May 12, 2021

Economic View: Why Home Prices Change (or Don’t)

WHAT prices will today’s home buyers get if they sell a decade from now?

Most people live in their home for many years. They don’t need to view it as an investment at all, but if they do, they surely need a long forecasting horizon.

The problem is that modern economics has a poor understanding of past movements in home prices. And that makes the task of predicting the state of the market in 2023 challenging, at the very least. Still, we can learn something by analyzing the factors that affect home prices in general.

There has been some good news lately: home prices have risen over the last year, and with those gains there has been a renewed sense of optimism. But do these price increases mean that homes are now good investments for the long haul?

Unfortunately, no. We do know one thing from economic research: one-year home price increases, after correcting for inflation, have had almost no statistical relationship to increases 10 years down the road. Thus, the upturn last year is irrelevant to long-run forecasting. Booms are typically followed by busts, usually in far less than 10 years. In a decade, an entire housing boom, if there is one in inflation-corrected terms, is likely to have been reversed and completely washed away.

Inflation has a major impact on long-term home prices. So do the costs of construction. We’ll examine these factors now, and turn to other important influences like speculative pressures and cultural and demographic trends in subsequent columns.

Home prices look remarkably stable when corrected for inflation. Over the 100 years ending in 1990 — before the recent housing boom — real home prices rose only 0.2 percent a year, on average. The smallness of that increase seems best explained by rising productivity in construction, which offset increasing costs of land and labor.

Of course, home prices are likely to be much higher in 2023 when measured in nominal dollars — those that aren’t inflation-adjusted. Inflation is the deliberate policy of the Federal Reserve, with a target rate now of 2 percent a year as measured by the personal consumption expenditure deflator, or about 2.4 percent on the Consumer Price Index. At those rates, nominal prices will be roughly 25 percent higher, over all, in a decade.

All else equal, the current Fed policy would have this effect: a home selling for $200,000 today will sell for around $250,000 in 2023, though the real price — corrected for inflation — would be unchanged. But because people often forget to correct for inflation, they may have the illusion that the market is improving.

In an ideal world, steady and uniform inflation would have no effect on rational decision-making because it affects incomes as well as prices. But in the real world, inflation does affect our psychology. People feel more optimistic when their nominal pay rises or when a neighbor’s house sold for more than they paid for theirs. But in thinking about investments for the long term, we should focus on fundamentals — on real, inflation-corrected values and on the economics behind them.

Here is a harsh truth about homeownership: Over the long haul, it’s hard for homes to compete with the stock market in real appreciation. That’s because companies whose shares are traded on a stock exchange retain a good share of their earnings to plow back into the business. The business should grow and its real stock price should also grow through time — unless the company makes poor decisions, as some certainly do.

By contrast, real home prices should decline with time, except to the extent that households shell out some money and plow back some of their incomes into maintenance and improvements, because homes wear out and go out of style.

Housing is an ambiguous investment to evaluate, because a good part of its real return typically comes in its providing a place to live, not in providing dividends paid in cash. For example, a homeowner may gradually realize that she doesn’t need all of the space in her house, but may not be emotionally prepared to start recapturing some of its economic value. The owner may not want to take in roomers, to use the old phrase, just as a modern renter may not want to live in a room in someone else’s home (though new markets like airbnb.com are aiming to change that mind-set).

Next week, a look at real estate bubbles. Robert J. Shiller is the Sterling Professor of Economics at Yale.

Article source: http://www.nytimes.com/2013/04/14/business/why-home-prices-change-or-dont.html?partner=rss&emc=rss

Economix Blog: George Shultz on Politics and Budgets

I called George Shultz, the former more-or-less everything, this week to see what he thought of the government now. I discovered that he is rankled by the budget process but impressed by at least one candidate for the Republican presidential nomination.

And I found that a long perspective can serve as a reminder that life is not made up of one disaster after another.

“It’s an interesting thing to look back and see how much turmoil we have in the last 100 years, and how it also has been a period of great progress,” he said, mentioning the reduction in poverty and increase in life expectancy around the world. “In many respects, the U.S. had a big hand in creating a global commons that everyone benefited from, including us.”

On Monday, he will receive the Economics Club of New York Award for Leadership Excellence, and he told me he had no desire to scoop his speech, which will discuss the world as he sees it now.

But he did say the current budget process “is undoubtedly a catastrophe. We are living in continuing resolutions. They don’t have any thought in them. They just continue things.”

He spoke wistfully of the days when the presidents and congresses of different parties were able to reach agreement on budgets. “From what I read,” he said of the current poisoned atmosphere in Washington, “it is not recognizable.”

Mr. Shultz was a young White House economist in the Eisenhower administration. He served as secretary of labor, as budget director and as Treasury secretary in the Nixon administration, and as an economic adviser and as secretary of state under Ronald Reagan.

“And,” he told me, “I did things for Kennedy and Johnson.”

When he was not working for the government, he taught at the Massachusetts Institute of Technology, Chicago and Stanford, and was president of Bechtel, a large construction company.

I pointed out that doing things for presidents from the other party was now considered a political liability in some circles, noting the criticism of Jon M. Huntsman Jr., the former Utah governor, for serving as ambassador to China under President Obama. Mr. Huntsman’s campaign for the Republican presidential nomination has yet to catch fire.

“Why,” asked Mr. Shultz, “don’t we elect somebody who is patriotic, competent, sensible, has experience in government and has shown that he can manage well?”

He said Mr. Huntsman had greatly impressed people in Singapore, where he was George H.W. Bush’s ambassador before he was elected governor, adding that impressing Singaporeans was not easy.

Mr. Shultz said he was not ready to endorse anybody, but he passed up the chance to volunteer nice things about any of the other candidates.

Of Mr. Huntsman, he said, “He looks a lot better to me than he does in the polls.”

Article source: http://feeds.nytimes.com/click.phdo?i=18e76a23d4bf7452aa824a67c56c9b14