2009 June 14 Sunday
Housing Price Decline Seen As Long Lasting

James Quinn points out that Yale economist Robert Schiller expects the housing downturn to last for several years if past patterns repeat.

Prices have now declined back within the range seen during the period from the  1970s through the 1990s. This is why the eternal optimists are proclaiming a housing bottom. These people donít seem to understand the concept of averages. An average is created by prices being above average for a period of time and then below average for a period of time. The current downturn will over correct to the downside. The most respected housing expert on the planet, Robert Shiller, recently gave his opinion on the future of our housing market:

ďEven the federal government has projected price decreases through 2010. As a baseline, the stress tests recently performed on big banks included a total fall in housing prices of 41 percent from 2006 through 2010. Their ďmore adverseĒ forecast projected a drop of 48 percent ó suggesting that important housing ratios, like price to rent, and price to construction cost ó would fall to their lowest levels in 20 years. Long declines do happen with some regularity. And despite the uptick last week in pending home sales and recent improvement in consumer confidence, we still appear to be in a continuing price decline. After the bursting of the Japanese housing bubble in 1991, land prices in Japanís major cities fell every single year for 15 consecutive years. Even if there is a quick end to the recession, the housing marketís poor performance may linger. After the last home price boom, which ended about the time of the 1990-91 recession, home prices did not start moving upward, even incrementally, until 1997.Ē

Americans have built up a lot more debt than they had in 1991. So recovery looks like it should be slow when it comes.

Quinn says Americans are far too indebted and blames the banks and the Federal Reserve.

When this debt binge began in 1982, the profits of financial companies accounted for 7% of all U.S. company profits. At the peak in 2006, they accounted for more than 30% of all U.S. company profits. This is why the money managers own the yachts, not the customers. The banking industry, backed by its sugar daddy the Federal Reserve, has enslaved the most of America in their web of debt.

I see the lesson here that easy credit is a bad idea. A substantial fraction of the population can no more handle easy credit than they can handle heroin or cocaine. We were better off when consumer debt was a lot harder to get because people are vulnerable to vices including vice of spend now to pay later.

Robert L. Rodriguez, Chief Executive Officer of money managers First Pacific Advisors, says the federal government's subsidization of consumer lending amounts to giving heroin to a heroin addict but people are going to increase their savings rates in spite of government intervention in credit markets. Could he be right on the consumer response?

Misguided measures to re-stimulate consumer borrowing, beyond just getting the system functioning, are highly questionable. The combined collapses of stocks and housing prices have pummeled the U.S. householdís net worth by an estimated $12.7 trillion, according to the Federal Reserve, while ISI International estimates it to be in the area of $14 trillion. This net worth destruction is the most severe since the Great Depression. We have a news flash for the government, creating new credit programs for a consumer who was spending almost $1.1 trillion more than they were earning in spendable income, according to MacroMavenís estimate, will be a non-starter. More leverage is not what they need. Encouraging the consumer to take on more debt is like trying to help a recovering heroin addict lessen his pain by providing him with more heroin.

A dramatic rise in the U.S. personal savings rate will be required to begin the mending process of the consumerís balance sheet. I expect the U.S. personal savings rate will rise from 2% to 8% this year and remain at an elevated level for the foreseeable future. This process should increase savings by approximately $650 billion annually. An increase of this magnitude, in such a brief period, is unprecedented, other than during WW2, when it rose from 12% to 24% between 1941 and 1942. Assuming some earnings on this incremental savings and a partial recovery in the stock and real-estate markets, it will likely take ten years for the consumerís net worth to return to its pre-crisis level.

I would like to know why this guy thinks our savings rate will go that high. If it does go that high how will people invest their savings?

Quinn says household debt service is higher than the 30 year average and so consumers are vulnerable to rising interest rates.

Anyone anticipating a consumer-led recovery is counting on consumers who have been whacked in the head with a 2 by 4 to stagger to their feet and say, thank you sir may I have another? Even with interest rates at extremely low levels, household debt service is 14% of disposable income, versus the 30 year average of 12.1%. As interest rates rise, this burden will break the consumerís back. The only way to avoid this fate is a substantial pay down of debt.

I would also add that they are vulnerable to Peak Oil. Plus, America's demographics are deteriorating with an aging population and a large and growing non-Asian minority (or NAM) population that performs poorly in schools and in the work place. The American labor force's earnings power is weakening.

Share |      By Randall Parker at 2009 June 14 08:36 PM  Economics Housing

averros said at June 19, 2009 10:32 PM:

With the government printing money like crazy carrying debt (if used to buy value-preserving assets) is actually quite sane - as long as the real inflation (best measured by MZM index, not by the voodoo crap like CPI) exceeds sum of debt interest and asset depreciation.

Getting into debt to buy consumable goods is, of course, silly - except in emergency.

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