Transcript NEW YORK CITY’S HOUSING BUBBLE

NEW YORK CITY’S HOUSING
BUBBLE, 2005-2006
Presented by John Tepper Marlin, Principal,
CityEconomist.com, NYC, at the Eastern
Economic Association, Philadelphia, February
23, 2006.
Updated from work of the economic unit of the NY City
Comptroller’s Office, September 2005. Economic Unit: John
Tepper Marlin, Chief Economist; Farid Heydarpour, Principal
Economist; Irina Livshits, Economist; Julian Harper, Intern
(Swarthmore College).
Housing prices in New York
City have been rising rapidly
Is there a bubble? How do we know?
Is there is A Bubble Checklist (ABC) test
that could be applied to any city?
If there is a bubble in NYC, why did it
happen?
What are some post-bubble scenarios
(PBS)?
U.S. housing market hot: 15%
increase in mid-2005
Median price for existing U.S. homes,
mid-2005: $219,000
15% above a year earlier
Fastest rate of growth in 25 years
What about NYC?
Manhattan apartments soared
faster, 30% increase in 2Q05
Coop & condo mean prices rose 30%
from year earlier…
… 8.5% from 1Q05…
…to a record $1.3 million.
Mean prices of apts. with 4+ bedrooms
rose 113% over year earlier, from $5
mil. to $10.6 mil.
(But 4+ bedroom apts. were < 2% of
coop/condo sales in 2004.)
A Bubble Checklist (ABC):
Three Tests for NYC
(A) Have NYC Housing Prices Grown
Faster than the NYC CPI? Housing
prices historically have kept pace with
overall inflation.
(B) Have NYC Housing Prices Grown
Faster than Personal Incomes? Higher
housing prices must over time be
supported by higher incomes.
(C) Are NYC Mortgage Payments Higher
than Rents? Rents typically move in
tandem with home prices.
Test A. NYC Housing Prices
Grew Faster than NYC CPI
NYC shelter prices (BLS-imputed
rent = cost of housing &
maintenance) from 2/2001 to
6/2005 rose 21%.
More than 7 %age points faster than
NYC CPI growth of 13.7%.
NYC’s cost of shelter has exceeded
U.S. cost since early 2001 (Chart 1).
Sign of a possible bubble.
Chart 1. Growth in Shelter
Cost and CPI, NYC, 1/00-6/05
Source: BLS
8%
7%
All Items
6%
Shelter
5%
4%
3%
2%
1%
0%
Jan 00
Jan 01
Jan 02
Jan 03
Jan 04
Jan 05
Test A. Sidebar Query: Is
Shelter CPI Underestimated?
Since 12/04, NYC’s cost of shelter
has averaged 4.7%, two full %age
points above the nation’s 2.7%.
Shelter cost is 32.9% weight in CPI;
explains why NYC inflation > U.S.
Question: When rents lag sales
prices, does “shelter” cost understate
NYC/U.S. housing inflation? If so, the
bubble could be bigger than it looks.
Test B. NYC Housing-Price
Growth > Personal Incomes
Median real price of NYC housing jumped
to $313,867 in 2003 from $231,922 in
2000, a 35.3% increase.
But NYC per capita personal income rose
only 2.5%, to $40,899 in 2003 from
$39,915 in 2000. BEA.
In 2000-2004, the median price for a
single-family NYC home rose 71.5%, but
average wage rates, a major component of
personal income, rose only 9.6%. NYS
ACS.
(PI 2004 n.a.)
…
Test B. NYC Housing-Price
Growth>Personal Income(Cont.)
Average NYC wage rates in 2000-2004
grew 9.6%
but
Manhattan condo & coop prices grew
much faster:
NYS (PI 2004 n.a.)
- Mean sales price rose 70.8% (to $1,004,232
from $710,788). Prudential
- Median sales prices rose 51.8% (to $605,859
from $399,000). Prudential
- Mean price per square foot rose 46.9% (to
$767 from $522). Prudential
…Which adds up to signs of a bubble.
C. NYC Mortgage Payments
Greatly Exceed Rents
A 5.5% mortgage means a monthly payment on
a median-value NYC house ($313,867) of
$1,782, more than 2X median NYC rent ($816).
Most recent data 2003.
The 2003 median monthly rent would pay for a
mortgage on only $143,715, less than 1/2
median home value.
The nominal 5.7% increase in 2003 NYC
median rent over 2000 rent ($772) is 1/6 of the
real increase in median NYC house price. Signs
of a bubble.
Why Did Housing Prices Rise?
1. More Demand? Not in NYC
Population in NYC didn’t grow fast – just 1%,
from 7.8 million in 2000 to 7.9 million in 2003.
Income in NYC didn’t grow fast – per capita
personal incomes of NYC residents rose just
2.5%.
Employment in NYC actually fell 5.1% from 2000
to 2003 & remained 4% below 2000 level in 2005.
Foreign buyers may have contributed to demand
for NYC housing because the value of the $ in
2005 was 1/3 below its peak in October 2000.
2. Is There a Shortage in NYC
Housing Supply? Possibly.
No. of NYC housing units grew slowly in
1970s and 1980s, limited by scarcity &
cost of NYC land & zoning/code hurdles.
But Giuliani & Bloomberg eased hurdles.
NYC housing construction cost rose only
4.8%, to $125.91/sf in 2003 from
$120.20/sf in 2000.
Cost rose to $132.18/sf in 2004, for an
increase since 2000 of 10%.
Source: Dodge Analytics, McGraw-Hill Construction Data.
2. Housing Supply Shortage?
Possibly (Cont.)
In 2000-2003, NYC housing units grew
1.6%, faster than population growth…
Source: U.S. Census, CPS. Grew from 3.20 to 3.25 mil. units.
… and housing permits outpaced
growth in households.
NYC Rent Guidelines Board, Housing Supply Report,
2005, June 2, 2005, 2.
In 2004, 24,220 permits were issued,
the most since 1972.
NYC Dept. of Finance, “Building Permits by Type,” NYC
Property Tax, FY 2005, 40. Permits were for “new construction.”
Net supply: Enough to contain price
increases, provided units not taken off the
market.
Source: Steven G. Cochrane, “Real Estate Activity Index,” Regional Financial Review, June 2005, at
www.economy.com.
3. Availability & Cost of Home
Financing? Yes…
The best explanation of rising NYC housing
prices: The 30-year mortgage rate fell.
This boosted the power to buy a home.
Back in 2000, financing the median NYC
home (price = $209,900) with a 30-year
fixed 8.04% rate meant a monthly payment
of $1,548.
A 2004 buyer with a 5.78% mortgage could
incur the same monthly payment on a
mortgage of $264,057, a 26% increase in
buying power. (See Chart 2.)
Chart 2. Mortgage Rates &
Home Buying Power 01-04
$280,000
8.5%
Prices Attri butable
to Mortgage Rates
8.0%
House Prices
7.5%
$240,000
7.0%
Mortgage Rates
6.5%
$220,000
6.0%
$200,000
5.5%
2000
2001
2002
2003
2004
Mortgage Rates
$260,000
…But Home-Price Growth
Exceeds Lower-Rate Benefit
Housing prices grew faster than can be
explained by lower mortgage rates.
The benefit since 2002 from lower rates
explains $260,000 of the price
difference.
The remaining $100,000 increase is not
explained by economic factors.
This suggests psychological factors
have played a part, i.e., a bubble. (See
Chart 3.)
Chart 3. NYC Home Prices
& Home Purchasing Power
100%
$360,000
Actual Pric es
$340,000
80%
House Prices
$320,000
$300,000
$280,000
Prices Attri butable
to Mortgage Rates
60%
$260,000
36.3%
40%
$240,000
17.9%
$220,000
9.2%
$200,000
$180,000
0.0%
0.4%
2000
2001
20%
Difference
0%
2002
2003
2004
Difference B etween Act ual and Est imated, %
$380,000
Prospects for U.S. Cooldown
Housing markets may be cooling off.
Long-term interest rates have stayed
lower than most economists expected
given continuing large Federal budget
deficits, the steadily rising fed funds rate
& the revaluation of Asian currencies.
However, as the fed funds rate has risen,
long-term interest rates—including
mortgage rates—have also started to rise.
Source: Data from www.bankrate.com.
Prospects for U.S. Cooldown
(Cont.)
With a fixed-rate mortgage, each 1
%age-point increase in rates translates
to a decline of about 10% in the principal
financed with a given payment.
With a variable-rate mortgage, each 1
%age-point increase in mortgage interest
rates means an 11% rise in monthly
payments.
Without a spurt in incomes, this will put
downward pressure on housing prices.
Source: Calculations by NYC Comptrollers Office.
U.S. Cooldown Scenario 1:
Less Consumer Spending
People who own their homes cannot sell
them as fast as they can sell securities.
But people tend to reduce spending faster
when house prices fall than when the price
of securities falls.
Homeowners are also paying more for
energy. Paying $1,200 more for heating oil
& electricity is equivalent to a 5.5%
mortgage payment on a $17,600 30-year
mortgage. So other spending may be
crowded out by higher energy costs.
Source: NYC
Comptroller’s Office.
U.S. Cooldown Scenario 1
(Cont.)
For every $1 decline in the value of
their holdings of stocks & bonds,
consumers reduce spending 3-4 cents.
For every $1 decline in housing assets,
they reduce spending 5-7 cents.
So a housing-price decline would
significantly reduce consumption, which
is most of GDP.
Sources: Karl E. Case, John Quigley, & Robert J. Shiller, “Comparing Wealth Effects: The Stock Markets versus the Housing Markets,”
NBER Working Paper, October 2001. Wealth effect is cited as 7% for housing assets by Stephen Roach, “The Asset Economy,”
Steve Roach Weekly Commentary, Morgan Stanley, June 21, 2004, 3. The wealth effect is cited as 5% for housing assets by
Richard W. Peach, “Are Home Prices the Next Bubble?”, Economic Policy Review, Federal Reserve Bank of New York, December
2004, 2.
U.S. Cooldown Scenario 2:
Debt Stress, Foreclosures
“Flexible financing” has risen –
mortgages with no down payment or
proof of income, or interest-only.
Mortgage market riskier for lenders.
Borrowers could lose their homes to
lenders or have to sell in a hurry.
Rising home-equity & other adjustablerate mortgages are vulnerable to higher
mortgage rates.
U.S. Cooldown Scenario 3:
Capital Market Stress
In 2003, the Office of Federal Housing
Enterprise Oversight (OFHEO) & Fed voiced
concerns about risks facing Fannie Mae &
Freddie Mac.
These government-chartered but private
companies buy mortgages from lenders & sell
them to investors. (Only Ginnie Mae is
government-backed.)
If housing prices stagnate or decline, Fannie
and Freddie will face losses & stress could
follow in capital markets.
Sources: Office of Federal Housing Enterprise Oversight (OFHEO), Systemic Risk: Fannie Mae, Freddie Mac & the Role of
OFHEO, February 2003. Alan Greenspan, “Letter to Rep. Richard H. Baker (R-LA),” May 19, 2000. Greenspan, Testimony to the
Senate Banking Committee, June 15, 2004.
U.S. Cooldown Scenario 4:
Fewer Real Estate Jobs
Real-estate-related jobs have grown in
construction, banking, insurance.
These & other sectors will be affected as
housing markets cool.
First effect could be decline in volume of
sales rather than prices. Sellers may
prefer to wait, hoping prices will recover.
(With inflation, nominal prices will rise
eventually.)
NYC Cooldown Scenario 1:
Reduced Consumer Spending
Cooler NYC housing market implies a
moderate reduction in spending. Growth in
NYC housing prices, 77% in five years, less
rapid than in Santa Barbara, 122%; San
Diego, 118%; or Miami, 96%. PMI Group, Walnut Creek,
CA
Underlying value of homes in metro NYC
housing prices estimated 25% above
sustainable level; Santa Barbara 69%
above. Data for the 1Q05: Richard J. DeKaser & John G. Charamonde, “House Prices in
America,” National City Economics (Cleveland, Ohio), July 2005.
NYC Cooldown Scenario 2:
Some Mortgage Banking Stress
Problems with payment on home-equity
loans likely.
But effect in NYC not likely to be as
great as in other cities where mortgage
practices are riskier.
One reason: Coop boards in NYC
review financials and limit borrowing for
purchase.
NYC Cooldown Scenario 3:
Capital Market Effect
If regional housing bubbles burst with
unexpected speed, capital markets may
be affected because mortgage risks
securitized by Fannie Mae & Freddie Mac
may flow through to shareholders in
these companies.
Disruption in these markets could be
damaging for NYC, which depends
heavily on Wall Street incomes.
NYC Cooldown Scenario 4:
Real Estate Income Losses
Cooling of housing prices will reduce jobs
and incomes in NYC’s real estate and
finance industries.
However, jobs already declined in these
sectors in 2000-2004, so the impact may
be primarily on incomes, not jobs.
Some construction jobs appear to have
migrated to the informal economy. The
impact of a decline in demand may be
informal.
Outlook for 2006: Higher
Rates a Problem for NYC
Interest rates (10Y Treas.) projections
average 4.8% from 4.3% in 2004-2005;
Bear Stearns at 5.2%. Will hurt housing
prices and Wall Street profits/bonuses.
NYC “Misery Index” for 2006 projected
9.4% = 3rd highest unemployment, 5th
inflation & > 7.8% U.S.
Mayor projects NYC GCP growth in 2006 at
2.1%, lower than 3.3% U.S.
Source: Misery Index for 3Q05 – NYC Comptroller’s Office, 2005. Projected 2006 GDP growth and U.S. misery index are based on Feb. 10, 2006 Blue Chip
consensus.