Tuesday, June 21, 2005

Housing Prices Expected to Drop

Are your personal finances looking like a house of cards?
The run up in housing prices has created a false sense of wealth that has fueled consumer spending and encouraged people to borrow more.

Once Reality hits, will the burst of the Real estate bubble make the dot come bust look like childs play?

Housing market tumble forecast
Economists see bubble bursting by late next year

Kelly Zito, Chronicle Staff Writer

Tuesday, June 21, 2005

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A long-predicted correction in the high-flying housing market could steer the economy into a recession as early as late 2006, according to a forecast to be released today.

Economists at the prominent UCLA Anderson Forecast have anticipated a real estate downturn for a couple of years, but they have stepped up their warnings in their latest quarterly report.

The reason? Home values simply have flown too high, too fast. In California, for example, home prices have vaulted 70 percent in the past five years, compared with 55 percent in the mid-1970s and 45 percent in the late 1980s.

"Prices are not associated with reality," said UCLA economist Christopher Thornberg, whose paper on the state's economy is subtitled "Beware the Froth!" Home buyers "are gambling on massive amounts of appreciation, and it's not worth the price compared to the rental value. It's a house of cards."

Many housing experts agree the market is due to ratchet down several notches -- and some evidence suggests that trend is already under way in some areas -- after an unprecedented boom that was aided in recent years by historic low mortgage interest rates.

But there is sharp disagreement about the timing and magnitude of any falloff.

Nicholas Retsinas, the director of Harvard's Joint Center for Housing Studies, agrees that certain markets may be more vulnerable to deceleration. But he doesn't necessarily agree that a recession is in the offing.

"There has been a pickup in business spending and you see other signs that we're not on the verge of a major economic downturn," Retsinas said.

The latest Anderson report comes at a time when many consumers, pundits and the media are fretting over the possible presence of a home-price bubble. Federal Reserve Chairman Alan Greenspan spoke earlier this month of froth in some regions. And data on prices, affordability, consumer debt burdens and the percentage of real estate investors indicate to some that the market is on the brink of unraveling.

Thornberg expects a housing slowdown to trigger a widespread slump in consumer spending across the state and nation, because many homeowners are using their homes' equity to fund things like college educations, cars and retirement. And Thornberg argues that even a plateau in prices could freeze spending, because many consumers count on continued equity increases to fuel purchases.

Thornberg added that he and his colleagues see little potential for accelerated business, government or foreign spending to help offset a housing slowdown.

One of the key predictors of a housing slowdown is a peak in real residential investment per worker, a measure of home-related consumer spending that includes new home building, remodeling and brokers' fees, according to UCLA economist Ed Leamer. Right now, the figure hovers at $4,000 per U.S. worker. In past housing booms, it topped out at $3,000. History suggests a sharp pullback in spending, rather than a gradual decrease, he added.

The UCLA report forecasts a 10.7 percent decline in residential construction in 2006, helping to push real gross domestic product from 3.4 percent in 2005 to 2.4 percent in 2006.

Economy.com analyst Mark Zandi puts the GDP at 3.7 percent in 2005 and 3. 5 percent in 2006.

Zandi's more upbeat forecast relies in part on recent employment gains. Last month, the United States generated 78,000 new jobs, with 17,600 in California.

That said, Zandi doesn't rule out the possibility of dampened economic growth -- particularly if interest rates were to jump. For the growing number of consumers with interest-only or other riskier adjustable loans, higher rates could translate into steep increases in monthly mortgage payments down the line.

"Housing is overdone and eventually there will be a correction, and it will weigh on the economy," Zandi said. "If it's a modest, slow rise in rates, the economy can digest that. If they rise quickly at high levels, recession is not out of the question."

But Leslie Appleton-Young, economist at the California Association of Realtors, contends the possibility of a recession remains low.

The trade group forecasts median home prices across the state will rise 15 percent year-over-year in 2005, down from 21 percent last year. In 2006, prices will probably increase less than 15 percent, but well above zero.

"There may be some people who may get into trouble, but we don't think it will dominate the market," she said.



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