Price declines have been sharpest at the bottom end of the market.
The collapse of the housing bubble has put downward pressure on house prices in all segments of the housing market, but the more moderate end has been by far the hardest hit. In former bubble markets, houses in the bottom third of the market are selling for less than half of their peak prices, in some cases wiping out more than a decade of nominal appreciation. Furthermore, house prices are continuing to decline at a double-digit annual rate, indicating that further declines of 10 percent or more are likely.
In Los Angeles, prices for homes in the bottom tier have fallen by 54.2 percent from their peak in February 2007. They have been falling at a 27.5 percent annual rate over the last quarter. In San Francisco, prices in the bottom tier are down 61.4 percent from their peak in May of 2006 and have fallen at a rate of 33.5 percent over the last quarter. In Phoenix, prices are down by an incredible 70.7 percent from their peak in January 2007. They have fallen at a 66.2 percent annual rate over the last quarter.
Prices for homes in the bottom tier are down sharply, even in markets that were less bubble-driven. In Minneapolis, they are down 47.0 percent from their peak. In New York, they are down by 24.2 percent. And in Washington, D.C. they are down by 44.2 percent.
It is not just people who bought at the peaks who are suffering. The plunge has fully reversed most of the appreciation in the current decade. In Washington, D.C. nominal prices are back at their August 2003 level, implying a real price decline of close to 15 percent. Prices for bottom tier homes in San Francisco are down to their March 2000 level. In Chicago, nominal prices have fallen to the same level as November of 2001. And in Phoenix, they are at the same level as in February of 1995.
It is also important to remember that in all of these markets — as well as most other markets around the country — house prices are still falling very rapidly, especially for homes in the bottom tier. An additional price decline of 10-20 percent is likely to push real house prices in most of the former bubble markets to levels that are well below their mid-90s levels. Even if the overall market just returns to its trend level, the market for homes in the bottom tier is virtually certain to overshoot. Of course, if the overall market overshoots its trend levels, then the overshooting in the bottom tier is likely to be even more pronounced.
It is tragic that so many moderate-income families were pushed into homeownership as a matter of policy (this was even before the proliferation of questionable subprime loans). Homeownership can be an effective way to accumulate wealth, but this is certainly not always the case for every family or in every situation. Households with uncertain family or employment situations are likely to lose money from homeownership, since they will likely have to sell a home in a relatively short period of time. The transactions costs associated with buying and selling a home can easily be equal to two years of rent of a comparable unit.
Of course, encouraging moderate-income families to buy homes in the middle of a housing bubble that should have been easy to recognize was incredibly irresponsible. Unfortunately, few policy professionals will suffer as a result of their incredibly bad judgment.
In the wake of the collapse of the housing bubble, it would be good if there were some serious rethinking of national housing policy. While efforts to support homeownership should not be abandoned, there must be a recognition that for many families renting is a better option. Housing policy must be designed to ensure that renters are not treated as second-class citizens. While landlord-tenant law is set at the state and local level, federal policy can provide an important push towards adopting laws that ensure tenants rights. A more balanced housing policy may be an important outcome of this disaster.