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Thoughts on Housing Prices

Anthony Randazzo and David Godow
February 8, 2011, 8:31am

At the end of last year, Peter Schiff noted in a WSJ op-ed that, looking at historical trends, housing price still needed to drop further to get to where they should be without government supports. The finance analyst who famously predicted the financial crisis—with all cries falling on deaf ears—notes that "the home price boom that began in January 1998, when the previous 1989 peak was finally surpassed, topped out in June 2006... If we assume the bubble was artificial, we can instead imagine that home prices should have followed a more traditional path during that time. In stock-market terms, prices should have followed a trend line."

So where should prices be today? First, we know a few basic things. Price is influenced by both supply and demand. Holding demand constant, if supply remains constant or grows slightly—as has happened in the past few years with an over saturation of homes in certain areas and a growing shadow inventory due to growing foreclosures—then prices will decline. However, the government has been attempting to avoid those price declines by boosting demand, as with the First Time Homebuyers Credit. The Making Home Affordable programs, including HAMP, have sought to decrease the number of home foreclosures, adding to supply. And the Federal Reserve has worked to keep interest rates low, making mortgage prices cheap, and stimulating demand for housing among marginal buyers. We know that without those things. housing prices would have fallen lower than they have in the past three years. We just don't know exactly how low. 

Schiff has an estimate: "In January 1998 the 10-City Index was at 82.7. If home prices had followed the 3.35% annual 100 year trend line, then the index would have arrived at 126.7 in October 2010." Adding in November's data, made available since the Schiff op-ed was posted, the price index looks like this:

Case-Shiller 10-City

There is a clearly visible bump in the price index starting in March 2009 when a number of the programs to help housing started to kick in, including low interest rates and the first-time homebuyers credit. 

If you look at the same time period for the entire index, not just the top ten cities, a similar trend is visible, though the gap is much more narrow:

Case-Shiller National Composite

If you look at if you look at the change in housing prices year over year, it looks like we are pretty much back to zero price growth (instead of negative price growth).

Case-Shiller YoY

So it is difficult to speak with any absolute certainty on where housing prices stand. HousingWire reported last week, "S&P expects that it will take 49 months to clear the supply of distressed homes on the market in the U.S. — an 11% increase over the previous quarter and a considerable 40% increase from 4Q 2009." With this massive, looming shadow inventory on the horizon, we do know that the supply of homes at least hold steady over the next several years, if not expand. And with mortgage rates pretty much as low as they are going to go (interest rates are at zero and QE2 is not expected to change rates much), the demand for housing over the next few years will likely not skyrocket. Simply put: it is going to be difficult to quickly chip away at the inventory of homes. 

If mortgage prices rise and the demand for homes drops, then the prices of homes will decline as well. The basics of economics tell us so. But, again, they do not explain exactly how much the prices will decline. Schiff may be right. 


Anthony Randazzo is Director of Economic Research

David Godow is Research Assistant


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