Promoted by Steven D.
I wasn’t going to write this, but then I saw skippybkroo’s post on the spike in housing foreclosures languishing at the bottom of the diary list, and realized that he had caught the Scoop of the Week.
It may not have been obvious: This week has seen several interesting and portentious events. But the import of his diary is this: Our economy has entered the black hole of no return. We have crossed the event horizon.
His diary did not quite spell it out, and one might have missed it. But this week I have been following the stories posted on The Housing Bubble, and change is in the air. Go ahead and read. Construction has stopped on major condo projects all over the country. Unsold units abound. Sold but UNOCCUPIED units abound. Suddenly we are seeing what appear to be TORCHINGS of construction projects with no attempt to make it look accidental. The smell of panic is as thick as the smoke.
Single family houses are not doing much better–except that there have been no spectacular torchings. New developments increasingly feature empty houses. The market has gone into a coma, with sales simply failing to happen, starting roughly last summer. There are no buyers. Prices have frozen up, and are beginning to drop.
The back-story to this has two major parts.
The first is the housing market itself. For several years, we have seen a trend of spectacular, ever-increasing prices–your classic bubble. It has been nation-wide, indeed world-wide. There are housing bubbles in the United Kingdom, Australia, and parts of Spain. In the US, southern California has been at the forefront of the rising trend, but virtually every part of the country–from Oregon to Florida and from Arizona to Massachusetts and parts in between–has seen bubble activity. Price rises overall have risen some two to four times the base prices before the bubble began–200% to 400%.
Where is the money coming from? Nobody is quite sure. Asian investors are suspected. But that is clearly only part of it. With the stock-market crash at the end of the 1990s it was noticed that money was moving out of the stock market and into housing.
Also, under Bush, interest rates were depressed, and the Fed was loaning money to banks freely and cheaply, while exotic lending practices were allowed to flourish. “Exotic” is the industry euphemism for unsound, risky, absurd, or criminal. New kinds of mortgages were created where the borrower would not even begin to pay back the loan at a full rate for several years. These were the ARMs and the IOs. Cheap at first–literally free money–after a few years the loans would automatically reset and become very, very expensive.
Why would anyone take out a mortgage like that? Even if it looked good at first, one would soon be trapped into overwhelming mortagage payments. Well, suppose you could buy a house at $600k and sell it in two years for $715k? Suppose you could borrow the ENTIRE purchase price, and pay (nearly) nothing on your mortgage in the two years you held the house? The resale would get you out from under, with the mortgage paid off, before those nasty high rates kicked in–and with a huge bundle of extra money besides. Anyone could do this. Mortgage companies did not even require that you be employed or have a source of income to take out the loan.
Why would a mortgage company do this? Up until the mid 1980s banks and mortgage companies generally held the loans they underwrote, so they were very careful to see that the loan was likely to be repaid. By the 1990s the habit was to bundle the loans into securities instruments and sell them off to large investors. The originators of the loans soon realized that they did not have to care if the loans were any good: They would be bundled and sold to become Somebody Else’s Problem. The mortgage companies were making their money by creating and selling loans–not by collecting interest and repayment on them.
Also, as money flooded into the housing market, and prices began to be bid up, a Ponzi scheme was created–everyone involved in flipping houses would make money AS LONG AS THE PRICES CONTINUED TO RISE. Builders built, and overbuilt. Buyers bought, and bought again. Houses stood empty, bought and waiting only to be resold at a higher price. The owners never moved in, and often never expected to: They were “investing”.
This did result in some externalized inconvenience. People who wanted to buy a house to live in were priced out of the market. People who already owned their homes found their property taxes leaping up as the “value” of their neighborhood climbed with over-inflated sales. But for “investors” large and small, this was a vast money machine–perpetual motion.
The second part to the back-story is that since 1980 the US started off-shoring its industry, and off-shoring became a major trend in the 1990s, remaining to this day unabated. This means that the building and furnishing of houses represents an ever-enlarging portion of our economy, to the point where it is a critical part: Most of what the US still does is tied in some way to the building and furnishing of houses.
These two threads came together this past summer, when buyers quit showing up to pay inflated prices. Why the bubble chose exactly then to end is hard to say–by rights it ought to have burst at least a year earlier. Nonethelesss, that was the top. (Your local region may vary.)
Without buyers, the sellers could not sell, but, not wanting to take losses, they did not lower their prices either. The market froze–as represented by the measures of unsold inventory, and houses withdrawn from the market.
The turn, which some have long suspected and anticipated, has now arrived. Whether due to mortgage resets or some other reason, people are missing payments (“NOD”) and being foreclosed upon by the banks holding their mortgages. That the foreclosure rate is the highest in eight years–for California–and rapidly climbing, is the indicator: The huge mass of foreclosures waiting to happen, is starting to happen.
Many people are stuck, and will go bankrupt: They cannot afford the reset rates on their loans, but they cannot sell at a price that will pay their mortgage off. With prices freezing, and soon declining, they are “upside down”–owing more than their houses are worth. Most will go into foreclosure, and the banks will take back the houses to resell them for what they can. This will drive prices down steeply.
This is called a crash. The last housing crash–in 1989-1990–took six years to reach its bottom.
The complication this time is the crash is likely to take down with it every industry related to home building and furnishing, as well as the banking sector. The automobile industry, long an important economic sector, is already in trouble and will be dragged down as well.
Not many people will be immune. Where did all those mortgage securities, with their unexamined but junky loans turn up? Some are probably in your pension plan. Large institutions of all types will be at risk.
This is coming at a time when the US is having an increasingly difficult time financing its debt–both national and governmental.
The house of cards is about to come down.
With the spiking of foreclosures, we have crossed the event horizon. Staving off the coming trouble will not be possible. The Treasury is having to offer higher rates to sell its debt, but interest rates would have to go down to cushion the collapse. Between these conflicting requirements, there is no longer any room to manoeurvre.
By this summer, expect the crash to be obvious to everybody, with general panic getting underway.
Expect it to be worse than the Great Depression.
Plan your life accordingly.
Thanks for dropping by.
Thanks for highlighting this issue here. I pay too little attention to domestic issues but the economy is headed for a fall at some point, and that fall could be extremely devastating.
This is an excellent diary Gaianne – thanks for posting it.
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Thanx to Bush&Co, costing the lives of thousands of our young men and women in Iraq’s occupation.
«« click for aerial picsDubai Real Estate InvestmentsDubai (UAE)
…
Moscow (Russia)
Doha (Qatar)
Kuwait City
Riyadh (Saudi Arabia)
Conclusion: Bush went in for oil and is now embroidered in a religious conflict.
"But I will not let myself be reduced to silence."Thanks for this, and for credit to skippybkroo.
As to your initial comments, there are a number of diaries languishing and worthy of our attention.
In fact, at the risk of a small flame war, I’ll go so far as to say that an author’s identity has much to do with a post’s lingering (or not) status.
I almost gave this an enthusiastic 4, because it is clearly very clever. Sadly, I don’t get the reference. And please forgive me for butting in.
I’ve been waiting patiently for the housing crash to happen so that I can afford to buy a house. I’m not terribly worried about the overall consequences for the economy, in no small part because I have been reading the-end-is-nigh economic diaries on political blogs for years now. (And before that, watching a steady stream of the-end-is-nigh economic books for the last twenty-five years, in good times and bad.)
The reason I distrust impending doom diaries is that I often have trouble getting a straight answer to simple questions. In a discussion attached to a housing bubble diary on dKos by one of the prominent economic bloggers, I asked if, at some point, prices had to come down on houses simply because, eventually, there would not be enough customers able or willing to buy property past a certain point, and if mass foreclosures would ultimately result in banks selling off foreclosed properties at a loss.
I was assured by several people, all of whom ought to be smart enough to know better, that all of that property would sit unsold, presumably forever, despite the cost of upkeep, despite property taxes, despite the fact that taking a moderate loss is better than taking a total loss. It was as if everyone was so focused on their private pleasure at the spectacle of economic apocalypse that no one noticed the absurdity of postulating a future in which millions of houses sat unoccupied, waiting patiently for the second coming, during which, presumably, houses whose asking prices had not been tempted into the sin of conformance to market forces would be raptured into the housing developments of the Lord.
Some days, watching people get terribly excited about business cycles is like watching primitive tribesmen performing rituals to ensure the sun is born anew in the east after passing through the underworld.
Shifts like this are not the end of the world. People who were suckered into buying in this overheated market are definitely going to get screwed, but they have essentially paid for lower prices for the people who buy houses on the downturn, and those people are going to end up proportionally better off. Economies aren’t exactly like thermodynamic systems, but they’re close enough to make the analogy. Wealth doesn’t just disappear en masse, it changes hands.
I’d agree with much of what you say but …
US debt is at an all time high.
Consumer debt is at an all time high
The stock market is over valued, and most of the well performing sectors are related to defense, pharmaceuticals or energy in some way.
After the Vietnam War we had a long and ugly economic downturn marked by “stagflation” and that was coming off the best economy the US had ever experienced in the 50’s and 60’s.
Income inequality is the highest it has been since the 20’s just prior to the great Depression.
Climate change is starting to have adverse effects on the economy particularly in the insurance industry.
These are all very troubling signs in my view. To ignore them is believe that the status quo will always be the same regardless of what happens in the world.
Don’t get me wrong; I certainly don’t think that the next decade is going to be a pleasant one. We do have a lot of real problems, and fixing them is going to be a painful process. What I do doubt is that we are going to see anything as bad — at least in the first world — as the Great Depression. The post-Vietnam slump, as you note, is probably a better model for the coming years: bad, but well short of soup lines and mass migrations.
The wild card, of course, is global warming. That could definitely screw us into the ground. Economic cycles by themselves, not so much.
The thing that was most striking to me about the 1980s is that we undid the regulation that had been instituted specifically to prevent a downturn of the size of the Great Depression from recurring.
The Vietnam slump was well before this massive deregulation.
So if economists and bankers are right about what caused the Great Depression, we are again vulnerable.
Of course, after the onset, the Federal Government acted in ways which were exacerbating. But after Katrina, I expect nothing less this time, either–just a hunch!
How bad it gets will depend on how badly the economy reacts to the severe drop in the dollar exchange rate. There will be a sharp drop in employment because of the reduction in the housing and housing-related businesses.
But that may make American exports increase. The big problem will be the time lag between the drop in the economy and the increase in exports. The experience of Argentina in similar (but much less massive) circumstances suggests that the middle class could well be effectively wiped out. Of course, the loss of the American market will cause a sharp reduction in international trade, so the export industries will have to wait until (first) the dollar drops a great deal and (second) the rest of the world comes out of the resulting recession and starts to import stuff again.
The inflation caused by the increase in the prices of imports will cause real problems for the middle class, and the rules of the recent bankruptcy bill will really hurt as people find they are trapped by their credit card debt. The fed’s first reaction is going to be to go back to raising interest rates, which will also reduce the economy and increase unemployment. The only way out of that will be to inflate the economy and to stop the fed from raising interest rates.
I really doubt that the dollar will be able to survive as an international currency, unless the world bankers decide that defending the dollar is the only way to keep a world recession from getting much worse.
The only reason it might not be as bad as the Great Depression is that bankers now know better than to pass a new Smoot-Hawley protectionist bill. The depth of the recession will be as bad, but the time it lasts won’t be as long.
I sort of hope someone out there can refute this analysis. I don’t see much of any way to avoid most of it.
I’ve been waiting patiently for the housing crash to happen so that I can afford to buy a house.
Many people are. The price increases have shut out many folk who want a place to live rather than an “investment” tool. Waiting may be the only way to avoid getting stuck.
I asked if, at some point, prices had to come down on houses simply because, eventually, there would not be enough customers able or willing to buy property past a certain point, and if mass foreclosures would ultimately result in banks selling off foreclosed properties at a loss.
I hope I was clear: The one good effect of foreclosures will to be to force prices down. Most banks will not want to hold a mass of properties, nor become landlords, and will sell them off.
Another source of downward pressure is that some builders are willing to cut (their very large) profit margins in order to keep building, and are undecutting houses that they had built and sold only a year earlier.
I was assured by several people, all of whom ought to be smart enough to know better, that all of that property would sit unsold, presumably forever,
I hope it is clear I don’t think that.
Personally, when it comes to houses, and also to stocks, my practice has always been: “Buy high, sell low!”
Which is why I’m still working so hard every day.
at the end of the 1980s. They weren’t trying to speculate, though, they were just trying to buy a house to live in at a time when this was a bad idea.
Put me in the not-as-big-a-deal camp. Will the bubble burst? Yes. Will it trigger another great depression? No.
The historic and economic factors that led to the great depression were much more complicated. The basic understading of economists simply could not account for unemployment. Every tool they attempted to apply only worked on levels of production, when the problem was in aggregate demand. There were also huge issues surrounding the envronmental collapse of the too-heavily leveraged farming sector that led to mass migrations of unemployed. This doesn’t even get into the fact that they were riding a 10-year bull market over a cliff. It’s just different.
This is going to be hard for some, but mostly the banks will just suck up houses which they know they’ll be able to sell later for less than they originally loaned out (to pay to themselves or each other), and all of the “losses” will translate into tax write-offs.
The people who will be hit hard will be the ordinary workers in the construction sector. But this will just be a bump in unemployment. All or most of the real wealth in these companies will be fine. You’ll probably be able to get a real good price on a used Lull lift, though.
Consider, it’s not like the people shopping in the malls in mid-tier suburbs depend on the continued construction of suburbs. They just don’t.
As long as credit remains easily available (regardless of interest rates), the economy will keep squeezing along, putting more people in ever more slightly uncomfortable positions. Sucks to be us, what else is new.
The housing bubble is just another business cycle. It reminds me of the S&L problem, when lots of “value” instantly evaporated. There was a recession. It lasted a year and a half. Individuals took serious lossed, but the aggregate population was just fine.
The historic and economic factors that led to the great depression were much more complicated. The basic understading of economists simply could not account for unemployment. Every tool they attempted to apply only worked on levels of production, when the problem was in aggregate demand
I think the economic factors NOW are pretty complicated.
But that is not really the point, rather, it is this: The regulations and controls that were deliberately put in place after the Great Depression to prevent it recurring were removed in in the 1980s as “bothersome disincentives to creativity.” So we have been seeing a lot of “creativity.” We are as vulnerable to onset now as we were in 1929.
Last time the Federal Government did the wrong thing, largely through lack of understanding.
My suspicion this time is that the Federal Government will do the wrong thing, despite understanding. Katrina is my model here.
Well, we shall see.
But, I don’t mean: Act as if a crash must happen, and by a certain date! Timing can really foul you up and you can lose if you depend on a certain outcome. Rather: Prepare for this–it might happen.
Have a plan B.
You are correct about the Depression. The big problem this time will be the integration of the world economies and the degree to which the US dollar is hald as a world currency (Oil countries and China, South Korea and Japan.)
The two major problems in the Depression were the fact that the international Gold Stadard transmitted the Depression rapidly fromn the US to other countries, and and then the industrial nations all passed protectionist legislation so that the unemployment became world-wide quite rapidly, and the protectionism kept trade from leading the way out of depression.
This time the overhang of dollars outside the US are likely to cause a really sharp drop in the value of the dollar. The inflation and resulting fed-induced interest rate increases will cause a drop in the US economy, which will reduce exports from other countries to the US and result in reduced economies outside the US. The US middle class will be effectively destroyed. The wealthy will cope easily (and Bush will have moved to his 100,000 acre ranch in the El Chaco region of Paraguay.)