|Why the U.S. housing market will keep falling|
Jun 09, 2011 IAN McGUGAN theglobeandmail.com
The Man Who Called the Last Two Bubbles doesn’t blur his opinions. He believes the United States is stuck in a period of plodding growth that will end only with either a massive stimulus program or a 20-per-cent to 30-per-cent decline in the value of the greenback.
“I don’t see either happening in the short term,” says Dean Baker, a member of that rare breed – the one-handed economist. As co-director of the Center for Economic and Policy Research in Washington, he has spent years delivering fearless pronouncements on where the economy is headed next.
His commentary reflects a left-of-centre perspective – which, oddly enough, has made him one of the most accurate prognosticators of the stock and real estate markets over the past decade and a half. Unlike his Wall Street brethren, who assume the market is a highly efficient aggregator of all available information, Mr. Baker is willing to consider the notion that sometimes it is simply wrong.
When U.S. house prices were soaring in 2005, but most economists were still denying there was a housing bubble, Mr. Baker placed a calculator on CEPR’s website. Americans could enter their postal code and find out exactly how much of their home’s value was going to be vaporized when housing prices collapsed.
He hoped the calculator would deter would-be buyers from rushing into a market he considered crazy. “Obviously, not enough people used it,” he sighs.
It wasn’t the first time that his warnings were to prove correct. In 2000, he argued that the stock market was set to crash. Anyone who followed his advice on that occasion, and later with the housing bubble, would have sidestepped the two biggest financial disasters in decades.
So what does he foresee now? More disappointing GDP growth, on the order of 2.5 per cent a year or less, and continued high joblessness as U.S. real estate prices continue to slide.
His view is based on research by Robert Shiller of Yale University and others, which shows that housing prices closely track inflation, at least over the long haul.
History suggests that while a housing bubble can temporarily push prices above the inflation rate, home prices inevitably fall back and remain remarkably constant in real terms. Based on that reasoning, Mr. Baker calculates that U.S. home prices still have 10 per cent further to drop. “That is what would be needed to return us to the real prices of 1996, before the housing bubble began to inflate,” he says.
He has little patience for those who believe the U.S. housing market is ready to rebound. “No one – as in not a single economist anywhere – has presented a remotely plausible reason as to why we should expect house prices to diverge from their 100-year-long trend [of hugging the long-term inflation line],” he wrote in a recent commentary. “Given the continued near-record vacancy rates, and huge inventory of homes in the foreclosure process, there is no reason to think that house prices will stop falling any time soon.”
Mr. Baker believes the economy needs a wallop of government stimulus – far larger than the $800-billion (U.S.) package President Barack Obama got through Congress in 2009 – to reignite growth. In the current political climate, that looks unlikely.
Without more stimulus, Mr. Baker thinks growth will be anemic until the U.S. dollar loses a quarter or so of its current value. At that point, a weak greenback will make U.S. goods far cheaper on international markets and spur an export surge. “A lot of people think a weak dollar is bad,” he says. “It’s actually just what we need.”
From this side of the border, one of the most intriguing aspects of his view is what it means for Canada’s real estate market. House prices here have surged at a faster pace than inflation over the past decade, raising the question of why this country hasn’t had a real estate crash like that in the United States.
Mr. Baker believes it might have something to do with the combination of low interest rates and Canadians’ tendency to take out mortgages with terms of five years or less, unlike the 30 years that is normal in the U.S.
“My theory is that home prices in places like Canada are acting like bonds,” he says. Just as bond prices shoot up when interest rates head down, so Canadian home prices have rocketed on the back of low mortgage rates, because our shorter-term mortgages make us that more interest-rate sensitive than Americans.
The corollary, of course, is that there will be big losses when mortgage rates inevitably head upward. “I would be wary in markets like Canada. In fact, I would be very, very wary,” says the Man Who Called the Last Two Bubbles.
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