31 December 2010

Falling Housing Prices and Failing Banks

Many pundits think that national housing prices haven't hit bottom yet. Estimates range from a further drop of 5% to a further drop of 30% in 2011, at which point they will have hit bottom.

I'm really not all that interesteed in national housing price numbers because housing prices are the quintessentially locally determined economic indicator. National housing price trends are simply a noise filled prediction about the trend in the largest individual housing markets. But, it tells you little about tends in markets the mostly move at the metropolitian area and neighborhood level, and to a lesser extent at a state or few adjacent state region level.

Places that have experienced housing bubbles without corresponding housing price collapses are most at risk. This makes me quite nervous about housing markets in places like the Northwest, and a little nervous about housing prices in parts of California and the Northeast where the bust may not yet have fully run its course, but not very concerned about places like Florida or Michigan, where the declines seem to have run their course already, or places Denver and the American heartland, where there wasn't much of a housing bubble in the first place.

The case for all housing bubble collapses being local is supported from the bank failure rates by state during the financial crisis. Commercial banks rely on mortgages for their core lending income and commercial banks that are in trouble are disproportionately in states like California, Oregon, Washington, Florida, Arizona and Nevada that experienced housing bubbles. Georgia is an outlier by this measure, probably because many Georgia banks were exposed to risks in Florida real estate. (Colorado's bank failure rate has been roughly equal to the national average, but its share of troubled banks is 10th in the nation, below the markets with major housing price collapses but worse than most of the nation.)

Also, while bank failures are useful in assessing regional trends, I should once again praise the FDIC for limiting harm in this sector. While bank failures have shown a strong regional trend, the total numbers have been small everywhere. Just 4% of the nation's commercial banks have failed since the financial crisis (2008-2010), and their share of banking assets has been much, much smaller. Only six states (CA, FL, GA, NV, OR, WA) have seen more than 10% of their banks fail in this time period (again the percentage of banking assets has been smaller), and none have seen more than 15% of their banks (with a much small percentage of banking assets) fail. Prior to the creation of the FDIC, deep recessions routine caused half of all banks to fail, and more in the places that were hardest hit.

By comparison, none of the major investment banks in the United States, which are not FDIC insured, and almost none of the major mortgage finance companies in the United States, which similarly were not subject to FDIC-like regulation, survived the financial crisis as independent companies. Almost all either failed, or were acquired by more staid or foreign financial institutions, or reorganized as commercial banks regulated by the FDIC.


Maju said...

East Florida and all the Gulf of Mexico (at least from Louisiana westwards) is a dead market. Only an ignorant would buy at any price what is a serious health threat and in the context of a destroyed economy. The Gulf is effectively a disaster area if you follow minimally who bothers reporting (yes, it's being silenced but that does not make it better but actually even worse). And it's something that should last for many years, possibly decades.

So I'd say that Florida home prices should fall down without bottom, at least in the East coast (the West coast may also be affected but by the impact is less clear so far.

As for the rest, I would not be worried if prices fall: that's what happens when the prices have been artificially inflated and the demand cannot afford them (specially in the current climate of no loans). It may hit the GDP, it should hit banks and some other speculators and should also affect people who invested a lot for something that is worth half or even less what they were told but that's what happens in all pyramidal scams and housing bubbles are just a variant of this classical scheme. But that prices are in agreement with the demand is the less we can expect from a free market, right?

The real problem is when prices are being artificially held higher than they should be, damaging the market and hence the economy. In such cases nobody is satisfied neither prospective sellers, who can't sell, nor prospective buyers, who can't buy. And the more it stays in such artificial situation, the worse.

Why are prices being kept higher than they should? To keep fallacious balance sheets. That way if you own 10 houses, even if you can't in practice sell them, you supposedly have double the money that if you actually sell them. It's stupid but that's how things are after the bubble, not just in the USA but also in many parts of Europe.

But this conjectural accountancy, which lists toxic assets as valuable, also creates a climate of distrust that severely hurts all the economy: no credit, no sales, no demand... everybody is trying not to play yet but wait till the situation improves. And with no (or little) play the whole economy suffers and the situation worsens more and more.

This year, I think, many hands will be know and they are all bluffs.

Anonymous said...

I wonder how Wash Park prices compare to both Denver and national values. Are we affected (I have to sell my beautiful house to settle my divorce) by the Colorado banking climate? What is the relationship to Colorado banking, and the fact that Wash Park is holding steady through all of this? Our buyers are not affected by all of this? If we haven't seen a significant drop in local values, will we be harder hit when it does come??

ps I read your blog with interest. thanks so much for all your insights.

Andrew Oh-Willeke said...

Wash Park real estate prices have been quite stable relative to national trends and in line with overall Denver trends. Colorado was hit early by a foreclosure crisis and thus has come out of it earlier.