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Real Estate and the Recovery

Why a Slowdown in Housing Prices Is Great News

There was some glumness in the latest news on housing prices. There shouldn’t be. Slower home price rises — and in some markets, outright declines — are a sign the housing market is starting to move past the boom-and-bust cycle of the last dozen years toward a market where sensible prices driven by local economic conditions prevail.

The S.&P./Case-Shiller home price index showed prices rose 8.1 percent in 20 major cities in the 12 months ended in June, the lowest rate of increase since 2012. Compared with May’s prices, national home prices actually declined oh-so-slightly, by 0.1 percent, with six major metropolitan areas reporting price declines of more than 1 percent. (Those would be Atlanta, Boston, Chicago, Cleveland, Detroit and Minneapolis.)

Why is this good news? Because the new data offer hints that a disastrous era for housing may be ending.

Going back to the early 2000s, the housing market has been overwhelmingly driven by national phenomena, first the explosion in loose mortgage lending and bubbly prices that finally peaked in 2006, then the collapse in mortgage credit and prices from 2007 to 2010, and then a gradual recovery in prices since then.

The differences between markets through that span are largely in amplitude, not direction. For example, Phoenix home prices rose more during the bubble than national prices, collapsed more during the trough, and consequently have recovered more.

But while national trends like interest rates and mortgage lending standards should influence home prices, many of the forces that should most affect the price of a downtown condo or a suburban split-level are very much local. What kind of job and income growth is a region experiencing? How much does local land-use policy encourage or discourage new housing supply from being built? These are things that ought to determine home prices in a place but since the early 2000s have been overwhelmed by these national forces.

Jed Kolko, the chief economist of the real estate information service Trulia, found in a recent analysis that home price increases were now more closely correlated with job growth than with those rebound effects that dominated an earlier phase of the housing recovery. A year ago, by contrast, cities that had the deepest declines during the bust were experiencing the sharpest price increases.

The sharp home price rise of 2013 was in many ways welcome, as it helped millions of Americans get out from being underwater on their mortgages and put prices more in line with long-term fundamentals like incomes and price relative to rents. But if the prices were to keep rising at that pace, we might rapidly find ourselves back in a situation in which home prices would be out of whack with incomes and rents. There are signs that key coastal markets like San Francisco and Los Angeles are already inching close to or even past that point.

Home prices can’t rise faster than incomes forever. So if the trend of the last few months continues, and the rate of price increases continues to come down to earth, it will be a sign that maybe, just maybe, we’ve put this long, horrible boom-bust cycle behind us.

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