government is wasting on this situation could pay off every mortgage in this country. Every mortgage on every home in this country, not just the ones in foreclosure. Something to think about.

But then, the mortgage companies and banks wouldn''t be in business anymore, would they? That''s why they''re giving the money to the banks and screuuing the rest of us.

[r9119111]

The true value of a house is what people in a given area can afford to pay and live within their means. One person in a family, working for a living, should be able to support that family. A truly free market should adjust the prices so that ordinary people making reasonable wages doesn''t have to struggle to survive. This idea of buy now and pay later will need to be either fairly regulated or eliminated altogether. The idea that two people must work two jobs each in order to survive is killing people and ruthlessly tearing families apart.

Supporting house prices at this level is rediculously unrealistic. Consumers are learning to vote with their money and are finding that they must be honest about their finances. Living beyond our means is not an option we can afford.

Happy Thanksgiving everyone.

[doctxt]

The value of any home in the US is based on the needs of the city or town where it is. Ask any Tax Assessor.

Real Estate value is not created or manipulated by any other means.

Bailout? Why? The "Real "Estate" is still there. The only ones getting bailed out are those responsible for this whole mess.

The purpose for the bailout to keep "property value" %u201CInflatedly%u201D high. If the housing market corrected itself now, city and town governments wound find themselves in shutdown mode.

[oneworldusa]

Hmmm....I got an assessment today. Up 74k over last year. Really? The local government doesn''t seem to think housing prices are falling AT ALL. But then, should I be surprised? They collect their taxes on what they presume a home is worth.

[rebelscout]

If you do your homework you will find out that Greenspan was part of the problem.

[ctla567]

Builders build more and more expensives houses so they can make more profits. Those builders deserve to be out of work.

[cbsblogger]

Why are we propping up the financial secotor as it had a huge part in creating this bubble? Let''s let the chips fall and bail out only those who actually had FDIC insurance.

[runningralph]

omded has it right. jonsid2 has interesting insight. Financial bubbles must pop. Alan Greenspan warned of irrational exuberance. Only conservative policies can prevent bubbles.