Freakonomics Quorum: Is It Time to Believe in the Housing Bubble?

Following last week’s quorum about street charity, we’ve now brought in a half-dozen bright people to address a very different issue:

Is it finally time to believe in the housing bubble? And how much should the average American care?

While the topic of real estate has hardly been neglected on this blog, the housing bubble is another story. Here to tell the story are:

Robert Shiller, the Yale economist and Irrational Exuberance author, who has indexed U.S. home prices back to 1890; Lawrence Yun, chief economist of the National Association of Realtors; David Lereah, the N.A.R.’s former chief economist, who is now executive vice president of Move, Inc.; Barbara Corcoran, the real estate maven and author; Aviv Nevo, a professor of economics at Northwestern and a co-author of a study about FSBO (for sale by owner) sales versus sales via a realtor; and Amir Korangy, founding editor of the very good New York City real estate publication The Real Deal. Here are their replies:

Robert Shiller:

We have been in the biggest housing boom this country has ever seen, and it is not just in the United States. [The boom] has affected many of the world’s most successful economies, and has clearly been driven, at least in part, by extravagant expectations for future price increases. Such expectations tend to be found in countries where the economy has been strong enough to make high future price increases seem plausible to investors. In these countries, people are buying homes even though they have gotten very expensive, because the buyers believe that prices will rise even more. That attitude can sustain a boom for a while, but not forever.

My colleague Karl Case and I have been surveying U.S. homebuyers about their expectations. In 2005, at the height of the boom, the median expected home price increase in Los Angeles was 10% for the next year, and 9% a year for the next decade. Clearly, these were very strong expectations, and such expectations appear to have contributed to the boom itself, because it enticed people to buy properties in anticipation of making a lot of money in capital gains.

In 2007, the median expected home price increase in Los Angeles was 0% for the next year, and 5% a year for the next ten years. As such, expected price increases are weakening, but they are not gone yet. It is not clear whether the boom has come to an end; there is still investor enthusiasm out there.

Meanwhile, the Standard & Poor’s/Case-Shiller Home Price Indices which Case and I pioneered are now showing price decreases in most cities. This raises a question of how long expectations of increase can co-exist with falling prices.

In May of 2006, the Chicago Mercantile Exchange launched futures and options on our indices for ten U.S. cities, with a maximum horizon of one year. In September, the horizon will be extended to five years. We will then have a clearer picture of market expectations for home prices. For now, it is worth noting that the market is predicting home price decreases between 3% and 8% for the next year.

Should this matter to home buyers? Certainly. Buying a large house with a mortgage can be a devastating move if home prices fall by more than the down payment; all home equity could be wiped out. On the other hand, people need to live somewhere, and most are not happy with renting. They need to buy a house and get on with their lives.

Some of these people might consider hedging the home price in the futures or options markets, though any such move is complex and should be done only with the advice of a competent financial advisor.

Lawrence Yun:

We would advise your readers to visit the N.A.R. website to see our research on the housing market. All real estate is local, and there are many local variations.

As to the bubble, quite a number of local markets have not seen any price decline. The “correction” has been in home sales, mortgage lending, and new home construction, all of which are all down significantly. Some bad lenders have gone bankrupt, and aggressive hedge funds are hurting as a result — and I, for one, do not care. What I do monitor carefully is a factor that matters to consumers and homeowners: home prices. The national median price was 1.1% lower in the second quarter of 2007 than its comparable period the year before. That drop comes after a more than 50% rise in home values during the boom. If people want to call the 1% price decline a bubble collapse — well, everyone has an opinion. I believe that homeowners who are in it for the long term will do well. The Federal Reserve data show that the typical median wealth holding is $184,400 for homeowners, versus only $4,000 for renters. That, in my view, is quite compelling.

David Lereah:

Bubble is the wrong imagery for today’s housing markets. Bubbles inevitably “pop.” A more useful image for the housing markets is a balloon. Balloons expand and deflate. It is clear that air has come out of a number of local balloons across the nation, particularly in California, Nevada, Arizona, Florida and some selected metropolitan areas in the Midwest and Northeast regions. From a home sales perspective, the magnitude of today’s real estate downturn is not meaningfully different from our two most recent real estate downturns – 1990/91 and 1980/81. For example, the 80/81 recession resulted in a 48% drop in existing home sales. Existing homes sales have dropped by less than 20% so far in the 2006/07 downturn. However, unlike real estate recessions in the past, today’s downturn offers two unfortunate residuals – a drop in home prices for the nation as a whole, and a serious run-up in foreclosures.

If a national bubble had burst, the nation would have experienced a meaningful double-digit drop in home prices. To date, we are experiencing maybe a 3 to 4% drop, at most. But for some post-boom metros like Las Vegas, Miami, and Phoenix, double digit price drops are not out of the question. So the answer is that there have been some local housing balloons that have popped, but no national balloons.

How much should the average American care? If you purchased property in 2005 or 2006 in one of the “booming” metros that have now gone bust, you care a great deal, because you have most likely lost equity in your property. But home prices appreciated 34% during the 2002 – 2005 period; as such, even a 5 to 10% national price drop will not meaningfully impact most homeowners, since they have built up a sizeable amount of equity in their primary residences.

Barbara Corcoran:

There’s a hell of a lot of noise out there right now that would scare anyone away from buying real estate. Not me. I’m yahoo-ing, low-bidding, and snatching up deals wherever I can find them. I understand the two big truths about real estate investing:

1. Everybody wants what everybody wants!
2. Nobody wants what nobody wants!

So until everyone else decides (always at the exact same moment in time) that the worst is over and it’s safe to invest, I’m grabbing as many over-priced, over-stuffed, and over-rated homes as I can get my greedy little hands on.

Aviv Nevo:

I don’t know if it is time to believe in a housing bubble, and, frankly, I am not sure the average American should care. Let me explain. Anyone considering buying or selling a home any time soon should care about future prices. If you are thinking of selling, you should wait if you think prices are going to go up. If you are buying, you probably want to do so sooner, and maybe offer a higher price if you expect prices to rise. So, clearly, what you think about future prices is important. However, even if there is a chance to time the market — and I am not sure there is — I doubt the average consumer has the flexibility or forecast ability to consistently take advantage of it by timing the purchase or sale of a home. Of course, some homeowners are going to be lucky, and some less fortunate. But for the average American, there is little to be done except worry.

On the other hand, there are other ways that consumers can increase their gains from real estate dealings. The most obvious is to avoid using realtors. That’s a 6% savings right there. (Despite what realtors would have you think, there is no credible evidence that they get you a higher price.) My guess is that, given the constraints most consumers face, the 6% in saved commissions is more than the average person could gain by trying to time the market.

Amir Korangy:

Ah, the age old question. Short answer: no. In various markets around the U.S., prices have appreciated in a huge way; but this doesn’t necessarily mean we’re experiencing a bubble. Real estate prices are a local phenomenon based on employment, industry, and other factors including climate, quality of education, cost of living, immigration, and crime. Therefore, if the concept of a national housing market is ultimately a false construct, there simply cannot be a national housing bubble.

As recently as 2004, there was a lot of media speculation about a housing bubble. Back then there was a slowdown, but not an across-the-board bubble. I wouldn’t forecast such an outcome occurring now in New York City. One contributing factor [to New York’s market strength] is the city’s popularity with the rest of the world, as well as the weak dollar, which has increased foreign investment.

Let’s talk about what a bubble is. A bubble exists when the ratio of median existing home prices is about 6 or 7 times greater than per capita income. If you compare the census with prices in New York, they seem reasonable. Bubbles have certainly existed in particular regions, and prices in those areas could be brought down by a range of factors. In 2005, when the entire country was experiencing tremendous real estate growth, prices in Canton, Ohio dropped continually. Drops like that contradict market fundamentals, increasing speculation and participation in the market by people who normally don’t get involved in such things … and, as a result, have a tendency to become a topic of popular discussion.

What Americans should worry about is the vast, across-the-board slowdown in residential property investment. Of the many scenarios that contribute to this, one that is already in play occurred when real estate-related jobs, which had been in tremendous growth mode, began to tank. As a result, we saw less new development and less stabilized prices. House prices can start to decline, making it harder for people to refinance their loans and causing a negative impact on consumer spending. This is how recessions begin. As such, it would be good if the Fed lowers interest rates soon.

A burst bubble would impact different cities differently. In places like New York City, which continues to attract tens of thousands of immigrants and has a healthy financial sector, prices could recover faster. Indeed, in that sense, a bubble (if that’s what you want to call it), is helpful because it helps to expand the number of units on the market.


#29 You say: "I am surprised that none of your experts talked about the ratio of home prices to household income."
Where in fact the last expert, Korangy, mentions this in his theory.
By the way, I find the comments on this post by all of you more informed than what many of the experts had to say.

Another Happy Renter

A couple of notes on the comments.

Joe - great article, thanks. Here it is again.

Zoe - The problem appears to be that the mortgage lenders tricked people into thinking they can afford more than they could.

WorriedLife - Right on. The comments were way better than the "experts".

Look out below indeed...

Kevin Tomlinson

Response to DKRush about his question for Miami Beach condos: DK the bulk of the info you are reading on "Miami" condos is referencing the new construction boom in Miami (across the bay), not Miami Beach. There is a fair amount of inventory here but no more than any other place in the country. If you want a steal (or vulture) a property look in the City of Miami proper.

Tucker Muck

I have a question. When interest rates turned down and home values rose, most people we know stepped up to bigger...much bigger homes. Some of their big SUV, big house swagger have left them with their ARMs triggering and gas hovering at $3.00 per gallon. Some of us jumped on historically low interest rate and shorter term loans.

Will we with -no- mortgages and the smaller homes fair better than the no equity McMansioneers?

Ed Hamilton

Compelling historical records are kept largely out of sight, because they are 'bad for business':


WSJ today shows a particular family's descent into subprime hell.

It's a story of greed. With family income of $90,000 gross and no savings, they buy a $567,000 house (>6x gross) using no down payment and a 2/28 mortgate [low rate for 2 years, interest only -- mortgage resets for remaining years].

Wow. Big surprise: (1)they can't afford the reset interest rate, which will move their payments from $38,400 a year to $50,000 excluding taxes and insurance, and (2) due to minor fall in real estate prices, they have negative equity and can't refinance.

Sure, they were stupid -- but what greedy idiots gave them the money? And how did the rating agencies look at a whole bunch of mortgages like this and give them high ratings?


Hong Kong Phooey, quicker than the human eye.

Business As Usual

Everyone had a part in digging this grave. Now we are all trying to get out of the hole.

Mortgage companies got creative.

Don't think for 5 seconds that real estate companies didn't want them to. It benefited real estate companies.

All professionals, (mortgage, real estate, builders, ameteur investors and government) were riding on that gravy train together. Whooping it up! Well, the rides over. Now what?

You have over-priced houses, under-paid people that over-spent not only on homes, but in general, living way beyond their means.

Appraisers over-appraised and real estate agents gladly handed over comparables before the appraisal to help steer the price. There is a conflict of interest.

Local town governments saw an opportunity and they raised taxes.

Here we are now:

Sellers that can't afford to sell.

Sellers that can afford to sell, don't want to take less than a Seller who can't afford to sell.

Buyers don't want to do what previous buyers did. Their approach is methodical, educated and slow.

Can you blame them? There were some big things that are coming to light, and consumers are paying attention.

As usual, there are vultures waiting (nothing new). Before selling to a vulture, get educated. If you want dollars this makes sense.

Large real estate companies have grown by acquisition but not monetarily, and may be dabbling in dollar data deception. Who knows?
Name changes, office closings, and minuscul budgets help keep top heavy companies from feeling the pinch. They can't keep it up for ever. Money saved from using less print ads undoubtedly will find its way into upper management pockets.

My prediction, things are not going to get better any time soon. The gravy train has jumped tracks.

No doubt real estate professionals will come to realize that their broker is just one more mouth to feed. The good agents will set up independent shops and be more in tune with consumers.

Other agents in large companies will suffer from "more and less". If an agent can not afford to go on their own, they will accept a higher commission split to stay with the large company. If no one is buying houses, any percentage times 0 still equals "0". Eventually, agents will not be able to support their company or themself. Many agents will stop being active. Companies will need to do some serious restructuring.

Home prices will come down. Interest rates will inch its way up. Everyone is going to pay.

It is not doom and gloom. It is the reaction to previous actions.

My sympathy to Barbara C., you have more BS than money. I am guessing you are a vulture in a cheerleading outfit.


Happily Renting

Those companies taking the excessive billions of Fed short-term loans should be IN FEDERAL JAIL instead of receiving corporate welfare at the expense of the American taxpayer.

Henry barth, here's the definition of insolvent: " Not having sufficient financial resources to meet financial obligations. " The companies who NEEDED the emergency loans for daily cash flows fit this criteria. QED.

I hope each and every exec at the mortgage / I-Bank companies who benefited from horrible loan sludge are put in prison. Why? There is no financial benefit to a buyer for jumping into a 2/28 loan aside from squeezing into a home they cannot afford. The only ones benefiting from this are the mortgage broker who gets a stronger kick back for putting you into a risky loan and the agent from getting a commission check after escrow closes. What do they care? The loan is getting an extreme makeover on Wall Street where more commissions are taken - and they'll never see it again either.

This is insipid, Stephen, and it's disgusting.


Henry Barth

Dear "Happily Renting"

The Federal Reserve doesn't "lend money" to businesses, short term or long term.

The Fed lends money to banks.

The three-day repo money was lent on a Friday, repaid on a Monday.

What they did was accept Feddie Mac and Fannie Mae bonds as collateral, calling them "government guaranteed."

You might want to read:

The property mortgaged still has value, which is why companies like W L Ross are buying.

Crystal Carter

Note the Wall Street Journal article about subprime yesterday. We're supposed to feel sorry for a couple whose combined income is $90,000 a year, who bought a $567,000 house with nothing down.

IF this isn't a bubble, what is? As long as stupid people spend way beyond their means - in this case, more than 3 times what they could afford - we have a bubble.

Nel Carter

wow - what an unbalanced group!!! - two people associated with the NAR, bascially a real estate propaganda group, a real estate agent, and an editor of a real estate magazine. gimme a break!


Henry Barth (#51) notes:
"The Federal Reserve doesn't “lend money” to businesses....The Fed lends money to banks."

Perhaps Henry is under the illusion that banks aren't businesses -- that they are some form of public charity like the League of Women Voters or the Salvation Army

or Halliburton ;)


@52-Crystal - Yeah agreement here. At 90k/year, you SHOULD be able to save some money. But then they have $700 in monthly car payments and needed to eat out 1-2 times/week + who knows what else. All with after-tax dollars.

A solution to this garbage which hasn't been brought up in the previous comments here is to remove all tax deductions for owning a house. Yeah, this will get everyone crazy but it would eliminate people feeling they had to go out on a limb to get a house. Also eliminates mortgage brokers and RE agents who "work up the numbers" and put all kinds of spreadsheet numbers in front of people telling them how much they could save on taxes. What they fail to tell people is that they have to pay out the after tax dollars BEFORE they get to claim the tax deductions on April 15th!


As I recall, home loan interest is not a tax deduction in Canada, yet home ownership is about the same. Johnson points to the obvious fact that our tax deduction has created a racket involving banks, RE agents, appraisers, etc. Here in California, prop 13 has kept a lot of people in their homes. Else the property taxes would skyrocket like they have in Indiana.


For someone who is only 17, you are very perceptive. I wish the New York Times editors would listen to you. Unfortunately, the media loves "the ___ crisis" stories because most of the media are skilled only in liberal arts like telling a story in an exciting way and lack quantitative skills or basic economics training. Keep thinking clearly!


I find it amazing that flawed logic such as: "The Federal Reserve data show that the typical median wealth holding is $184,400 for homeowners, versus only $4,000 for renters. That, in my view, is quite compelling." goes unchallenged.

Substitute "yacht-owner" for homeowner in Yun's quote.


This is nothing but liars and their lying lies. It's like asking people in the current administration if there is anything wrong in Iraq. All spin aside from Shiller.


"But something that I can't understand is why absolute prices matter much at all for people who already own. If I move, shouldn't I just care about how my house goes up or down relative to a house I'm likely to move to?"

What you say is true only if you buy without a mortgage. If you buy WITH a mortgage, it changes everything.

Say you buy a $100K house with 20% down. After two years, you've paid down $5K of the mortgage principal, so you only owe the bank $75k You now want to move, but the market has dropped by 25%.

When you sell your house (to keep it simple, let's leave all transaction fees out of this), you only get $75K from the buyer. That's just enough money to pay back what you owe the bank.

Notice something? At the beginning, you had a $20K downpayment. You made mortgage payments for two years. By the time you sold the house, you had nothing!

This is the magic of leverage, created by the mortgage.



As I read, I always wondered; “are these articles contributing to or reporting on “the bubble?”


A bubble is propped up by nothing more than mass psychology, so public sentiment can easily tip it from boom to bust. One of the things that defines a bubble is that mechanisms that negative feedback mechanisms become positive feedback mechanisms and thus make the system unstable.

"Equilibrium" market: As price increases, demand decreases. As demand decreases, prices fall.

"Bubble" market (up): As price increases, demand also INCREASES. The increased demand can be fueled by mass media mantras such as "buy now or be priced out forever" or "we're running out of land." This increased demand causes the prices to increase even further, thus stimulating even more demand.

"Bubble" market (down): As price decreases, demand also DECREASES. The decreased demand can be fueled by mass media predictions of doom and gloom. The decrease in demand fuels another decrease in prices, which in turn cause demand to fall yet again.