Friday, September 23, 2005

Peter Coy: Housing Markets Are Stable ... Until They're Not

Peter Coy who writes in Business Week, is unconvinced by the Assessing High House Prices: Bubbles, Fundamentals, and misperceptions study. Mr. Coy "read the research underlying the Journal piece, a better title would have been "Housing Markets Are Stable ... Until They're Not."

To show that there are no regional housing bubbles--and thus no reason for prices to fall--the economists in effect assume their own conclusion. They assume, without strong evidence, that buyers in each market will continue to expect the same kind of price gains that they've averaged over the past 60 years. If you expect prices to keep rising rapidly, you'll be willing to pay a whole lot today. The market will be stable.

But what if buyers in, say, San Francisco suddenly turn pessimistic about the rate of future price increases? That certainly isn't out of the question given how high prices are relative to rents, or incomes, or to prices elsewhere in the country. If they lose faith that the market will climb steeply ad infinitum, then their willingness to pay a huge sum of money now will plummet. And the market will tank.

That's practically the definition of a popping bubble. By assuming from the start that such a thing won't happen, the authors are assuming their conclusion.

You can finish reading the article here. Peter Coy is right. In a speculative episode one of the reasons a price is so 'high' is because people expect continued rapid price appreciation. A premium is paid for that expected appreciation. Once that expectation is no longer present, the premium is no longer a factor and prices will fall. The loud hiss will happen in the bubble markets.

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