Call It Wishful Thinking

Wednesday, August 27, 2008 | 09:30 AM

Today's guest post comes from Mark Thoma, who labors tirelessly in the pacific Northwest. Mark is a Professor of Economics at the University of Oregon, where he also pens the well regarded blog, Economist's View.

In today's guest commentary, Mark hits upon a subject near and dear to our hearts, the perennial Housing bottom callers. (see our earlier discussion of the anti-Cassandras).

Without further ado . . .


In the news today, I've been hearing once again that we are near the bottom of the housing cycle, the inevitable bottom call. For example, though the more optimistic analysts are a little more cautious than at times in the past, they still believe the end of the housing downturn may not be to far away:

Although U.S. home prices fell faster than ever in the second quarter, the rate of acceleration slowed in June... Experts hailed the slight deceleration as a harbinger of an eventual recovery in the dismal real estate market. ...[O]bservers seized upon a sliver of good news: ... "I consider it good news that you're seeing price declines decelerate," said Terrin Griffiths, economist and industry analyst with the California and Nevada Credit Union League. "While the markets haven't reached bottom, we're getting closer to there." [source]


Two announcements suggested that a bottom could be nearing for the housing market [source]

But enough quotes, you already know how this goes.

Hearing that "the end is near", that the bottom is in sight, I couldn't help but think about Barry and his reaction to bottom calls. Going back almost two years to November, 2006, this is a post of his called, appropriately, Near a Bottom in Housing?:

...I have been ... skeptical about the staying power of the most recent rally... The rally appears to be based on several false premises: A soft landing, a bottom in real estate, a mid-cycle slow down that resumes almost as soon as it starts.

Indeed, if the bulk of the housing recession is behind us, then this would go down in post-war history as one of the shallowest housing corrections on record.

This week, the news out of the Homebuilders belied the "Housing is Bottoming" meme. The simple truth is that 46 year low interest rates (~5.125%) created a generational boom in Housing construction, sales, investment, and speculation. Now that rates have increased..., and home prices have nearly doubled in 7 years, all the while inventory built to record levels -- the blush is off the rose.

And, moving forward another month, to December, 2006:

Yeah! Housing Will Recover in Q1!: Or so says the NAR:

"The worst of the U.S. housing slump is over, according to the National Association of Realtors. ...

David Lereah, NAR's chief economist "Most of the correction in home prices is behind us, but general gains in value next year will be modest by historical standards." Lereah did not offer any evidence for his statement.

Call it wishful thinking... The NAR has not shown itself to be a particularly astute forecaster... Calling the bottom in Real Estate has been a losing gambit this year. In addition to the NAR's chief economist, several other cheerleaders have erroneously called for the same, including former Fed Chief Alan Greenspan. They have so far been proven wrong. ...

Real housing bottoms require more than wishful thinking; They require solid evidence, and more than mere price reductions. A significant decrease in inventory, plus motivated sellers, would go a long way to seeing a bottom form. So far, we have yet to see any evidence of that.

As you read through Barry's posts, you can see his respect for NAR economists grow (e .g., "NAR economist Lawrence Yun? Puh-leeze! He's been optimistic housing would stabilize for years now."). In fact, I think the level of respect may be entering Greenspan territory, and we know how much respect Barry has for his housing calls (among other things). In case you missed his post on Greenspan a couple of weeks ago:

Recall Greenspan's first Real Estate bottom calling attempt came in late 2006... He repeated the calls many times since then. Most recently, in April 2008, when he said "the drop in U.S. home prices will probably end well before' early next year as the number of houses on the market diminishes, aiding an economic rebound."

Wow, that's three strike in just one swing: Inventory remains high, home prices continue to fall, and we are still waiting for the economic rebound

Many of today's current woes are traceable right back to Greenie: Keeping interest rates too low too long is just the start; his malfeasance in refusing to regulate the lending industry. -- Wessel politely called it "regulating too lightly" but that's horseshit -- Greenspan made the ideological decision to allow the free markets to just sort it all out. That's what's happening now, and no one likes it very much (except a few hard core free market types, who find it all delightfully anarchic)

So far, the bottom calls have been far off. But there will a bottom, and one of these days we'll get there. But when, and how will we know? What signs should we look for? Above, Barry says two things to watch for are:

A significant decrease in inventory, plus motivated sellers

Sellers may be motivated, but there hasn't been a significant decline in inventories:

[via Calculated Risk (larger)]

And the main point of the news today was that another thing we need for recovery to take place, price stabilization, may not be too far away. Is that correct?

Martin Feldstein is pushing his housing rescue plan in the Financial Times, the same one he's been pushing over the last few months (e.g. WSJ and Washington Post). The plan involves stabilizing housing prices to reduce foreclosures (through "mortgage replacement loans" from the government). He s ays:

The current decline of house prices is the natural result of the bubble that by 2006 had raised house prices to 60 per cent above their long-term trend. The sharp decline since then means that today's prices are about 15 per cent above the trend level. But while a further 15 per cent decline may be inevitable, there is nothing to stop prices declining even further.

This doesn't sound much like a bottom call:

The large and growing number of homeowners with negative equity will increase the rate of defaults and foreclosures and therefore drive the downward spiral of prices. Defaults are likely to accelerate as the ratio of the debt to the home value rises. ... Each such default puts downward pressure on existing prices, increasing the like-lihood of further defaults. It is this spiral that threatens the American economy and the global financial system.

The policies adopted until now will not stop the downward price spiral.

Are we near the bottom? Is the end near? I wish I could answer yes, but I think we have a ways to go yet. Paul Krugman says:

When will it all end? The answer is, probably not until 2010 or later.

I'm hoping it won't be that long, but so far the crisis has unfolded in an almost eerily slow fashion - sort of like watching a train wreck in slow motion and being unable to do anything about it - and there's no reason to think that will change.

Wednesday, August 27, 2008 | 09:30 AM | Permalink | Comments (70) | TrackBack (0) add to | digg digg this! | technorati add to technorati | email email this post



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I'm a mechanical engineer by trade so I "see" things in the physical sense. Let me give you a physical analogy to the bottom callers and the decreasing acceleration that I've grown so sick and tired of hearing about. If I jump out of a plane with no parachute, I accelerate (via gravity) until I reach a point that the air friction around me equals the force of gravity pulling me toward the earth. This point is called terminal velocity. The highest point of acceleration I experience is the instant I jump out the plane and it "decreases" to zero acceleration at terminal velocity. At terminal velocity I am no longer going faster or slower than I was a second before so my acceleration is zero. BTW – terminal velocity for a human is about 125 mph (store this trivia tidbit for use in just a second.) So the housing rate of acceleration slowed, SO WHAT!!!! At terminal velocity my acceleration has slowed to zero, BUT I'm still screaming toward the earth at 125 mph! The instant right before I face plant into Firma Terra, I'm still experiencing no acceleration. My point is the acceleration, while important, has NOTHING to do with calling a bottom in housing! The only thing that matters is the direction. If I'm still heading down then there is no bottom reached regardless of whether I'm headed down faster or slower (acceleration) than last period.

Posted by: Rob P. | Aug 27, 2008 9:50:58 AM

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