Caroline Baum of Bloomberg is one of my all-time favorite commentators on matters economic. She is rational, witty and rarely wrong. She starts out the new year true to form, regarding the housing market:
The demand curve is downward sloping. What that means is
demand for any good or service isn’t fixed. It depends on the
price. A $1,000 cashmere sweater will find a lot more takers
when it’s marked down to $500 in a post-Christmas sale. In
general, the lower the price, the greater the quantity demanded.
Producers respond in the opposite manner. Higher prices are
an incentive to provide more of a good or service, which is why
the supply curve is upward sloping.
The point at which consumers wish to buy what producers
want to sell is called the equilibrium price, which isn’t fixed
and responds to changes in market conditions, technology, the
population, incomes or the prices of other goods and services.
These forces cause shifts in the demand or supply curves,
producing a new equilibrium price.
The U.S. just experienced the biggest speculative boom/bust
in housing in history, a massive outward shift in the supply
curve. Anyone expecting home prices to rise in the face of a
glut of unsold homes is counting on either an act of God to
destroy huge swaths of the housing stock (a shift back in the
supply curve) or an influx of new immigrants needing shelter (a
shift out in the demand curve.) Neither is likely, although acts
of God are notoriously hard to predict.
Indeed, housing prices must come down, and have started lately to do so, and not only through the interest-rate mechanism as I had previously predicted might happen. (I predicted here that residential mortgage rates may eventually decline to effectively zero. They have instead, since the Fed’s latest money-printing fest was initiated, climbed much higher, increasing by about fifty basis points–in a few short weeks. I don’t quite understand what is causing the decrease, but it seems clear that whatever it is has something to do with why ten-year treasuries have lately increased as well. Or, it may be fraudclosure.)
The downward-sloping demand curve is a foundational theory of all economics that is exceptionally easy to understand–as prices decline demand increases and vice versa, all other things equal. Since all other things must be kept equal for it to hold its validity, as a practical matter, it is only relevant for the short run–all other things rarely stay equal for much longer than an instant. But it is instructive so far as the housing market goes. The market for housing is still vastly oversupplied due to monetary hijinks giving the illusion of increasing demand (by dint of increasing prices). When the illusion was stripped away, the truth of the excess supply became painfully clear. But Ms. Baum does a good turn in reminding us just where we are in the housing market “recovery”.