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According to S&P, between 1995 and 2000, the Home Price Indices
increased 24.29%. During the same period, the data from US Census Bureau
show the adjusted real median household Income were up nearly 10% from
$46034 to $50557. An 15% offset between two sets of the growth rates
still appears to be in healthy range although arguably a small house
bubble might have been rooted. However, the Home Price Indices jumped
strikingly over 122% between 2000 and 2006 while the real median
household income inched 2% lower from $50557 to $49568. A huge bubble
was formed as a result. After that, affordability became a
non-existence; mortgage delinquencies and foreclosures continued its
journey of rapid rise; banks and financial markets started to fall and
consequently, the entire financial market collapsed and global recession
was officially commenced in 2008.
What has caused house price and
household income to run in opposite directions?
Many argued that house market always delays its reaction to the overall
economy. This argument seems difficult to withstand scrutiny. Consumer's
confidence is a key factor in any marketplaces. House market is supposed
to be as sensitive to consumer's confidence as the overall economy.
It
is reasonable to believe that multiple Fed interest cuts during 2001 to
2003 period, as seen in Figure 3, in attempt to pull out the nation out
of recession had in part contributed to the uninterrupted rise of house
prices. I must challenge the necessity of the interest cuts of that
scale, particularly in 2002 and 2003, considering a severe house bubble
had clearly come to sight. The 2001 recession was relatively mild, which
was predominantly determined by contractions of the gross domestic
products. It is arguable that GDP is one of important macro economic
indicators, its significance, however, should not be overlooked.
What is GDP? I learned a great story from by a real MBA student.
Once upon a
time, there were two business school students, A and B, walking in
campus. They suddenly discovered a pile of dog shit sitting on the
street. A joked with B by saying I will give a million
dollars if you swallow the pile. B pandered for a moment and
determined it is a great deal. So he moved the entire pile into his
stomach. He asked student B for one million dollars. A shook his head
and replied,
"put it on my account". Several days later, they discovered the same thing
while walking together again in the campus. B said to A,
if you do what I did last time, your account will be cleared. A
swallowed it immediately with a relief as he felt he wouldn't have to carry the debts for
life. They then went to see their professor and told professor the
story. The professor jumped from his chair and
shouted, "that great, congratulations, you two have contributed two million
dollars to our nation's GDP!"
Now come back to the topic. It is conceivable that the interest
cuts during 2001 to 2003 had escalated house bubble, however, they
are not the fundamental causes for the financial meltdown and severe
global recession we are now facing.
Continue to next
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