Schizophrenia in the Housing Market

Everyone and his dog reported the numbers on housing starts—up 14.6% to a seasonally adjusted annual rate of 629,000, the highest since January, plus or minus 10%. So that’s good, right?

Well, aside from the fact that during the housing bubble, this number resided in the 1.5 million unit zip code, it’s not good at all. For the housing market to heal, that number should be near ZERO.

Why? Because there are two conflicting components within the housing market:

A. Construction (housing starts, et al.). Because it creates jobs and contributes to GDP, everyone wants to see more of it.

B. Inventory and prices. Oops.

Our problem isn’t that we aren’t building enough units but that we’ve built too many during the housing bubble that are now vacant—if you believe the US Census Bureau, the number is close to 20 million units!

So how can we solve that problem? Housing is zero sum: if I rent or buy something and move into that property, I first have to move out of the property I’m in. Hence, no net impact on the inventory of vacant homes. Now, the hope is that “household creation” will save us. Yet, over the last few years, household creation has declined and for a while even gone negative, a phenomenon sociologists are poring over even as we speak.

To illustrate, let’s use an optimistic scenario. Say, we are only building 700,000 new homes a year, and household creation reaches 700,000 as well, then we’re in balance, and the vacant home inventory of maybe 14 to 20 million units will stay with us until termites eat it up. Which, come to think of it….

That’s the optimistic scenario. But if household creation doesn’t reach those levels, or if home construction ticks up at a healthier pace, or both, well then, good luck.

So the solution to the housing market is clear: STOP BUILDING! But that’s not going to happen. And home prices are going to drift lower for years to come. In Japan, the housing bubble burst in 1990, and home prices are still declining over 20 years later, though, like in the US, they’ve had a few minor upticks along the way that gave everyone a lot of false hope.

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