THE housing opiate is taking effect again.
The Northwest Multiple Listing Service reported last week that King County house prices are up 15 percent, and in Pierce County 16 percent, over the past year. To make money by doing nothing but sitting on or flipping a home feels good. But
a new housing bubble is dangerous for the economy.
If housing prices rise in line with actual economic conditions, such as large-scale job creation or income growth, it is a positive development. The problem is the irrational exuberance of a bubble. This is the familiar situation when buyers enter the market out of fear of being priced out. Speculators accelerate price spikes through flipping. Prices make sudden gains.
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Though today’s prices have not reached their 2007 peaks, bubblelike behavior is occurring in a growing number of neighborhoods.
Housing penetrates too deeply into the economy for it to be a casino game. Trading stocks and commodities are rightly casino games. When people lose big, the damage is limited to participants. In contrast, when housing becomes a casino game, every homeowner in the affected region can lose big. The 2008 collapse revealed the economic agony when a bubble turns into a panic.
Raising interest rates is one way to prevent another housing bubble. The uptick in rates in recent weeks might already be having a cooling effect. Very low interest rates enable housing and other asset bubbles by encouraging people to enter the game and take greater risks.
Raising rates too high creates risk of an economic slowdown, but some risk is worth taking to avoid a bubble.
Interest rates have a major impact on monthly payments. A low rate can make a price affordable to a buyer or a speculator looking to hold and flip. Rising rates change the calculus. Current prices become unaffordable to buyers and therefore less attractive to speculators, who require a steady stream of buyers. As a result, higher rates can stabilize home prices. The drivers of a bubble decrease.
Raising interest rates is politically unpopular. No one wants off the opiate. Homeowners and speculators seek profit. Government wants revenue from property taxes and housing-related economic activity. The banking system welcomes the fees, the interest payments and the liquidity.
Not surprisingly, abnormally low rates are now expected. Note the markets’ negative reaction to Fed Chairman Ben Bernanke’s hints of higher rates.
In the past, the Federal Reserve understood the importance of normal rate levels. Fed chairmen, like Paul Volcker in the 1980s, maintained rates that reduced the frequency and depth of speculative bubbles. The last two Fed chairmen, Bernanke and Alan Greenspan, reversed course. Low rates have fueled economic activity but also the bubbles that have repeatedly shocked the economy.
Bernanke’s term as Fed chairman is ending. The top two candidates to succeed him are Vice Chairman Janet Yellen and former White House economic adviser and Treasury Secretary Larry Summers.
Yellen has been instrumental in current market-friendly Fed policies. Summers has long-standing connections to the financial sector. It is not clear either would pursue tougher Fed policies to head off a housing bubble.
Real, sustainable reconomic growth depends on investments in technology, science, infrastructure, education and other areas that support national competitiveness and job creation.
A steady increase in the value of homes based on real growth is in everyone’s best interest. Another housing bubble is not.
James Windle is a former candidate for Congress. He owns a home at Snoqualmie Pass.