The housing crisis allows America to look in the mirror. What do we see?

One of the most fascinating narrative threads on this site has been about the oversupply of homes (technically “housing units”).  This over-building of units is the key to the housing crisis, as has been evident for at least 2 or 3 years.  A surplus of anything leads to falling prices until the surplus disappears, one of the iron laws of economics.

Yet even now this is not understood by many Americans, hence the increasingly insane proposals to prop up home prices at levels Americans cannot afford.  But since we do not see the problem, we can neither treat it early nor effectively cope with it once it hits in full force.

This is yet another manifestation of what might be America’s core problem, as I said in Diagnosing the eagle, chapter I — the housing bust (6 November 2007):

Something is wrong with America, rendering our society incapable of connecting effectively to reality. The late USAF Colonel John Boyd described this as a process: Observe, Orient, Decide, and Act. (For a description of the OODA loop see this; for a discussion of Orientation see this post by Chet Richards.)

Who can tell what has caused this social illness, a form of cultural Alzheimer’s? The symptoms appear in many aspects of our national public policy — collective action in critical areas such as energy, geopolitics, and management of our economy.  We find it difficult to recognize large problems until they are upon us, and to discern causes and effects. Worse, often we cannot weigh the various short- and long-term factors to rationally decide how to respond, so we choose seemingly easy and fast solutions without bothering to perform the necessary research and analysis. And, perhaps as a result of this flawed process, we frequently find ourselves unable to competently implement whatever course of action we choose.

Rather than provide a theoretical analysis, I’ll show a few case studies. Here we look at the housing cycle. Just a normal business cycle, although driven to amazing heights by a combination of factors — all noted at the time, with these warnings ignored by both our ruling elites and the citizenry …

This post updates that analysis, unfortunately without changing the conclusions.

Contents

  1. The problem is too many homes
  2. Our foolish responses make the problem worse
  3. The glut will disappear, one way or another
  4. Another expression of the problem:  falling rents
  5. Solutions
  6. Afterword and where to go for more information

1.  The problem is too many homes

Approximately 15% of the housing units in the US were vacant in the 4th quarter (per the US Census).  That’s almost 18 million units.  In the 4th quarter of 1994 it was 10%; in the 4th quarter of 1998 it was 11%.

The factor that best predicts defaults is home equity.  Negative equity, usually from falling prices, means more defaults.  Many people will not make payments to the banks that do not build equity.  Payments as a too-large fraction of their income are a contributing but not primary factor (“too-large” either because the loan was too large or their income has dropped).   Overbuilding means falling prices, which means negative equity, which means more defaults.

The problem is spreading across America, but not evenly.  As always, some areas are far more affected.  Areas like California, Florida, Arizona, Nevada.  And Detroit:  “The median price of a home sold in Detroit in December was $7,500, according to Realcomp, a listing service.”  (from the Chicago Tribune)

Hard times make the problem worse as the number of households — and the number of units occupied — decreases.  As seen here:  “Job Losses, Credit Market Conditions Challenge The Apartment Sector“, National Multi Housing Council (NMHC), 15 January 2009 — Results of their January 2009 Quarterly Survey. Excerpt (emphasis added):

Once again, apartment firms are facing tough market conditions not of their making,” noted Mark Obrinsky, NMHC’s Chief Economist. “Earlier in the decade the bubble-induced rise in homeownership eroded apartment demand; now the economic and financial collapse caused by the bursting of that bubble is taking a toll.”

“The long-term prospects for the sector are strong,” explained Obrinsky. “The number of people between 20-34 years of age is rising rapidly, and as they enter the rental market, demand will rise correspondingly. For now, though, that demographic advantage is being trumped by the worsening job market, which is leading more people to move back in with family or take on roommates to save on housing costs.”

2.  Our foolish responses make the problem worse

First it was a subprime mortgage crisis. Then it was a crisis of exotic mortgages (subprime, Alt-A, option adjustable rate mortgages).  So the solution was to provide more and easier mortgage credit via the government-sponsored enterprises (FNMA, etc) and the Federal Housing Administration — and modify existing mortgages with easier terms (but not lower balances).  Both methods have failed utterly.

(a)  Modifications that reduce payments but not the balance do not work.  Here is one of a large body of reports about this:  “After three months, nearly 36 percent of the borrowers had re-defaulted by being more than 30 days past due. After six months, the rate was nearly 53 percent, and after eight months, 58 percent.”  (remarks by John C. Dugan, Comptroller of the Currency, 8 December 2008)

(b)  Easier credit (hair of the dog that bit us) does not help.  Again I’ll cite just one of a large body of evidence:  “The Next Hit: Quick Defaults“, Washington Post, 8 March 2009 — “More FHA-Backed Mortgages Go Bad Without a Single Payment”

But the subprime mortgage market has crashed and borrowers are flocking back to the FHA, which has become the only option for those who lack hefty down payments or stellar credit. The agency’s historic role in backing mortgages is more crucial now than at any time since its founding. With the surge in new loans, however, comes a new threat. Many borrowers are defaulting as quickly as they take out the loans. In the past year alone, the number of borrowers who failed to make more than a single payment before defaulting on FHA-backed mortgages has nearly tripled, far outpacing the agency’s overall growth in new loans, according to a Washington Post analysis of federal data.

… Once again, thousands of borrowers are getting loans they do not stand a chance of repaying. Only now, unlike in the subprime meltdown, Congress would have to bail out the lenders if the FHA cannot make good on guarantees from its existing reserves. And those once-robust reserves are showing signs of stress, raising the possibility that taxpayers may have to pick up the tab for the first time since the agency was established in 1934.

More than 9,200 of the loans insured by the FHA in the past two years have gone into default after no or only one payment, according to the Post analysis. The pace of these instant defaults has tripled in one year. By last fall, more than two dozen FHA home loans on average were defaulting this way every day, seven days a week.

The overall default rate on FHA loans is accelerating rapidly as well but not as dramatically as that of instant defaults.

The agency’s share of the mortgage market is up from 2% three years ago to nearly a third of the mortgages now made, its highest level in at least two decades, according to Inside Mortgage Finance, an industry trade publication. The FHA does not lend money directly. It provides mortgage insurance for borrowers working with FHA-approved lenders and uses the premiums to cover its losses. If the premiums are not enough, taxpayers could be on the hook.

At the same time, Congress has substantially increased the amount a homeowner can borrow on an FHA loan in pricey areas, thrusting the agency into markets it was previously shut out of, such as California, where plunging home prices have made people more vulnerable to foreclosure.

3.  The glut will disappear, one way or another

Economic problems are self-correcting in a system using free markets.  Oversupply of homes can only be absorbed in two ways, as I wrote about the core of the housing problem in A vital but widely misunderstood aspect of our financial crisis (18 September 2008):

(1) Eventually our population will increase to fill these homes. But slowly.  Growth in the number of households occurs in two ways:

(a)  More children leaving home than households disappearing through combinations (children moving back, parents moving in with children) and death.  But in a recession the number of households shrinks as the latter exceeds the former.

(b)  Net migration into America.  Our slowing economy might already be slowing the rate of in-migration.  But a recession or political turmoil in Mexico might send floods of people north into America.

(2) Not so creative destruction:  housing units will be destroyed

Many vacant homes will be destroyed, the fast track to fixing this problem. Empty houses get vandalized, destroyed by the owners (spite or insurance fraud), occupied by squatters or meth labs, or wrecked by the forces of nature. In regions with net out-migration (e.g., Detroit) homes remain vacant for long periods, often abandoned by their owners (valueless but costly due to taxes and maintenance). As anyone familiar with the history of the South Bronx knows, empty homes act as an infectious blight that can devastate larger areas. After a decade or two, the result can look like Dresden after the bombing in 1945.

This was greeted in the comments with incredulous outrage, like telling a rural medieval priest that the Earth was not the center of the universe.  Sacrilege towards the true religion of America!  Signs of a defective OODA loop in action, sounding like a car running with no oil.  But even America has proven to be subject to the laws of economics, as these have proved accurate, as seen in these three articles.  Hundreds more can be found on Google.

(a)  “As projects grind to a halt, home sites turn to wasteland“, Los Angeles Times, 4 March 2009 — Excerpt:

By day, it’s far too quiet at the site of a planned housing and retail development on a former Navy base in Oakland. At night, neighbors can hear the thieves come out. They rip out copper wire, haul away pipes and take anything else they can steal from dozens of buildings on the site, abandoned after Irvine developer SunCal Cos. fell victim to the economy.

It’s a scene not uncommon throughout California, as residential construction grinds to a halt under the dual weight of the credit crunch and the housing crisis: a rusty chain the only barrier between the community and a half-built structure in Hollywood; a bare dirt lot in Pasadena; old stoves amid the trash at the site in Oakland. “I hear hacking and see scary bonfires in the middle of the night,” said Don Johnson, a retired Coast Guard employee who lives near the defunct Oak Knoll Naval Medical Center in Oakland.

(b)  “Foreclosures mount, so do vacant Peoria homes“, Journal Star, 14 February 2009 — Excerpt:

Vacant, neglected houses were a city’s headache even before fear of foreclosure loomed over every block. They attract rodents, dumping, vandals, arson, theft of copper wiring and other problems expected to increase along with rising foreclosure rates. Beyond crime and demoralized neighbors, many cities are just beginning to realize how costly vacant properties can be – for homeowners and municipalities.

“It costs a lot, and not just in the obvious ways,” says Jennifer Leonard, director of the National Vacant Properties Campaign, a Washington, D.C.-based coalition charged with searching out the best new methods to prevent and/or reclaim and reuse vacant properties. Cities spend time and money on code inspections, yard clean-up, demolitions, and, in many cases, tracking down absentee owners. (Peoria charges homeowners for services. If officials don’t collect, they put a lien on the house.) But vacant houses can also drain resources from police, fire, health and legal departments.

In Peoria, include the animal welfare shelter on the list. Director Lauren Malmberg requires animal welfare workers to report vacant houses to the city’s code enforcement department. “We were tired of pulling animals out of them.” They become havens for raccoons, stolen dogs, stray dogs and worse. Malmberg encountered a vacant house on the south side, in the 1800 block of Widenham, that had become a center for dogfighting. “Graffiti of dogfighting was painted everywhere, inside and out. There were dog carcasses, blood and feces everywhere.”

Vacant properties can also contribute to higher insurance rates and lower property values of surrounding houses, which further depletes a city’s tax base. Though it’s commonly assumed that vacant properties equal unpaid property taxes, it’s difficult to know because many cities don’t do comprehensive inventories of vacant houses.

… The majority of Peoria’s 4,500 vacant housing units are concentrated in older neighborhoods … the 4,500-figure and subsequent vacancy rates are based on the U.S. Postal Service definition – houses that haven’t received mail in 90 days or more.

The code enforcement department’s figures on boarded-up houses give a clearer picture of the inherent flexibility of vacancy-related data. During 2008, a total of 217 properties were boarded up for various reasons. By year’s end, 74 had been brought into compliance by owners, 24 were demolished and 30 were going through the legal process for court-ordered demolition.

(c)   Update:  “All Boarded Up“, Alex Kotlowitz, New York Times Magazine, 8 March 2009 — About Cleveland.  Excerpt:

This is Brancatelli’s conundrum: many of the abandoned homes should be razed. They’re either so old or so impractically tiny that they have little resale value, or they have been stripped of their innards and are in utter disrepair. There are an estimated one million lender-owned properties nationwide, and on average each house sits empty for eight months, a length of time that is only growing. Demolition, though, is costly: roughly $8,000 a house.

Last summer, Congress appropriated $3.9 billion in emergency funds for cities to acquire and rehab foreclosed properties. (An additional $2 billion will be available under the recently enacted economic-stimulus package.) The legislation was labeled the Neighborhood Stabilization Program, but Cleveland and a handful of other cities had to lobby hard to convince Congress that “stabilization” in their cities meant tearing down houses – not renovating them. Last month, Cleveland said it planned to use more than half of its $25.5 million allotment to raze 1,700 houses. This presents an opportunity to reimagine the city, to erase the obsolete and provide a space for the new. (There’s little money now to build, so imagine is the operative word.)

… Other cities – including Minneapolis, Youngstown, Detroit and Cincinnati – have put aside at least a third of their neighborhood-stabilization funds for demolition. “As properties stay vacant for longer periods of time,” says Joe Schilling, a founder of the National Vacant Properties Campaign, “it’s inevitable that even in some of the fast-growing communities, they’ll have to look at demolition.” Phoenix, for instance, has set aside a quarter of its grant money to tear down abandoned homes.

4.  Another expression of the problem:  falling rents

A surplus of housing units not only directly pushes down prices, but also pushes down rents — which depresses the value of housing to investors.  For more on this see:

  1. Housing downturn hits L.A.-area rents“, LA Times, 8 January 2008 — “Overbuilding and foreclosures add to supply of units as the recession limits what people can pay.”
  2. The Residential Rental Market“, Calculated Risk, 9 January 2009
  3. Stress Test House Price Scenarios“, Calculated Risk, 25 February 2009
  4. What If Rents Cliff Dive?“, Calculated Risk 26 February 2009

This also destroys yet more wealth in America, and adds to the banks’ woes:  “Apartment-Complex Developers Falling Behind On Loan Payments”, Dow Jones News, 12 January 2009 — Excerpt from Calculated Risk:

The rapid reversal of fortunes in commercial real estate is taking down yet another sector: multifamily housing.

… While sharp declines in retail and office sectors of commercial real estate have commanded attention in recent months, some analysts say deterioration in the multifamily sector is quickly catching up. … Much of the multifamily sector’s problems center around troubles in converting apartments to condominiums, as is the case in Miami, or the challenges in converting rent-controlled units to market-rate apartments, as in Manhattan.

In Florida, California, Arizona and Nevada, the flood of unsold condominiums is entering the apartment market and the excess supply is lowering rents in those areas, BarclaysCapital analysts say. That’s resulted in lower revenues for owners, which in some cases is making it more difficult to keep up with mortgage payments.

… In November, the delinquency rate on securitized loans to apartment and condominium properties rose to 1.9%, a dramatic jump from the 0.9% at the start of the year, according to Realpoint LLC …

5.  Solutions

The fire has spread, so that now the housing crisis is just one aspect of the global economic crisis.  Large-scale macroeconomic measures — probably international in nature — are all that can buffer the global depression.  That is, minimize the suffering during the downturn, and lay the foundation for a powerful enduring recovery afterwards.  See section 7 below for links to discussion of solutions.

6.  Afterword

Please share your comments by posting below.  Per the FM site’s Comment Policy, please make them brief (250 words max), civil, and relevant to this post.  Or email me at fabmaximus at hotmail dot com (note the spam-protected spelling).

For information about this site see the About page, at the top of the right-side menu bar.

7.  For more information from the FM site

To read other articles about these things, see the FM reference page on the right side menu bar.  Of esp interest are:

Posts about the housing crisis:

  1. Diagnosing the eagle, chapter I — the housing bust, 6 December 2007
  2. A vital but widely misunderstood aspect of our financial crisis, 18 September 2008 — Too many homes.
  3. Destroying houses in order to boost home prices, 16 December 2008

Posts about America’s broken OODA loop:

  1. News from the Front: America’s military has mastered 4GW!, 2 September 2007
  2. The two tracks of discussion about the Iraq War, never intersecting, 10 November 2007
  3. Another cycle down the Defense Death Spiral, 30 January 2008
  4. Quote of the day: this is America’s geopolitical strategy in action, 26 February 2008
  5. What do blogs do for America?, 26 February 2008
  6. Everything written about the economic crisis overlooks its true nature, 24 February 2009

Posts about warnings of this crisis:

  1. We have been warned. Death of the post-WWII geopolitical regime, 28 November 2007 — A long list of the warnings we have ignored, from individual experts and major financial institutions.
  2. Making us dumber, chanting “Dude, where’s my recession?”, 3 June 2008 — Economic columnists do a disservice to their readers by ignoring the data showing a weakening economy.
  3. Another warning from our leaders, which we will ignore, 4 June 2008 — An extraordinarily clear warning from a senior officer of the Federal Reserve.
  4. When did “Dude” predict a recession? How severe?, 6 June 2008 — Why accurate economic forecasting is difficult, what we know about current conditions, and warnings from a top economist.
  5. The most important news of the month. Perhaps the year., 29 September 2008 — Warnings from our foreign creditors.
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63 thoughts on “The housing crisis allows America to look in the mirror. What do we see?

  1. Richard Florida, an expert on demographics and urban planning, and the author of “The Rise of the Creative Class” and “Who’s Your City” has an additional argument you may find interesting. If someone owns a home and they cannot sell it, the home become an anchor.

    If you tie someone to a physical location you also tie them to the opportunities available in that location. This prevents what is one of America’s greatest strengths, it’s ability to reallocate resources to where opportunities are most promising. Homes that were sold as a great benefit may prove to be a hindrance in more ways than one.
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    Fabius Maximus replies: I’ve read some of his work, such as “Financial recovery needs a massively different mindset“, Globe and Mail, 28 November 2008. Very smart and creative guy. Some of his ideas I like, some I find repellent. Both of which are found in this article.

    I agree that in America we spend money on things that do little for us — conspicous consumption, probably. So our necessary decrease in spending — bringing it in to line with our income and necessary saving — can be done with less suffering than often assumed.

    But his love of rootless cosmopolitanism, with no ties to community or family or friends (few people can jet around the country to maintain long-distance ties) is IMO taking America in the wrong direction.

    “Our reliance on single-family homeownership is a product of the past 50 years – and the experiment has outlived its usefulness. Not only is it now readily apparent that not everyone should own a home, and that the mortgage system is a big part of what got us into the current financial mess, but homeownership also ties people to locations, making it harder for them to move to where work is. Homeownership made sense when most people had one job and lived in the same city for life. But it makes less sense when people change jobs frequently and have to relocate to find new work.”

    Perhaps roots are part of the solution instead of the problem. Perhaps we should revamp the economy so money and jobs don’t fly around randomly, tieing them down to meet the needs of people — instead of people ripping their lives apart to follow the needs of incoherent and chaotic capitalism.

    Florida’s website is Creative Class.

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  2. RE: Richard Florida article, and ‘rootless cosmopolitanism,” the issue is not only homes acting as anchors to a physical location, thereby reducing movement between high- and low-opportunity areas of the economy; it is the many barriers we have erected that decrease the mobility of people of between different professions and career fields. It is more difficult after a certain point in life (such as marrying or becoming a parent) to relocate in semi-nomadic fashion after employment as one may do when young, single, etc. It can be done, as in the Great Depression, but it has substantial social and other consequnences. We would do well to think about reducing barriers that prevent people in one profession from moving into another, everything from bureaucratic barriers to requiring licences to perform even the most prosaic of jobs (my home state of IL requires that one be licensed to cut a dog’s hair or to be an interior decorator, to name two examples), to artificial criteria for employment (the skilled trades in IL, as well as poice/fire, do not allow anyone over age 35 to enter the field, no matter how good his/her qualifications and performance may be), and many other examples.

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  3. FM Note: This is over the 250 word max. This thread might get high volume, in which case posts over 250 words will be ruthlessly truncated.

    Ah, what do I see in the mirror?

    I see someone who had bought before the changes in regulation to create these strange and unknown beasts called ‘ARM’s which seemed like an imprudent leveraging of money against future income expectations. Well do I remember the history lesson of the 1920’s of over-leveraging one’s funds and the dire effect that would have on the economy and to one’s own life. Further, I had sought to find a place that was easy to commute to, within the geographic area that was heavily built-up. Then I looked to find a place that would be suitable to my needs and within what I could afford with my then current pay, without future expectations. That would put me into a large but low-end unit in a relatively high (at that time) cost development that had already been built in for a number of years. Within two years the entire market and outlook had changed as people were leveraging their future expected incomes to purchase homes at higher and higher costs. We would experience similar during the ‘internet bubble’ and I said to myself in regards to housing: no good will come of this.

    Indeed the regulations had changed, and more were put on that have not been removed. Until those toxic regulations to allow those with No Income, No Job or Assets to leverage meager incomes into vast mortgages we will *not* dig out of this problem. This requires removing those regulations and allowing sound lending practices to return, and to support those institutions that never went on the bandwagon: thrifty small and local lending institutions. It is, perhaps, time to break up the large institutions that are so easily regulated and swayed by government as to quickly propagate ill-made regulations to temporary economic activity. And as the government has seen fit in handing out our money, I would expect that since the government has had such an awful time figuring things out, that each and every American Citizen should get a share in said companies in lieu of horrible ‘oversight’ by the federal government over decades. That would allow the American People to regard such firms and set a value on those shares and trade them… and those found unworthy would falter in a final fashion and their loss would be held in each share held by Americans. That is what we government is seeking to get for itself: a compliant set of companies for its regulations, and those making such regulations have forgotten that the government cannot do that as it is outside the bounds given to them in the Constitution.

    It isn’t the guy in the mirror I worry about. It is the person leveraging their funds a mile away in an over-priced, over-built development that has not heeded prior wisdom that I well, and truly, worry about. Americans will not long be distracted by the intermediary institutions acting out government’s will. And when they do, as always happens when those in power try to distract from their ill-ideas, the pointy end of the stick gets pointed at them.

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  4. I’m not sure all of these are “problems” in anything close to absolute terms. Ask any 20-year-old working her way through college a year ago whether she’d be able to buy a house in the next ten years and she’d either start babbling about no-money-down interest-only financing or talk about maybe joining a collective. Housing never should have been this expensive; prices falling isn’t necessarily a bad thing. The speculative bubble stuff is mostly a side effect from previous bad things (speculation) and given the kind of things people were speculating on (housing,) it’s unlikely a true total collapse can occur.

    I mean, my gosh, more than half the country rents or has paid off their mortgage.
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    Fabius Maximus replies: Myopic, much? Trillions of wealth destroyed (both home-owners and owners of mortgage-related securities), along with many of our largest banks. But by gosh its not a problem for everybody!

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  5. What do I see?
    1) Generations of spoiled, house obsessed females determined to get what they want at whatever cost. Standing behind them are legions of foolish, weak, and/or submissive males who, ignorant of the realities of debt, seek vainly to keep their little charmers happy…

    2) Politicians, who having engineered the destruction of America’s industrial base and the jobs it provided, now pinning their hopes on home construction to maintain employment figures.

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  6. You are right about roots being part of the solution, but surely there are different types of roots. The question is, which roots will bear better fruit? Roots in yesterday’s soil or root in tomorrows in tomorrow’s soil?

    There are familial roots, which, if they are positive, provide great strength. However, do family roots have to be closely geographically connected to provide strength? There are roots based on friendship, which probably cannot bear geographic redistribution and provide strength. Then there are roots in jobs and economic opportunity. With these roots, you have to go where the soil is fertile. The decline of the rust belt has been going on since the 1970s. Will Detroit in the future ever bear the fruit it bore in the past?

    Surely success depend on how effectively people can locate and align themselves with whatever world order emerges? Aren’t those the roots that will be the solution?

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  7. The problem is not an oversupply of housing, it is an oversupply of expensive and financially unattainable housing in the economy. There are not fewer people around by the last census and neither is the population getting smaller. The banks are not victims but co-conspirators in the mess. If they, along with their government meddlers, would have financed homes that were first and foremost financially accessible by the percentage of the population that reflected their population’s demographic incomes, then a lot of this could have and should have been avoided. Instead of creating modest abodes that were incremental increases in what their parents found, we witnessed the irresponsible seeking HGTV extravaganzas and optimal housing constructs and banks prepared to roll developers to make it happen. Developers will build what the bank will finance and there was the key I witness for most of the decade. They in turn would corrupt your local officials on zoning. Instead of four 150K homes on a quarter acre lot we found one 750K home on an acre lot. It meant a gain in property tax, but it also meant that three other consumption tax families would not find a home. Now the local government is out in both tax categories. They can join the list of self made ‘victims’. I’ve said for over a decade that if the banks would only finance 150k homes then there would be developers for 150K homes. Modest to be sure, but affordable. Demand would still be there. Would that mean that higher end housing couldn’t be built? No. It would mean that the buyer would have had to come up with more ‘cash’ at closing demonstrating they had the means to afford it.
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    Fabius Maximus replies: I love showing hard evidence of something, then seeing comments like this that ignore the numbers and go off into la-la land guessing. More evidence of our defective OODA loops. To bad for us, for with reasoning like this America has some very hard times ahead.

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  8. Rents are going up in my area. Why? Because there are more renters now and the homes that are being foreclosed on are lying vacant. It will take time for rents to lower.

    This is the opposite of what was happening before during the boom. Increased home ownership due to low interest rates was making rents lower, as people moved out of rentals into new homes.

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  9. Interesting thing about Detroit…If you squat in a home or piece of property for 10(?) years without anyone complaining, it’s yours. I wish I could find the news story.

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  10. This is a good time to buy a home. Some areas are offering incentives to buy and owning could be cheaper than renting. Example in my state there is a first time home buying program that will let you borrow $10,000 with 0% interest toward your mortgage. It will be paid back if and when the house is sold. Then if you purchace a new home as a first time home buyer the tax incentive is 10% of cost up to $8,000 in tax credit and this is in every state. First time home buyers can not own a house within 3 years of new purchace to qualify. New home contractors are offering great interest rates starting at 2.875% with 1% increase each year for a max of $4.875% for 30Yrs. no closing cost. America start looking around and lets get this ecomny back on trak.

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  11. Don’t forget the impact of what appears to be several million ‘undocumented aliens’ moving back south of the border. I’ve seen figures like 5M. Given even 5 per household (which is high, I think) that is 1M housing units no longer needed. Given our difficulty in even knowing how many such ‘aliens’ are here at any given time the number leaving may be higher, and the per household numbers may be lower, so we might be looking at many more unneeded housing units.

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  12. Are rental problems perhaps problem of location? (i.e. California, New York). I have noticed exactly what Brian Macker has noticed. In Chicago rents are going up, it took my neighbor exactly 7 days to rent out his small condo at $2400/mo – about a 9% increase from the year before.

    A lot of my homeowner friends who have been thinking of selling are now holding off, watching the rents in their areas go up…I suspect with hyperinflation those of us with locked in 30 year mortgages at 5.25% are all going to think about it.

    Might be better to buy a new home in a rural area for cash and rent out our expensive condo.
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    Fabius Maximus replies: The discussions about housing are nuts. Americans are ga-ga about homes. Unemployment is 8% (or whatever). Would you consider it an intelligent comment to state as rebuttal “it’s only 4% in my town”? Of course not. It’s a big nation, and all economic metrics vary. But it rentals are going down in a large number of metro regions; it is not an isolated problem.

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  13. You write: “The factor that best predicts defaults is home equity. Negative equity, usually from falling prices, means more defaults.” I doubt it.

    Imagine a responsible homebuyer negotiating what he or she considers (at least at the time) a fair price for the house. The homebuyer gets a mortgage with a confident understanding of how his or her income will cover the mortgage payments. Then home prices fall.

    Wouldn’t a rational person keep making the payments, hopeful that housing market conditions are temporary, rather than default?

    On the other hand, a household struggling to make mortgage payments due to declining income (or a false hope about one’s income potential and ability to make payments at the time of signing the mortgage) might decide to walk away and start over somewhere else. Being underwater might be a contributing factor in the decision to default, but the primary factor is income.

    Maybe there is evidence that declining home equity is more of a factor than declining income in causing rising default rates, but I have not seen it.
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    Fabius Maximus replies: If you have not seen such research, you must not be familar with this subject. Just to site one of the many studies, see “Risky Mortgages, Homeownership Experiences, and Foreclosures“, Federal Reserve Bank of Boston, December 2007 — Excerpt:

    “Our second point is that house price depreciation—negative house price appreciation (HPA)—is the main driver of foreclosures. The easiest way to see this is to look at aggregate data. Figure 1 shows that periods of exceptionally high HPA in Massachusetts, as in 2002-2004, are associated with exceptionally low numbers of foreclosures, while periods of negative HPA, such as 1989-1991 and 2005-2007, are associated with high foreclosure rates. Cash flow problems at the household level, driven by job loss, for example, play a role, but only when HPA is low. For example, in 2001, a recession generated a record high number of delinquencies, a sign that many households had problems making monthly mortgage payments. During this time, however, there was a record low number of foreclosures in Massachusetts. Thus, the phenomenal levels of HPA in the early 2000s enabled many borrowers to either refinance or sell to avoid foreclosure.”

    They explain this over the following 60 pages.

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  14. I am more amazed at the fact that America is built on a credit system for virtually all purchases. In many saner countries you pay cash for your house and it is the reward of many years of saving (either by the parents who gift a house at weddings or by couples who value their homes because they spent years carefully putting money away while they lived with and cared for their aging parents).

    The fact is that America has been sold a lifestyle that by any standards is clearly unsustainable. The corporate world has been, in large part, responsible for this. From planned obsolescence, I.E. designing special batteries for cameras and then, 2 years later, not making the battery anymore, so the camera is rendered useless. Or as in the case of I Pods simply not selling batteries at all. From advertising that tells you true happiness is found in purchasing more than you need, to global environmental destruction the root of America’s problem is the fact that the government of the people by the people for the people is actually a governmnet that kow tows to corporations with budgets that exceed the national budget. Houses built by corporations and real estate companies that operate world wide have lured Americans into believing they are less than worthy to be on this earth if they do not purchase a home.

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  15. Also in reference to comment #9 here in California a squatter can obtain property after only 5 years. But they must have been paying the property tax for all 5 years. People who own property seldom go without paying tax on the property unless they are dead or have truly abandoned it. If money is due on the house, if it has gone into forclosure lenders virtually never forget about the property tax. It not just a squatter’s heaven.

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  16. as to comment # 5: {snip — no personal comment, please} In fact both men and women are equally lured into the buy now, pay later culture of America — and beyond that many homeowners are in fact single. Under normal circumstances, in a healthy economy, people believe that a home is an investment not just a purchase for consumptions sake. Men who buy homes are not spineless, they believe they are investing their hard earned cash in something that will grow in value over time.
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    Fabius Maximus replies: Many people might believe that homes are an investment, but it is an urban legend. After the cost of maintenence, the value of homes had a real (after inflation) appreciate of roughly zero in the 20th century. Areas being developed have the value of land (not homes) increase as they go from ranch or farmland to high-density urban — but that is a one-time process, and often reverses as urban decay sets in.

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  17. Having read some of Florida, I have to go a step further than Pete in post #2. Florida may be an “expert” but — and I don’t mean this as a joke — I have yet to read much of his work that implies that he understands that anyone in the world is other than 25-30, single, childless, healthy, quite probably gay, and engaged in computer programming, graphic design or interior decorating as an occupation.

    His stuff made more “sense” to me when I was 28.

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  18. There are not just too many homes, but too many of the wrong types of homes. In D.C. area (Northern Virginia and Maryland), there is a huge surplus of mcMansions and luxury condos. My parents, who are in their late 60’s, would love to downsize to a smaller home that is easier to maintain — but such homes do not exist in that area. The horse country that they used to live in has been infilled with homes that could house entire villages, and an army of immigrants is brought in each day to clean, cook, landscape, and nanny. When you describe the blight, it isn’t just the rowhouses of the Bronx — it’s the granite kitchen, pool room, his and her master bath, faux French palace monstronsities that litter Northern Virginia.

    On the bright side, perhaps the horses will return and the mansions will be converted into barns.
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    Fabuis Maximus replies: Great point. We have not just too many units but too much area (square feet) of housing vs. what we can afford. The decline of home prices in term of $/area might be even larger than that in terms of $/unit.

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  19. #16 “Under normal circumstances, in a healthy economy,” would a house really be an investment that “will grow in value over time”? Unless additions are made, the house does no more than when built; it shields its occupants from the elements. For anyone to realize a return on this investment, the house has to be sold. But then the occupants need to find another place to live….another place that has “grown in value over time”. So where is the return?

    In a normal economy an interest bearing bank account, blue-chip stocks or productive farmland are investments. Something that pays a return.

    What we’ve had for decades is an abnormal, unhealthy economy driven by inflation, group-think, and obsessions. Now that its fallacies stand exposed and its limitations made apparent, its costs can no longer be justified. Yet people persist in wanting to re-inflate the bubble and return to the “normalcy” of the 1980s & ’90s. From all appearances, our government is determined to do the same, whatever the cost.

    If your point was that a house is a better investment than beer; yes, I’ll concede that; regardless of the state of the economy. I suppose it was also a good investment for those who cashed out before the music stopped.

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  20. Housing prices have been artificially inflated via decades of preferential tax treatment (tax deductible mortgages, capital gains exemptions). The USG’s effort to create ‘affordable housing’ only exacerbated the problem by increasing demand. The demand destruction we are now witnessing is a long overdue re-balancing and any efforts to forestall this process will only deepen and prolong the agony. Eliminating the tax deductibility of mortgages over, say, ten years would go a long way towards reintroducing sanity into the markets. In fact, eliminating all tax deductions and levying a simple flat tax would be the fastest track to economic recovery.

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  21. Re 18: try Chapter 2 of Jonathan Nitzan and Shimshon Bichler’s ‘The Global Political Economy of Israel’ in which merger and acquisition activity is discussed in depth as part of the typical and inevitable dynamic of contemporary ‘capitalism’. It actually makes sense!
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    Fabius Maximus replies: It’s simple. Over 3/4 of all mergers fail to generate value for the acquiring shareholders. But mergers almost always generate more income for the senior management of the acquiring company. It’s a form of the principal-agent problem.

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  22. In the Census report you link, I note the following dichotomy in the macro numbers:

    Home Ownership Rates
    Northeast/West = 63%
    South/Midwest = 70%

    Rental Vacancy Rates
    Northeast/West = 7%
    South/Midwest = 12%

    Home Owner Vacancy Rates
    Northeast/West = 2.5%
    South/Midwest = 3%

    The “crisis” of oversupply appears by the numbers to be too much rental housing in the South/Midwest because of high rates of homeownership achieved in those regions.

    Precise numbers of units are not broken down by region, but assuming roughly equal numbers of total units between Northeast/West vs. South/Midwest, it would appear that there are probably 2.5+ million vacant rentals in the South/Midwest and 1.5+/- million vacant rentals in the Northeast/West. The oversupply of rental units in the South/Midwest is responsible for almost the entire growth of overall vacancy in the US.
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    Fabius Maximus replies: First, the problem is still rippling out through America. Just because the wave has not hit everybody tells us little. Look at NYC. In the Q4 data it is fine, but now the market is burning. The Q4 of 2009 data probably be horrific. Second, its is not just South/Midwest. Cleveland, Detroit, NYC, much of Florida, Nevada, Arizona — all of these areas are affected.

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  23. Perhaps roots are part of the solution instead of the problem. Perhaps we should revamp the economy so money and jobs don’t fly around randomly, tieing them down to meet the needs of people — instead of people ripping their lives apart to follow the needs of incoherent and chaotic capitalism.

    Didn’t this used to be called feudalism?
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    Fabius Maximus replies: No, it is the opposite. Feudalism ties people to the jobs or land. I was refering to limiting the hot flows of capital that uproots people.

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  24. FM: This is a good post, typically concrete, but the central theme — something is wrong with America — is misleading. There’s nothing wrong with American citizens. We act in predictably self-interested ways, sometimes foolishly optimistic, sometimes foolishly cautious and fearful. All of us, excluding the poor, have been seduced into the consumer culture. The operative word though is “seduced”. We did not ask for this culture, it was foisted on us — first for political reasons, to disguise the outflow of jobs initiated by domestic corporations for cheaper labor overseas, and secondly, for profit motives by the major financial centers, principally through lowering interest rates, loosening credit standards and inflating property values.

    In other words — the consumer society, and its bubbles which have now burst, are not a weakness of the American mind, but a cycle of the free enterprise economy that dominates our politics and our lives.
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    Fabius Maximus replies: Poor us, “seduced” against our will. Perhaps some nice tyrant will come along and take care of you. I prefer to just admit that we were fools, accept the responsiblity, learn from this, and move on with the experiment in self-government.

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  25. Amazing – because the problem in the UK is caused by a shortage of homes. This is how I think it works (or rather ‘worked’). Banks and mortgage brokers need to maximize clients’ debt on theh highest possible interest rates. Where there is a lot property – they lent to those who couldn’t afford i.e. Maximize the client base. Where there is a shortage of property, let supply and demand inflate house prices, and maximize on ‘house price equity’. But anyone can see it’s the same trap, all be it with different bait. The problem was that those would couldn’t afford to pay – couldn’t pay (surprise). And in the UK? Well guess what – a broom cupboard apartment in some London slum really isn’t worth $1,000,000, another surprise, I would love to know who educated these men of high finance.
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    Fabius Maximus replies: Great point! Overbuilding is not necessary to have a real estate bubble. An even more extreme example is Japan during the late 1980’s. No overbuilding there, for sure.

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  26. I see basic agreement with what I have been saying for years: we have reached the Peter Principle in our economy and technology. We have collectively reached our level of incompetence, or at least, a substantial portion of the polity is incapable of the analytical thinking required to sustain progress. And, I am not talking Joe Sixpack incompetence of the little people here who need some elite guidance. The problem cuts through and infects every strata of society, possibly especially among the elites.

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  27. Part of it is the American Dream, this idea that everyone in America will own a house with a little white picket fence and a car and have a little dog to come home to–and even though this image was created in the ’40s, it’s still being taught in schools. The American consciousness is about want, not contentment. Quite frankly, we should dump the public education system and let people who know what they’re doing run things.

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  28. FM note: strong recommendat to read this article! It is not just about the “inner city.”

    All Boarded Up“, NYT Magazine, 4 March 2009 — about the collapse of Cleveland.

    What used to be called the “inner city” has been in decline since the 50s. Is it continuous or punctuated? This excellent report could be reproduced in dozens of places from Camden, N.J. to Oakland. How many “federal programs” from model cities to fanny and freddy have been exploited while failing to correct or alter any of the ills they were meant to address? We continue to fleece ourselves and see no evidence that this administration is going to do anything different. From city to county to state the responsibility is handed upward, waiting for the money to come back down, slabs skimmed all the way back and nothing changes. Well, this is actually easy to fix if anyone wanted to engage these failing places other than sellers of drugs and alcohol. But it requires different thinking, confrontational politics, honest speaking about race,class and poverty — all the subjects we avoid, consoling ourselves with how wonderful Oprah is and how remarkable the other O is. Read this article and when you stop weeping suggest one thing you would do to end this shameful blight that has afflicted the nation for decades. Shame on us.

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  29. FM, although I confess my mind recoils at the ‘waste’ aspect of simply bulldozing recently built structures, I do understand the logic behind it. However, I can’t help but feel that since much of the problem was due to an inflationary credit-asset bubble which distorted prices way out of line with the actual economy and earning power of borrowers, that first we should let prices return to being in line, then maybe also look at re-pricing existing mortgages accordingly, and then see if things really need to be destroyed, otherwise it seems to me that such policy would appear – even if it is far more than that – as simply a way to support prices artificially rather than allowing them to find their ‘true’ level.

    I don’t have link, but read recently that although household debt soared exponentially as most charts show, so also did household net asset value but by somewhat more. And given the way things were going, one could argue that people were actually doing the responsible thing in order to have any viable retirement scenarios by latching onto virtually the only readily available way to boost net assets. Financial instruments were becoming increasingly iffy, houses seemed twice as ‘solid’, as well as profitable, earnings were going down relatively, so investment in real estate was prudent in some sense.
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    Fabius Maximus replies: You miss the point. If you have a vacant home next to you, with the plumbing, furnace, and wiring ripped out, lawn overgrown, a fire hazard — inhabited by vagants (or a meth lab) — you might feel differently about the “waste” of demolishing it. I suggest you read that NYT Magazine article. Then call the folks in Cleveland or California’s inland valley (e.g., Modesto, Stockton), who must actually deal with this mess — and share your lofty ideas about the situation.

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  30. The broken OODA loop is the most important point I take away from this post on the housing/mortgage/foreclosure crisis. Anybody who has been paying attention knows that “How did thing come to this?” is a question with a complex set of answers. And complex answers are opportunities for the responsible parties to point to others while shouting “they did it!”… with at least some truth to the accusation.

    The mortgage meltdown is a crisis whose outline has been visible for some time, even if most (myself included) didn’t see it. I worked through some numbers showing the absurdity of the Los Angeles County housing market by mid-2006, here (Comment #60).

    Q: In our bipartisan system, why didn’t the Democrats highlight the Republicans’ reckless contributions to the crisis as it was building?
    Q: Why didn’t the Republicans publicize the Democrats feckless actions during those years?
    Q: Why is the Bank of America taking out full-page advertisements in the Wall St. Journal to trumpet its hair-of-the-dog-that-bit-me commitment to $1,500 billion in additional future shaky housing loans, as its contribution to solving the mortgage crisis?

    The answers get back to the broken OODA loop. I assume most Democrats, Republicans, and bankers thought they had more to gain by playing ball than by yelling, “Foul!” (Richard Baker of Louisiana was an honorable exception.)

    Steve Sailer has offered one coherent explanation for what he labels the Diversity Recession. There are surely others. (E.g. the mainstream media’s failures over the past decade–having a premier teevee politics/economics reporter married to the head of the Federal Reserve says much about its ability to fulfill a watchdog role.)

    With the recent past so full of hidden-in-plain-sight surprises, no wonder our society has trouble interpreting the present and planning for the near future.

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  31. Few people take Florida seriously,they largely see him as just another self promoter hyping his one big idea..Among the few economists who actually studied many of his claims about the creative class,high bohemians or brights,it was discovered that the thriving economies were actually created by the bourgeoisie. The creative class are merely the interior decorators. As happens with any fad,Florida takes trendy New Urbanism and the current pandemic of narcissism to it’s logical,and absurd,extreme.

    Tribalism,a sense of belonging,are inherent to human nature.It would require a truly frightening degree of self-absorption to wander aimelessly with nothing more than brief shallow acquaintanceship,that would hardly be fulfilling to any less self centered.

    Maximus, importing more poverty from Mexico will not solve the housing problem.The new comers will no more be able to afford those homes than those who defaulted. Doing so would only compound this,and many other,problems. I truly hope you’re not suggesting we redue this whole Fannie Mac debacle on a larger scale?

    “More immigration” seems to be the standard solution to any and every problem now!
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    Fabius Maximus replies: I just list all the variables. I have written quite a bit about the ill effects of open borders (another such post goes up sometime during the next few days).

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  32. Housing markets are local but mortgage markets are national.

    I don’t see much oversupply of housing within my commute range in Silicon Valley. One needs to consider the Central Valley (Stockton, etc) to see a crash. In Silicon Valley, the offices are in something of an oversupply but the physical and political constraints on land development means we’re built-out for housing while the core businesses have been piling on jobs.

    Hence, population presssure coupled with easy money mortgages based on federal policies drove up prices beyond what payrolls could support. Barring a huge job collapse and subsequent population outflows, we should see no oversupply of housing. The lists of houses for sale and time on market supports that – prices are trending downward but are almost where a single middle class income can afford the payments. Barring further Obama Administration, intervention, we’re not far from a bottom. His inflationary policies will kick prices back up as the value of dollars fall.

    So, oversupply of homes is NOT the problem in Silicon Valley, the past oversupply of money had been. Remove the easy money and prices will correct themselves.

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  33. “Might be better to buy a new home in a rural area for cash and rent out our expensive condo.” (mama73)

    This is actually a good idea,for those who can. After reading all the comments, I wonder did FM intend to say that an over-supply of houses is the main cause of our financial crisis and subsequent melt-down? Is that what we need to remedy first in order to start a recovery?

    If so I disagree. We have an oversupply of cars, too, and no one is proposing that we destroy them! The inflation of home prices and the oversupply of them are symptoms of the problem, and classically are supposed to interact to reach an equilibrium. There are other symptoms much more urgent to address — massive unemployment, falling investment, under-utilization of productive resources, etc. If and when we address those, we then have to address the causes of the problem — wrong-headed fiscal policy and lending practices. Home values and occupancy will sort themselves out; the only reason policy makers are focusing on them now is to prevents the banks’ balance sheets from collapsing even further.
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    Fabius Maximus replies: First, its a bizarro idea — unless you have a trust fund providing income. Ourmigration from rural areas results (among other reasons) from a lack of opportunity and jobs.

    Second, I have been very clear that too many homes is a side-effect of the core problems — of which excess debt accumulation is one of the prime manifestations.

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  34. We successfully avoided Great Depression 2 by encouraging people to buy things they did not need with money they did not have. That policy has now run its course.

    One reason for a dysfunctional OODA loop is the need for us to be upbeat, positive thinking, can-do people. Studies have shown positive thinking makes seeing reality as it is more difficult. But to be successful you must be a positive can-do sort of person. Even if you have to ignore both problems and their only possible solutions in order to do so.
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    Fabius Maximus replies: I agree. For more about this see All we have to fear is our optimism, 12 November 2008.

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  35. As you pointed out, this is a matter of demand & supply. When the price of something goes up, it is possible to tell if it was demand or supply that drove it up by looking at what happens to how much sells. What has happened in housing markets has to be as a result of increased demand, because the quantity of housing that was bought & sold grew by leaps & bounds, at least until the bubble burst. Only increased demand can do that. Supply then increased to satisfy that demand. Where did the demand come from? From Boomers with savings to invest, at least once the tech stock bubble burst. We have a vastly over-sized pre-retirement generation of Boomers who have been saving and need to hold those savings in income-producing assets. That’s why we’re seeing bubble after bubble.

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  36. The solution to this problem is clearly yurts.

    According to the Yurt Information website:

    here are many options from building your own yurt to buying a complete kit that contains the structural elements and exterior covers. Manufacturers build them in a variety of sizes and prices from 12 to 30 feet inPhoto by Zahora photography © 2007 diameter. Purchased as a kit, they can also be equipped with many options like extra windows, stove pipe flashing, fabric upgrades and much more.
    Interior partition walls can be added to separate living area from bedroom and bath areas making it feel like a home. Some choose to add smaller yurt to a larger central one to create a larger space with private areas. Larger ones typically have higher ceiling heights that allow for a second floor loft or storage space.

    According to the Yurts Price Estimator, you can get a yurt for $6,814. Turts can have many options. Goto the estimator to figure out how much the yurt you would like would cost.

    Mongolians invented yurts. As you all know, Genghis Khan’s tactics are central for 4th generation warfare. So get inside everyone’s OODA loops and get yourself a yurt today.

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  37. seneca:”If so I disagree. We have an oversupply of cars, too, and no one is proposing that we destroy them! The inflation of home prices and the oversupply of them are symptoms of the problem, and classically are supposed to interact to reach an equilibrium.”

    Yes, bulldozing houses is a way to save the banks and ultra-rich from declining values of their loan portfolios — the rich suffer so in this recession. Something must be done immediately.

    Grapes of Wrath:”We’re sorry. It’s not us. It’s the monster. The bank isn’t like a man.

    Yes, but the bank is only made of men.

    No, you’re wrong there quite wrong there. The bank is something else than men. It happens that every man in a bank hates what the bank does, and yet the bank does it. The bank is something more than men, I tell you. It’s the monster. Men made it, but they can’t control it.”

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  38. Surely its not only sensible to have your own home and be close to your own family , but in our DNA . This is how most humans have always lived , and do live where they are not prevented by planning and building laws ,or natural or manmade disasters . This is probably more deep wired in women than men .I employ several young mothers , and see the give and take of support available to those who live near their mothers , aunts , sisters and grandparents .

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