I always hear about this on the news. But what (in laymans’s terms) exactly is “the housing bubble?”
A bubble is a term for when the market has overpriced something wildly relative to it’s actual value. The idea is that at some point, folks will stop paying those inflated prices, and the price will go down dramatically, to be in line with it’s actual value.
A bubble is made of basically nothing: an extremely thin coating over air. It takes one very small action to destroy it, it’s exceedingly fragile, and it dissapears in a violent pop. In much the same way, the theory is that housing prices are inflated, that it is not sustainable, that it is based on nothing, and that when the inevitable correction comes, it will be very quick and very painful for anyone involved.
Note that the whole question is whether the current market prices are overly inflated, or are in fact a good indicator of underlying value.
Simply put, it’s the notion that housing prices are rising to a level that cannot be sustained. Eventually, prices will drop, perhaps precipitously. The image is one of a bubble that keeps growing until it pops, like the dot-com bust.
My viewpoint is that a price bubble occurs when something is in demand not only for its actual value, but also for faddish, emotional, gotta-have-it-now reasons.
If you buy an iPod because it’s a cool music player that happens to meet your needs, that’s not a bubble.
If you bid extra for an iPod because it’s just so kewl and everyone wants one, and when they see yours they’ll be jealous, and you don’t actually need a music player beacuse you already have one that works perfectly well… then that’s the kind of behaviour that leads to a price bubble.
Respectfully disagree. For it to be a bubble, the item in question must be resellable at a higher price. .com stocks, tulips, houses are all of this kind, but no one will ever pay more for a used IPod than than they can get it from Apple.
But isn’t the kind of bidding behaviour I describe part of prices being disconnected from reality? It doesn’t matter whether the iPod, tulip, or house can be resold at a higher price; all high prices need is demand.
Now, the greatest bubbles may involve speculators who resell to new suckers, but I don’t think that is mandatory for a price bubble.
So basically it’s saying people overpaid for their houses and when they go to sell them they will get LESS, than they paid?
I just have never known anyone to come out LESS than they paid on a house or condo or anything, unless it was a situation where they were foreclosed or they HAD to move ASAP and took what they could get.
Like in Chicago they build condos left and right. My ex-boss paid about $550,000 for a two bedroom townhouse overlooking Cabrini Green Housing Project. I remember laughing saying who pays half a million dollars for a TOWNHOUSE YET, overlooking the ghetto, but two years later he sold it for $700,000 dollars.
So it seems in Chicago, I have yet to see any housing prices anywhere come down.
So I guess if I have this right does this mean the prices of homes will FALL BELOW or simply stablize at the current price the real price catches up.
I’m sorry I still seem confused a bit
A bubble grows and then pops. The growth is the price. Where’s the growth in price in IPods? There is none, except if Apple decides to charge differently.
FWIW, a Wikipedia, emphasis mine.
“An economic bubble occurs when speculation in a commodity causes the price to increase, thus producing more speculation. The price of the good then reaches absurd levels and the bubble is usually followed by a sudden drop in prices, known as a crash.”
There is no speculation in IPods, you don’t buy one because you think the price is going up and you’re going to be able to turn a profit then.
Zero,
There have been severe housing price crashes in the past. I wonder about the age of people you are talking to. The fact that you have never observed this is the kind of oddity that leads many people to believe we are in a bubble. Without getting into Great Debates, there isn’t any intrinsic reason that real estate prices should always rise. The fact that they are means something is off.
Now, when you are in a bubble, prices are rising. The idea is that we are now currently in the bubble, so everyone is making money in real estate, and has been doing so for a while. Hand over fist in many areas. But at some point, the bubble begins to pop. Some believe that is beginning to happen now, some believe it will not happen for a while, and of course some believe we are not in a bubble in the first place.
If we are in a bubble, then at some point prices start dropping pretty steeply. This will likely in the markets where prices have risen so rapidly recently (San Fran, Boston, Florida). All of sudden people will find themselves with houses that can’t be sold for more than half of what they paid. Then lots of people lose lots of money very quickly.
Does that help?
Of course, the people who will be really hurt aren’t the people who bought an overinflated house to live in. As long as they can afford their mortgage payments and, critically, don’t need to sell their house for any reason, they’ll be kinda OK, just locked into paying much more on their mortgage than most people.
The people in trouble are those who buy non-owner-occupied houses expecting to flip them quickly. If you borrow money to buy a house today, expecting to sell it to a bigger fool tomorrow, what happens if you can’t find that bigger fool? Say you paid $1 million for the house, and suddenly the market value dropped to $500,000. You didn’t just lose half your asset, because the owner didn’t buy the house for $1 million cash, he took out a mortgage, a loan, to do so. The owner didn’t see his million dollar investment crash to half that, he had only a fraction of that, and now owes $1,000,000. His only recourse is to default on the mortgage, and the bank seizes the house. Except the bank can’t get a million for the house, so the bank loses half a million dollars on the deal.
Multiply that by who knows how many speculators and how many banks, and we’ve got a problem. The problem isn’t that the speculators will go broke, the problem is that they’ll take the banks who unwisely lent them the mortgage money with them.
A case in point: My dad was a friend and coworker of our landlady. She sold him our 3BR house in the high desert north of L.A. for $58,000. At the time (early-to-mid-'80s) houses in the neighbourhood were listed at $85,000. We sold dad’s house after he died – call it 15 years later. The house, which was in excellent condition, was appraised for $76,000. Had dad bought the house at the market value, and then we sold it for the appraised value (which we did) fifteen years later, then there would be a loss of $9,000. Fast-forward to this year. A house on the same block recently sold for $300,000. If we had kept dad’s house instead of selling it when we did, we’d have made a buttload of money. But what about the person who recently bought the $300,000 house? As can be seen, prices were high, then they dropped, and then they got high again. Let’s say that no one wants to pay $300,000 for a house on that street. They’ll only pay $200,000. If the buyer had to sell, he’d be out a hundred grand.
Maybe not, but it HAS happened.
I read an article a couple months ago about the housing market in a city in Holland(?) where they had property records going back about 500 years. The housing market really collapsed when they went into periods of war or lasting depression. They had several real estate crashes over the 500 years.
Japan had a real-estate crash that lasted for 14 years. That article is from last year, and I think I read something how they’re finally really coming out of it.
Basically, it can happen.
I’ll be interested to see what it looks like. Houses aren’t like stocks. If I told you, “I know with 100% certainty that stock you own will be lower in a year” you’d sell it. Or at least you’d be stupid not to.
If you told me that about my house, I’d still make payments on it and live in it.
People seem to be willing to keep a house on the market for a long time, too. That’s fine if everyone selling can do that and doens’t HAVE to sell. But what happens when all those houses are on the market, and then along comes this guy who DOES have to sell, and the next guy who has to sell, etc. etc. . . .
A pretty bad housing crash happened in Massachusetts at the end of the 1980’s. With reference to Trunk’s point, homeowners do tend to try to hold onto their houses, but the problem comes when they’re unable to, because the economy has tanked and they’ve lost their jobs. So throw in a little of that, and throw in some highly overleveraged speculators, and you have a disaster in the making.
And in the late '80s, the crash did take a lot of banks down – which of course deepened the crash. In some towns in Massachusetts, you could buy a house for pennies on the dollar in the late '80s. And even at that, takers were hard to come by. But here’s the lesson – those who did jump in then made out like bandits when the market skyrocketed over the next decade. So the bubble bursting can be a good thing, if you have some ready cash and an appetite for risk.
Ok now THIS makes a lot of sense. I am 45 and I can say I have never seen anywhere in Chicago where prices were less than they were.
Here some place the prices just didn’t rise, but they houses remained the same price.
Speculation makes a LOT of sense though. Because I can’t understand with Chicago having such a glut of building (as reported recently in the Tribune) they are still building more.
I can see how realative value goes down, but not real value. Like when the raise the minimum wage. If you’re making $10.00/hr your real wage doesn’t shrink but your relative wage shrinks because you are making less in proportion to the minimum value your job could pay you.
Hmm. Maybe the iPod was a bad example… let me change that to the Prius, where ISTR there was a six-month waiting list and dealers were charging 10,000 over list price.
I seem to be saying that bubbles do not involve speculators; that is not my intention at all. I just think that the kind of behaviour that disconnects price from value, that creates a bubble, precedes speculation. Speculation is one result of the behaviour that creates a bubble, not a defining cause.
But, if the definition specifically posits speculation as the defining feature of bubbles, not irrational behaviour, I will withdraw my objection. 
But what’s the bubble now? The market has cooled big time. But prices haven’t dropped – there’s just not a lot of movement of properties. Has the bubble burst and sellers are just being stubborn/desperate? It really is not a seller’s market at all. But it’s not a buyer’s market, either. What the heck is going on? And is it just SE Michigan, or more generalized?
I think speculators have a big role in housing bubbles. They have the effect of taking properties off the market, while they hope that prices will rise. Here in the NE, people have been buying and renovating all kinds of old houses-and many of them will get stuck with property that they cannot sell. All bubbles end when the speculators (burned) leave the market. People forget tha prices can stay stable for many years…and actually decline. Moreover, the transaction costs in selling RE are huge-there is a new house across the street-it hasn’r attracted any offers-though its been on the market since last August. I’m sure the builder is losing money on it.
Here in DC, it seems that the market is slowing down and in the case of many condos is not what it was. Condos were the property most likely to be speculated with people putting down payments and then flipping them. A friend of mine did that on a few places and made some good money. His last place however, he can’t sell. I’ve heard reports of condo conversions where a lot of buyers have simply backed out of their contracts.
I don’t know, but I’d just like to add that if anybody can produce a website that shows trends of the home prices by region over the period of a few years, that I’d find it very interesting, and I’d be very grateful.
Gozu Tashoya, go to www.ofheo.gov and they have tons of data that you can play with (even funner if you know how to use Excel’s statistical functions). On the home page, click on State link for a quick comparison or click on Downloadable HPI data to get something more customized.