Housing prices have a long way to drop before this current pricing cycle bottoms out,” said Erik Hurst, V. Duane Rath Professor of Economics and Neubauer Family Faculty Fellow. But the housing market constriction won’t be tight enough to put the country into another Great Depression, Hurst said in a speech to the second annual Real Estate Conference, sponsored by the Real Estate Alumni Group November 11 at Gleacher Center.
From 2000 to 2005, the share of Gross Domestic Product attributed to residential construction increased to 5.5 percent from 4.5 percent, Hurst said. “Part of the reason the economy has slowed down starting in 2006-2007 is because we stopped building houses.” But that was part of a natural cycle and “nothing you or I should worry about” or create policy over, he said.
Hurst used statistics and graphs to show the cyclical nature of housing prices. “Big booms are followed by big busts. Small booms are followed by small busts,” Hurst said. The reason for this, Hurst showed, is that housing supply adjusts to pin down housing prices at some sort of equilibrium level.
He also examined 44 metropolitan areas where housing prices had appreciated at least 15 percent over a three-year period between 1980 and 2000. Average price increase during boom periods amounted to roughly 55 percent, Hurst said. “Every one of those 44 metropolitan areas had a substantial housing price bust,” Hurst said. “The average size of that bust was 33 percent.”
Busts lasted an average of seven years. “About 40 percent of the housing price decline occurred in the first two years” of the bust, he said.
This leads Hurst to believe that U.S. Treasury Secretary Henry Paulson and others are incorrect to speculate that the current decline in housing prices is nearing bottom. “Not even close,” Hurst said.
From 1997 to 2006, property prices in the United States rose between 45 percent and 50 percent, he said. Using past data as a model, over the next five to seven years, housing prices will fall by roughly 30 percent on average, Hurst said.
So far, prices have fallen a little less than 10 percent. “That means, roughly, we have another 20 percent housing price decline in the U.S., based on these historical cycles, in the next five years or so,” he said.
Banks take part of the blame for the current credit crisis in that they failed to price housing loans correctly, Hurst said. He proffered two potential reasons for banks’ errors: lack of regulation that promoted transparency and lack of data on default rates early on, because they were lending to people they had never lent to before.
Hurst outlined a few reasons he is confident the recession will not be as bad as some have projected: much of the uncertainty that is putting the brakes on consumer spending has already has come to the forefront; policy makers have grown in knowledge about managing economic shocks; and bankers now have the data to figure out where they went wrong.
Second-year student Artis Shepherd said he found Hurst’s optimism refreshing. “His forecasts are based on logic and based on a rational projection of where we are today,” Shepherd said. “I think they’re very well placed. Time will tell whether or not they’re accurate.”
—Mary Sue Penn