real estate

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Home Prices Rise – Again

Perhaps we’ve finally touched bottom in the housing market. The monthly Case-Shiller Index reports that home prices rose for the fourth straight month in July. The gain was very modest at 0.9% compared with June, and was still 4.1% below July 2010, but there may be the semblance of a trend appearing. It had to happen sometime – prices are 31% off their 2005 peak and even the most pessimistic of us has to agree that they will eventually firm up.

I have suggested before that we had overshot prices on the downside, meaning that just as irrational enthusiasm pumped them up to ridiculous and unsustainable levels in the 2001 through 2005 mania, the subsequent decline has been equally as sharp, perhaps too much so. The decline as we know was fueled by a combination of economic collapse, the subsequent debt retrenchment of households, and the chaos caused by the flood of distressed sales, foreclosures, and banking implosion. The retreat in prices now appears to have gone a little too far. The numbing effect of the unwinding of the bubble has left households extraordinarily cautious about taking on new debt – even in those cases where the capacity to take on debt exists. There continues to be a belief that prices will fall further which becomes self-fulfilling since it withdraws demand and thus presses prices down. Similarly that banks are over-reacting to their stupidity on the upside by tightening credit conditions more than the market calls for in order to compensate for the toxicity of their old portfolios. And the ongoing failure to deal with the jobless nature of the recovery is having a negative effect on consumer psychology even when the actual threat of job losses has eased somewhat.

In other words fear grips the market and forces it to drop below levels supported by incomes and other normal factors.

So it might be that the slight bounce in prices is simply the market creeping back to a low, but more sustainable price level.

Sustainable, that is, given the economy’s evident weakness.

I am not suggesting a return to the absurdity of the bubble. I am simply arguing that the continuous plummet down has abated and the market is trying to find its feet at a new and much diminished level. This will, I think, take time. Indeed the gains of the past four months may disappear if the economy does not begin to improve substantially, so the risk is more down than up.

All of this, of course, needs to be taken with a gigantic grain of salt. While I normally place a great deal of value on long term trends and relationships, especially in real estate, which is why I warned about the bubble to begin with, I am also mindful that within the current malaise those relationships may have broken down. In which case my argument that we have overshot on the downside should be set aside. Then again that would go for pretty much all analysis and we would be simply grasping at straws.

Nonetheless, and for now, house prices appear to be finding their feet. The pressure from foreclosures will continue, but seems to have crested. Incomes are not going anywhere, but debt levels are declining, so purchasing power is slowly returning. This is still a buyer’s market, especially considering the “shadow” inventory of homes people would like to sell but prefer not to at current prices. But the worst is over.

I don’t expect the real estate market to get back to “normality” until 2014/2015 – the backlog of foreclosures, high unemployment, and weak incomes prevent it – but we are taking the first tentative steps in that direction.

Phew.

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Home Sales Bounce Up

Committed as I am to the spirit of balance, I have to report briefly on today’s good news. Sales of existing homes rose 7.7% in August. Of course they are still way below the unsustainable pace reached at the peak of the bubble – they are pottering along at an annual rate of about 4.9 million units, compared with the white hot 7.08 million of 2007. Still a bounce up is a bounce up. We should cheer.

What happened?

Well nothing fundamental. Rents have risen a little making the monthly cost of purchasing more competitive; mortgage rates are near all time lows, for those who qualify; and there seems to have been a push to buy before the top level for a conforming loan is dropped from its temporary high. For those of you who don’t know what that is: a conforming loan is one that meets the FHA underwriting requirements, one of which is the amount of the loan. As a temporary, and ill-fated, attempt to boost real estate the FHA raised the ceiling on the amount considered as acceptable. That temporary ceiling fell victim to the Republican desire to cut government intervention and so is about to drop. The problem is that in some parts of the country home prices ensure that pretty mush all loans violate the conforming ceiling even with a healthy downpayment. With the ceiling about to drop it appears many buyers rushed to buy and thus qualify for the larger loans, thus boosting sales. We will have to wait to see by how much.

And, of course, another factor in boosting sales was the steady drop in prices that now seems to be continuing beyond levels suggested by market conditions. The median price of a home was $168,300, down a little over 5% from last year.

Lastly we should recognize the pressure on sales created by the influx of foreclosed homes. Distressed sales accounted for 31% of all sales in August, slightly up from July, and led to a wider gap between the price of new homes and existing homes. That gap is now about $50,000, much larger than normal, and reflects the downward pressure on prices that the unwinding of the bubble is still exerting.

So, all in all, I cannot argue that this bounce up in sales looks sustainable. There were too many oddball contributions to it, and the backlog of foreclosed homes will weigh down on the market for a while longer. The unsold inventory of homes is roughly equivalent to 8.5 months of sales. In the past – no guarantee of the future as we all know – an unsold inventory of closer to 7 months has been the point at which prices start to firm up and bidding on homes pushes up rather than down. At current sales rates, and with a huge shadow inventory of homes not officially for sale but with owners keen to sell anyway, I cannot see prices settling or rising any time soon. Indeed the downward pressure could linger well beyond next year and into 2014/2015.

One interesting side note: there is considerable indication that we have now overshot the bottom in real estate. This means sales and prices, while still weak and trending down, are not fully reflective of long term trends, but are being established by short term adjustments. If – a huge if I realize – we arrive at a more stable economic pattern of growth, prices are likely to rise to take this overshoot into account; plus we will need to have a rapid climb in construction to overcome what appears to be a shortage of housing. This sounds peculiar in our current circumstances, but makes sense with respect to the longer term trends and demographic pressure. Caution: even when those increases show up – if they show up – we will not be caught in a bubble like rise. Your return will be higher from other investments, so don’t go speculating in real estate!

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Word of The Week: Moribund?

Moribund. Work the word around in your mouth. Pronounce it carefully. Mull it over. Moribund.

It’s the perfect word to describe so much of our economy. Take housing for example.

Moribund is the perfect word to describe real estate right now. Yesterday we read the homebuilder’s report. This is a survey of developers and others in the construction business. It measures their level of optimism. As with many such indices a result of over 50 implies that more than half of those surveyed saw business improving. September’s index reading edged down one point suggesting that the industry took a slight turn for the worse. Then again it’s hard to imagine how much worse things could be because after that slight decline the index now stands at 14. Yes. 14. If that isn’t a good description of a moribund industry I don’t know what is. And it isn’t as if this is a temporary phenomenon: the index has hovered between 13 and 16 for the past six months.

As if to rub salt in the wounds, we learned today that new home construction is sagging even further. Builders began construction of only 571,000 new homes in August, down 5% from July. The damage was spread across the country, but the Northeast was particularly hurt. Starts there suffered a sharp decline, especially in the construction of multi-home buildings. For most of this summer construction has limped along at about half the rate we would expect in a robust economy.

And there is no sign of improvement on the horizon.

Millions of households are locked into homes with their mortgage higher than the home value. So they cannot move without recognizing a loss. This takes away a great deal of activity in the real estate market: American typically change homes about every five years. Clearly in our era of depressed activity that amount of movement is a thing of the past. No only this but the lingering problems in the jobs market and the continuing rotten wage outlook so dampen the prospect for recovery in construction that the word moribund sounds almost optimistic.

What to do?

Well don’t ask our politicians or our business leaders. Their ideas are definitely moribund. Perniciously so.

Apparently our elite has decided to engage in a re-enactment. Instead of debating today’s issues and tossing around some new ideas to energize the economy, engender growth, and solve the malaise, they have decided it would be cool to re-visit the arguments of bygone eras.

Some of them talk as if we are in the 1970’s. These are the ones who are terrified of inflation and want to scrunch down on the economy before we are swept away in a tidal wave of hyper inflation. Most of our central bankers seem to belong to this group. Paul Volcker being the latest to dredge up the inflation ghost from his far too vivid imagination. While core inflation has ticked up a tad recently, its current pace – about 2.0% – is hardly the stuff of Weimar proportions. I doubt we will be needing those wheelbarrows to carry our cash any time soon. So quite why Volcker and his ilk have decided to terrify us with tales of gloom and to pile on the agony of austerity 1970’s style I have no idea.

But at least those folks are relatively modern.

There are others, my favorite Republicans mainly, who have gone back further. They want to re-run the late 1800’s. They depend upon ideas developed by an odd mix of Central and East European thinkers who were commenting upon and reacting to issues in that part of the world before industrialization and democracy had altered the economy much. Those thinkers were driven crazy by the specter of peasants running amok and asserting rights that might muck up the smooth workings of the landed aristocracy and the newly emerging heroes of what appeared to be a brave new world: the entrepreneurs of early capitalism. Worse still, the decaying authoritarian regimes of the various empires that cluttered the political landscape provided those thinkers with a demon to argue against: the state was the enemy of modernization because the state was embodied, not in a democratic representative government subject to regular elective overthrow, but in a dynastic, parasitic, hereditary regime bent on self-preservation. No wonder the economic theories that emerged from that era are deliberately constructed to “prove” that markets benefit society and that governments are all evil, error prone, distractions. The conflict between the early classical economists, and especially the Central European members of that group, and the ancien regime was a worthy fight to have. Back then.

But, to mock Louis XIV, l’etat is decidedly not moi anymore. The dynasties are gone. That fight is old, and the weaponry used in that bygone age is dull, rusty, and, frankly, inappropriate, in our modern societies replete with representative government. No matter how inefficient that government might appear, it is representative. To argue that it is the enemy, is to suggest that democracy itself is the enemy.

In America with its republican, anti-democratic heritage – don’t tell me you think the Senate is democratic – those antiquated arguments against royal imposition still resonate. They have re-surfaced potently in our contemporary Republican party. They are of no use in solving our much more modern problems. Voters have spoken in favor of those entitlement programs. That a few sullen anti-social and anti-democratic libertarians view the taxes needed to pay for such programs as equivalent of 1800’s style imposition is quaint, but when baked into policy today, dangerous.

Yet here we are re-enacting the overthrow of the house of Hapsburg.

No wonder we aren’t making progress.

Moribund indeed.

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Bits and Pieces From the Front Line

Historians will surely love to reflect on these days. Each seems to bring some violent twist. Each adds to the amounting confusion. Each makes the story that much more difficult to tell.

Today we learned that last week’s apparent uptick in the labor market was an illusion. At least until next week. New claims for unemployment assistance rose once more above the 400,000 level – to 408,000. Last week they had managed to slide slightly below, although only by a hair to 399,000. Somewhere along the way we have altered our view of what a “good” new claims number is. At the beginning of this crisis I was saying that we needed to get down to the very low 300,000 range. Below 325,000 at any rate. That level would be more consistent with healthy turnover and sufficient job creation that we were not adding to our longer term problem. We haven’t been that low for what seems like an age now, and so we have steadily changed and adopted 400,000 as being the watershed figure. The media and the stock market now greet a number below 400,000 as a sign of better times. It is not. It is terrible for an economy this far along from the last peak of employment.

We should not recalibrate. We should demand action

But our generals are now engaged in trench warfare. Their have fallen to a lowest common denominator of incompetence. Only now – how many months into the disaster – does Obama get on the road and start to talk up various jobs programs. Who knew we had a jobs problem? No one paying attention to Washington and the issues being addressed there.

Meanwhile the troops – those of us outside of the magic circle – are reporting ever lower levels of confidence. Both consumer confidence and now business confidence are declining at alarming rates. This plunging confidence has two origins. One is that the economy is self-evidently not improving. Jobs are hard to come by, wages are stalled and actually falling in inflation adjusted terms, home prices are stuck deep in depression, banks are refusing to lend, and prices are lurching about, although there the trend is in the right direction. The second is the utter collapse of our political system. It has failed us totally. People are not so divorced from current events that they cannot see the insanity that is Congress. Never have we been so poorly led. And now the political class seems content to punt problem solving into the election cycle. As if that will make decision making easier.

In that regard I have to point out the Republican Rick Perry’s extraordinary activity. Never has a candidate entered the ring in so blustering a fashion. His statement that were the Fed to take action to pump up money supply in order to lift the economy such action should be considered treasonous is inexplicably stupid. Apparently the Republicans now think that any action between now and the election – about 14 months hence – is an act of political interference. It is a biased act. It is therefore undemocratic, and – in Perry speak – treasonous. This is beyond bizarre. No wonder the Wall Street Journal is floundering about trying to encourage more candidates to enter the field. The current batch is dangerous.

Another point on Perry: he is making a big deal of his pro-business one market credentials. This, he says, accounts for the supposed resilience of the Texas job market during the recession. Well, not so much. According to recent research what job growth there was in Texas over the past three years comes from an expansion of government, not private sector, employment. The private sector in Texas shrank. But that shrinkage was offset by a large number of new government jobs. So the Texas story is one of Keynesian success. Nice. And, in any case, we should all note that Texas has a rapidly growing population – it needs to add jobs at a faster furiously in order to keep up with population growth. It didn’t. It’s employment record falls short of Massachusetts and New York amongst others. Perry’s record is dismal.

My real problem with this is that we need Obama to be challenged and attacked on his record. Which is grim to say the least. The last thing we need is a Republican party so far to the right that it scares the electorate into unthinking support of Obama, who, frankly, deserves to lose.

Meanwhile we have to suffer through nonsense such as Warren Buffet asking to be taxed more highly. While the gesture is worthy, I must note that his much discussed article in the New York Times failed to mention that his solutions would not actually raise his tax rate by much. Perhaps we need to remedy that. At the every least we need to abolish the specious notion that income from capital and income from labor should be taxed at different rates. As the very wise English judge once said: “income tax is a tax on income”, we need to tax all income, whatever its source, at the same rate. And that includes inheritances, since an inheritance is a form of income to the generation receiving it.

Another thought: the rise in risk within the global economy has been associated with a decline in rates on US government bonds. I am still waiting for the deficit hawks to concede that inflation is not about to surge and thus undermine bond rates. This wait, I think may take a while. Instead we have to suffer listening to Plosser, a Fed governor, and one of the dissenting three who opposed the recent announcement that the Fed would keep rates low at least through 2013, repeat his argument – wrong policy at the wrong time – at every opportunity. People like Plosser are the reason we have so incoherent a leadership. They are pulling against the rest of us.

At any rate with rates this low we should be borrowing every dollar we can. And then investing it in capital projects that improve our long term competitive position. The problem with this is that public accounting fails miserably to distinguish between long term and short term spending. There is no national accounting capital account. So debt borrowed to build a productivity enhancing asset – something that adds to national wealth in the future, and which thus generates revenues to pay off the debt, is treated the same as debt used to plug the gap in current consumption. This is something we need to fix. It makes enormous sense to borrow long term money for infrastructure and education – two things that will add to the economy’s future wealth creating ability and thus help pay for the debt.

And before you MMT people write to tell me we should just print money to pay for the things we want, let me argue that, while in current circumstances mired as we are in a liquidity trap, printing money is a viable alternative, I see it as a problem down the road when, and if, we have emerged from that trap. You cannot conjure real goods and services from mid air no matter how much money you print. So there is a limit on the efficacy of MMT. Beyond that point the deficit hawks argument that a surge in money could lead to a surge in inflation comes back into play. Plosser would be right. His error is that he is making that argument, falsely, while we are stuck in a deep hole. It’s all about inflation expectations and the way they are formed: an unfettered printing press is a very different animal than a bond market with the latter’s implication of repayment and thus constraint.

The housing market is going nowhere. People forget that it was real estate construction, fueled by the bubble, that made the employment record of the last ten years look vaguely acceptable. Take it away and we have had a lost decade for jobs. And there is absolutely no sign that real estate is coming back. Sales of existing homes dropped 3.5% in July, back down to an annual rate of 4.67 million homes. To put that in context the peak rate back in 2005 was 7.08 million. One problem that has now added to the gloom is the number of sales contracts that fall through. In July 16% of all contracted sales failed to materialize. The reason for this historically high level of failure seems to be the inability of buyers to secure financing coupled with home valuations being well below the agreed contract price. This implies that people are willing to buy homes at prices that the banks think are too high. Plus there is no sign that the downward pressure on prices coming from distressed sales is abating: foreclosed and short sales comprised about 30% of the total number of sales, unchanged from June.

Lastly: the ineptitude of the economics profession continues to sadden me. Whenever someone advocates we should adopt Texas style lower than average wages in order to boost employment nationally I cringe. It isn’t possible for everyone to be lower than everyone else. By definition. The existence of lower wage states implies the existence of higher wage states. Duh. But we still see such suggestions being made in the Op-Ed pages of well known newspapers. And these folks have tenure. Some at very respected schools. Maybe we should give up that respect.

Or is that too radical?

Just add it to the list of reasons to have no confidence in our elite to solve our problems.

We are truly on our own.

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Stagnation Watch: GDP Wobbles

I will comment shortly about the farce that is Washington, but there is an economy to be concerned about. Not that anyone in Washington seems to care. So we ought.

This morning’s GDP report is a little worse than I expected, and, as you know, I have fairly low expectations. Looking back over the first half of the year all I can say is that we lost whatever momentum we had and don’t appear to be particularly capable of picking up the pace. The stark fact is that we are losing ground steadily against our historic trend; we are losing skills while so many people stay unemployed; we are way under using our resources; and we are, therefore, digging our long term hole much deeper.

This would be depressing under normal circumstances, but in a period of catastrophic political division and voter extremism, it is dire. Not only are we re-living the 1930’s economically, but we seem intent on repeating the political mistakes as well.

America is assuredly nuts.

What was the report?

GDP grew at a very low 1.3%. That follows a revised first quarter of a mere 0.4%. That combination is pathetic. It is disgusting for an economy supposedly in recovery. Were it not for the debt ceiling impasse we would all be calling for the heads of whoever is in charge. They have certainly failed us all. Then again, the vaunted American system of checks and balances has ensured that no one is in charge, so we can expect passionate and empty words as our ameliorative response.

This is what stagnation feels like. Get used to it.

This is the breakdown, I am including the first quarter for reference:

  • Personal Consumption added 0.07% to total GDP; [1.47% in Q1]
  • Private Fixed Investment added 0.87%; [0.47% in Q1]
  • Net Exports added 0.58%; [-0.34% in Q1]
  • Government Spending was cut and thus reduced GDP by -0.22%; [-1.23% in Q1]

All these numbers have large shifts in them, so it’s worth looking at them one by one.

Obviously the drop in personal consumption sticks out. At this point in a recovery we should be seeing robust consumption. Clearly households are not participating in anything resembling a normal recovery, so we should abandon the concept. I think we all know the reason for the stuttering nature of consumption: stagnant wages, rotten employment, and home prices in the tank. There is no magic in the explanation. That toxic mix produces a very choppy attitude. Durable goods expenditures dropped dramatically in the second quarter accounting for much of the quarterly shift. A drop in auto sales led the way. In contrast, spending on services chugged along at the same pace – 0.8% – as the first quarter, so there is some residual spending on smaller ticket items going on. It seems, as we would expect, that households are being very cautious about making large or long term commitments. Plus, as long as housing remains near dormant expenditure on new refrigerators, air conditioners and other expensive home related items will also remain very slow.

Fixed investment by the private sector still rose. One story we should take away from this is that businesses are palpably not frozen in place by policy uncertainties. This is a story we hear steadily from media and right of center analysts, who are arguing that the Obama administration is somehow “anti-business”. Were that narrative correct we should detect it in these investment figures. No such hesitancy is there, though. A better narrative, and a more simple one, is that in the face of low demand, business is looking to boost productivity via capital investment. Business can thus avoid hiring, and the associated wage costs, while adding to profit by making the existing workforce produce more. The benefit of this explanation is that it fits both to the fact of rising investment spending and to the continued malaise in the job market.

The net exports number is largely driven by a sharp movement in imports, although exports performed well also. The drop in imports was driven more by price changes – the unwinding of the earlier spike in commodity prices – that by volume changes. We should not expect this trend to continue, and so net exports will have to be driven more by export growth than import decline in the future. The gyrations in international currency markets will have a big say in whether exports can keep up any momentum, and with the Euro zone experiencing its own self-inflicted crisis, unease in trade could be less of a positive factor than many were hoping.

Lastly, government spending is showing the impact of the huge cuts being made at the state and local levels. Federal spending actually rose in the second quarter on the back of both safety net and defense activity, but local retrenchment more than offset any positive effects that might have. With all the lunacy in Washington, and the associated intent of all involved in that farce to attack spending, we can expect the government spending line in the national accounts to become a drag on growth for some time to come.

So.

Overall these figures are bad. The economy remains very volatile. It growing, but at a pace well below its capacity. There are more negative signs accumulating; consumption, which remains our core activity, is weak and seems unable to generate much momentum; investment is also growing, but not powerfully; net exports are OK but could run out of steam; and we are about to slow things down dramatically by instituting austerity in the Federal budget.

All in all: a weak outlook. Stagnation. As I said: get used to it.

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