Forget about all the happy talk about how rising interest rates will gently bring skyrocketing home prices back to earth.
It is time to get worried about home prices again. Not a little worried, but very, very worried.
Fact is, we are seeing rising demand collide head on with years of anemic new home and condo construction, both nationally and in the Bay State, which, unfortunately, is the poster child for this unhappy trend.
And all the blather about how the market will heal itself, with interest rates rising just in time to prevent an unsustainable price hike, is just positively silly.
Yes, Virginia, you can have both higher interest rates and higher prices.
Faulty Predictions
It’s a favorite line right now of some real estate industry soothsayers to insist there is no bubble, despite the double digit price increases we are seeing. Amazingly, they have even taken to critiquing Case-Shiller, the industry bible, for reporting the increases, including the latest 12.2 percent jump.
Zillow, for example, is predicting a 1.2 percent increase in Boston area home values over the next 12 months, arguing rising interest rates will help cool down prices.
That’s hard to square with the 7 percent year-over-year increase we just saw in June for Greater Boston, according to the latest Case-Shiller index.
For that matter, it’s even harder to square Zillow’s prediction of a 5 percent increase in prices nationally over the next year with the 12.2 percent jump Case-Shiller just reported in May.
Instead of changing its forecast, Zillow has tried to change the subject, arguing Case-Shiller’s numbers simply reflect falling numbers of foreclosure sales.
“Three straight months of national home value appreciation above 10 percent is not normal, not sustainable and, frankly, not very believable,” the online real estate firm’s chief economist wrote.
Sorry, but when it comes to believability, I’ll stick with Case-Shiller, crafted by none other than national real estate market sage – and local guy – Karl Case, professor emeritus of economics at Wellesley College.
Trulia is also downplaying the price numbers as well, though a bit more cautiously.
“Prices won’t keep rising this fast: rising mortgage rates, more inventory, and declining investor demand should all tap the brakes on price gains – though just not yet,” according to one recent Trulia forecast.
It’s The Inventory, Stupid
It all sounds like so much wishful thinking, a veiled belief that a rational market will somehow magically correct itself.
But if anything, we’ve just lived through a half decade or more of history that has shown the real estate market, and markets in general, are anything but rational.
More importantly, these all-too-reassuring forecasts miss the growing chasm between supply and demand.
New housing units, which typically average about a million a year in the U.S., dropped to less than half that amount after the Great Recession.
Markets across the country starved of listings, with the shortage especially acute in Boston and cities and towns across our state.
However, if home and condo construction dropped across the country, it has all but fallen off the cliff here in Massachusetts over the past two decades.
Back in the mid-1980s, builders were pulling an average of 24,000 permits a year, about average nationally, according to the Massachusetts Association of Home Builders.
But that number has dropped to just 5,300 for new homes each year across the state, with a record low reached in 2011, when home builders pulled just 4,889 permits, an all-time low for Massachusetts, the builders group recently reported.
The result has been record low numbers of homes and condos for sale.
And with a dearth of supply, prices have begun to rise at a pace not seen since the real estate bubble.
In fact, it’s not just the size of the increase that is troubling, but the fact it has come so relatively quickly, a short four years, after the economy hit bottom.
Recall that after the real estate market crashed in Massachusetts back in 1989 after that decade’s price spike, it took another ten years to climb back.
Maybe not that great for sellers, but it certainly helped create more opportunities for buyers.
But then again, we saw a relatively decent surge of new home and condo construction in the 1980s.
By contrast, we saw a decade of under building in the 2000s, the sole exception seeming to be downtown luxury condos.
Interest Rates No Silver Bullet
OK, you say, so we clearly have a building problem. But why won’t rising interest rates help provide a needed break on runaway prices?
Well, Bill McBride of Calculated Risk, the best economics blog out there, recently took a sledgehammer to that argument.
In his post, McBride laid out the numerous cases in the past three decades in which rising rates – even rate spikes in some cases – have done little if anything to bring down home prices.
That includes an interest rate hike of 12 to 14 percent from 1983 to 1984, when home prices rose more than 6 percent, and a hike from just under 7 percent to 8.5 percent in 1999/2000, when prices rose nearly 11 percent, according to McBride.
Yet maybe the best example is the most recent one. After all, rates were double what they are today back during the housing bubble, and that didn’t stop home prices from going nutty.
Moreover, the interest rate increases we have seen so far are almost laughable given the level rates have historically hovered at.
The big news right now is that interest rates have edged up from the 3s to the 4s. Now that’s hardly a real estate market show stopper, given rates in the 4s would have looked positively rock bottom at pretty any point over the past three or four decades, with the exception of the last year or two.
Rates are going to have to rise a lot more sharply – and a lot faster – to start killing off demand and bringing down prices.
No, the home price genie is out of the bottle. And rising interest rates and wishful thinking won’t be enough to put her back in.
Scott Van Voorhis can be reached at sbvanvoorhis@hotmail.com.
