housing deflation
Source Jim Devine
Date 06/03/01/21:25

[alas, this useful article elides the macroeconomic impact of
housing-price deflation, which might be the straw that breaks the back
of the consumer borrowing-and-spending boom, encouraging recession.]

March 1, 2006/New York TIMES.

Don't Fear the Bubble That Bursts

YOU remember the great real estate crash of the 1990's, don't you?

In New York, inflation-adjusted prices dropped almost a third in less
than a decade. The fall was even worse in Los Angeles, and it wasn't
pretty in Boston, San Francisco or Washington, either. Thousands of
families were forced into much smaller homes. Many have never lived as
well as they did in those giddy pre-crash years. It was a painful
preview of what the dot-com meltdown of 2000 would bring.

What? You don't remember any of this? You think I just made up those
numbers about plummeting house values?

I didn't. The real estate crash really happened. The median house
price in the New York area fell 12 percent from 1988 to 1995, which is
nearly 33 percent in inflation-adjusted terms.

But the rest of it did not happen. Large numbers of people did not
lose their homes. If anything, the drop in prices allowed a lot of
families to buy their first house or trade up to one that they never
could have afforded in the 1980's. You may know one or two people like
this, and they probably still annoy you by bragging about the great
deal they got.

Now it looks as if we might be about to go through it all again. Talk
of a bubble about to burst is everywhere. Houses are taking longer to
sell, and sales of new homes are falling.

But instead of panicking, most homeowners should be taking a deep
breath. The real estate slump of 2006 offers a fresh chance to
puncture the No. 1 myth about the nation's No. 1 topic of
conversation: the idea that we should all be rooting for high house
prices. The myth is good for real estate agents, but it creates
needless anxiety for everyone else. It's time that most of us learned
to stop worrying and love the bursting bubble.

"Even in the most vulnerable markets, most people just have to look
through it and ignore it," said Mark Zandi, the chief economist of
Moody's, "because it's of very little relevance to them."

That's the good news. The bad news is that a big part of the country's
economic policy has been built on the myth.

THE best way to think about the value of your house at least in the
short term might be to compare it to Monopoly money. Having a big
pile of it feels good, but you can't really spend it.

As long as you are living in the house, you have no way to lock in
your gains. Yes, you can borrow against those gains, but new debt is
not exactly found money. And when you move, odds are that you will go
someplace that has a real estate market very much like yours. Whatever
profit you make you will just plow back into a new home.

This is why the housing boom of the last decade, unlike the dot-com
frenzy, has not made many people rich. Everyone knows stories about
Microsoft millionaires, AOL millionaires, even millionaires.
But do you know anyone who retired at age 35 after selling her condo
in San Francisco?

Obviously, there are exceptions people who do have a very real stake
in the short-term value of their house. (And a rapid drop in house
prices would be a problem because of the broader economic damage it
would cause.) Somebody who is planning to move from California to
Iowa, and retire on the proceeds, would be hurt by falling prices in
California. The same goes for anyone about to move to a much smaller

Worst off would be the families who have borrowed heavily against
their homes. For them, a price drop could erase all of their equity,
leaving them with no money for a down payment when they move. This
happened to some Californians in the 1990's.

But the victims of a moderate price decline don't come close to making
up a majority of Americans. At most, 10 percent of households are so
leveraged that their mortgage debt equals at least nine-tenths of
their home's value, Mr. Zandi said.

Compare this with the more than 30 percent of families that don't own
a home and clearly have nothing to gain from further price increases.
Or all the young families that hope to move sometime soon into a house
that's larger, and more expensive, than their current one.

So there is a good argument that society has a compelling interest in
keeping house prices from getting too high. Reasonable prices allow
young, middle-class families to buy a house without going into too
much debt. They also let people live where they want. Right now, there
are a growing number of workers making long commutes from places like
Hagerstown, Md., and Stockton, Calif., solely because they cannot
afford a decent-size house in a close-in suburb.

They can blame our tax policy for part of their plight. It pushes up
home prices by handing out $80 billion a year in subsidies for home
ownership, mainly through the mortgage interest deduction. People who
get that deduction love it, for the same reason that any of us would
love a government policy that sent us a few thousand dollars every

But there really is no sound argument in favor of it. It
overwhelmingly benefits well-off families who would buy a home even if
it didn't exist. About 70 percent of tax filers get nothing from the
deduction, in large part because many don't make enough money to
itemize their tax returns. Consider that other countries without the
deduction, like Australia and Britain, have home ownership rates just
as high as this country does.

A more sensible policy would use the $80 billion in a way that helped
people much more than artificially high house prices do by expanding
health insurance, say, or cutting taxes across the board. In fact, a
tax panel appointed by President Bush recently called for the mortgage
deduction to be replaced by a smaller and fairer tax break.

Unfortunately, Mr. Bush shows no interest in getting behind his own
panel's ideas. He seems more inclined to listen to the National
Association of Realtors, which has warned that reducing the mortgage
deduction would surely cause house prices to fall.

To which the rest of us should say: And what's so bad about that?

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