And I thought real estate was a commodity
Posted by Marc Hodak on March 26, 2007 under Economics | 
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Am I the only person in the market who is baffled by the fact that investors seem to react well to falling prices of oil, metals, foodstuffs, or other commodities, but seem to panic at falling housing prices? Isn’t property value an input into business processes and the overall cost of living? If the answer to these questions is affirmative, then why should we care about falling property values?
Personally, I don’t care. In fact, I like falling property values, and not just because it rewards my view of the market when I sold my home a couple years ago and became a renter. I celebrate the decline in property value because it means that property will be cheaper for everyone, and cheaper stuff is a good thing.
But won’t all those owners in our ownership society be worse off? Only if they’ve speculated in multiple properties. Speculators are supposed to bear risk, and those who can’t are flushed out in a downturn, and that’s not all bad. People who live in their dwellings, however, shouldn’t care because they have to live somewhere, and if they decide to change where they live, they will be able to get a new place cheaper.
What about homebuilders and real estate agents? Aren’t they hurt by the drop in prices, and aren’t they an important sector? Sure, but no more so than oil companies hurt by falling oil prices, or gold mining firms hurt by falling gold prices. However, the pain of one sector is generally more than offset by the lower prices enjoyed by the rest of the market. Our overall economy would be much better off if steel cost a penny per ton, as long as the producers grumbling about it could stay in business at that price. And unlike mining firms, homebuilders can always build more homes to meet the higher demand associated with lower costs.
So, why does the market react badly to real estate downturns? Well, here’s a little secret: It doesn’t. The financial press makes up all kinds of stories about why the Dow or S&P goes up or down. These stories betray the little-appreciated fact that even the “experts” rarely have a clue about why markets move the way they do. In the case of real estate, the press gets it exactly backward. Sure, we see a negative reaction, as we saw today, to news of home sales turning south, but that may simply be the market temporarily reacting to a bad story, as it always does. Smart money quickly backfills the panic and, over time, sometimes in very little time, falling real estate values become correlated with rising markets. And why not? Falling prices of other commodities are assumed to be good for the market, and they are greeted with market surges.
Why, then, is the “story” about real estate backwards? It may have to do with the media pandering to the wishful thinking of an ownership society. All those owners feel like they’re better off if their biggest asset goes up in value. Better off than who? Not the other owners whose homes have also gone up. Not the renters who don’t bear the opportunity cost or risk of ownership of a now more expensive home. If they’re childless, the owners may be better off than the next generation of would-be owners. Many of today’s young people can’t afford homes that their parents could afford at the same age. But if those are your kids, guess who’s going to be helping them with the down payment? Or guess whose coming to dinner…every night until they turn about 30 because they need to save up for that down payment?
I wish property values would fall, or at least remain the same, forever. I know they won’t. As they say about land: they aren’t making any more. Also, most urban areas continue to impose unintended limits to how efficiently builders can use the space they have. I’m not rooting for housing prices to jump any more than I would root for inflation of any kind–except, of course, in the price of management advisors or professors.