Archive for the ‘New House Sales’ Category

A possible vicious cycle due to flawed CPI measurements?

Tuesday, March 19th, 2013

Some good folks at the Atlanta Fed’s “Macroblog” recently posted a discussion about the imputed rent of being a homeowner and how housing costs are treated in the consumer price index. Owner’s Equivalent Rent is the answer. The Macroblog article describes a trend-vs-cycle decomposition of OER and a comparison of that with actual home prices. The comparison is far from persuasive.

I have long been skeptical of OER, and propose a simpler hypothesis: the CPI determination of OER is flawed. One might then be concerned that this bad OER measurement distorts the CPI, and that this could lead to serious macro consequences due to the widespread use of a bad CPI.

And indeed, if one takes time to read how OER is actually determined, one is not heartened. The quote is below. The bottom line is that some owners are SURVEYED and asked their OPINION about what their house WOULD rent for, if they rented it! I am flabbergasted by this, because in my experience owners’ responses are horribly biased, and not at all reflective of actual rental market conditions. Owners are usually not market participants. Many owners haven’t even looked at renting for years, decades, etc. Why would someone who emphatically chooses not to participate in the rental market have any expertise on what their home might rent for?  THERE HAS TO BE A BETTER WAY TO MEASURE 24% of the CPI! (The fact that this isn’t being done, despite the weight and importance of this part of CPI, is a significant “tell” that no one in a position to make a difference genuinely cares about getting anything factually right in economics…)

Here is the quote, from the link given in the article cited above:

” ‘ … Owners’ equivalent rent of primary residence (OER) is based on the following question that the Consumer Expenditure Survey asks of consumers who own their primary residence:

“If someone were to rent your home today, how much do you think it would rent for monthly, unfurnished and without utilities?”

… From the responses to these questions, the CPI estimates the total shelter cost to all consumers living in each index area of the urban United States. ‘ “

Now, what happens when a flawed OER distorts the CPI?  Consider the present… There is widespread evidence of ongoing declines in actual housing rental prices right now, in multiple markets nationwide but especially those in the Southwest. The mechanism appears to be this:

  1. Investors seeking higher yields send credit to firms investing in rental real estate.
  2. Firms purchase foreclosed housing (depressing inventory while inflating sales rates and prices and creating “housing boom” headlines).
  3. Firms convert housing to rental property in hopes of earning cash flow from rent and capital appreciation from future price increases.
  4. Rental market is glutted as a result of this reaching for yield, and much of the rental inventory goes unrented.
  5. Investor-driven glut of homes-for-rent depresses rents, even though purchase prices are rising.
  6. Homebuilding firms see rising sale prices and start building even more homes.

However, since median wages are not increasing and total full-time-equivalent employment is lagging badly, the sustainable household formation rate does not appear sufficient to absorb large amounts of additional housing. The current low-interest-rate environment appears to be distorting investment into housing in an unsustainable way.

So we’ve got a lot of poorly invested credit, a glut of rental homes, and another unsustainable building “boom” which is likely to lead to another “bust”.

And of course the OER metric currently being reported fails to capture this effect. (Similarly, during the housing bubble, OER badly lagged the market bubble and held the CPI artificially low, preventing policymakers from raising interest rates early enough to stop the bubble before it became a disaster.)  Even worse, if OER did capture the current “rental bubble” effect, it would appear deflationary (falling rents lower the CPI), suggesting that the “cure” would be to push credit even harder…

The CPI and other consumer-price inflation metrics are supposed to serve as crucial counter-cyclical signals to the Federal Reserve that interest rates need to change.  But the OER portion of CPI was in fact pro-cyclical (or at least neutral) for both the original housing bubble and the new emerging “rental housing bubble”!  Since OER makes up such a large fraction of CPI, this effect is a huge distortion on U.S. monetary policy.

But I suppose, if we carry on down this path for a decade or so, the U.S. can eventually end up with Chinese-style vacant cities of our own! (Or at least vacant neighborhoods… or just millions more vacant structures…)

New House Sales in Perspective: January 2010

Wednesday, February 24th, 2010

This chart uses the style of my patented(*) Weekly Claims reports, and applies it to another series with strong seasonal variation: New House Sales(**). The actual data are used (without seasonal “adjustments”) and plotted in context to allow comparisons (without needing “adjustments”). Historical data are included back to 2004.

This chart shows something that is well known, and puts new perspective on something less well known, and a bit disturbing. First, we see that sales peaked in 2005 (and just to be safe, 2004 is plotted with dashes). And, for each month from 2006 until late 2009 each year’s sales was weaker than the prior years. This much was well known. Today’s release on January 2010 sales is disturbing. The actual number is lower than in 2009! (2009 was, until now, lower than any prior data point back to the start of the series in 1963. Prior to 2010 (and 2009) the low for January was 28 thousand homes, back in 1982. And the population and number of households are both much larger today.)

Actual New House Sales, 2004-present (N.S.A.)This new data suggests that the government’s attempts to prop up demand for houses are failing. Perhaps, in order to improve demand for houses, we need  improved business and employment conditions? Tax gimmicks can induce some people who were ready to buy a house to do so earlier, but in the long run people will not buy many houses unless they are confident they will earn enough to make the payments. Furthermore, the market must be stable enough that people will not worry about suffering large capital losses if a personal crisis forces them to sell unexpectedly. Both of those require less one-time government market intervention, which doesn’t sustainably stabilize either jobs or prices, rather than more! It is unfortunate that neither the Realtors nor the Homebuilders seem to grasp this point, since they appear to have the attention of Congress, yet they have repeatedly asked only for tax gimmicks, rather than sustainable solutions…
* – Just kidding… but I do think it’s a good style for this class of data!
** – It takes more than just a structure to make a house into a home, so I reject the term “New Home” sales. (You can buy & sell houses, but you have to <i>make</i> your home – yourself!)