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Home Publications Blogs Beat the Press Let's See, When Supply Drops, Prices Fall

Let's See, When Supply Drops, Prices Fall

Thursday, 28 October 2010 05:01

That's what NPR told listeners in its top of the hour news segment on Morning Edition (sorry, no link). The context was the possibility that a slowdown in foreclosures will reduce the supply of foreclosed homes being put on the market.

The Obama administration and other analysts have made this assertion, but it does defy basic economic logic and common sense. If a delay in the foreclosure process results in fewer homes being placed on the market then we should expect prices to rise, not fall. (This is compared to what would happen otherwise -- prices are falling now.) It is arguable whether such an increase would be good or bad, but reporters should try to get this one right even if the administration is having problems figuring out which way is up.

Comments (9)Add Comment
The Balance of Supply AND Demand Determines Price
written by Ron Alley, October 28, 2010 7:27
You are partially correct. All else in the market remaining constant, a drop in the supply of houses would result in a drop in house prices. However, a significant market factor such as the foreclosure documentation crisis has a wide range of impacts on the market for houses. In the housing market, those impacts hit demand. If demand falls faster than supply, prices will drop.

Mortgage availability clearly affects demand in the house market. It probably will be reduced as a result of the foreclosure documentation crisis. The primary reason is that investors who buy securitized mortgages should and will be concerned about the banks' ability to service mortgages honestly and effectively. The news organizations mislead their readers -- the true signers of the affidavits are the banks and not the employees. If a bank cannot be relied upon to file a true and correct statement of facts in a sworn affidavit, what should an objective investor conclude about the statements that same bank might make in a mortgage security prospectus? And what should investors who rely upon on that same bank to handle the sale of foreclosed properties and the distribution of the proceeds do to verify that the same bank treats has acted with integrity and correctly distributed the proceeds? These are powerful concerns and if you are holding mortgage bond funds in your 401K, you might want to consider whether to continue holding them.

Second, home buyers who hope to buy foreclosed homes are likely to retreat to the sidelines until the scope of the mortgage documentation crisis becomes clear. If the home is sold in a foreclosure based upon false statements, who ultimately will own the home when the person entitled to foreclose show up and forecloses? If you are thinking about buying a foreclosed home, I suggest you begin by breaking out your title insurance policy and reading the exceptions carefully. The home buyers looking for foreclosure bargains are not likely to feel any urgency to buy. Most of them can and wait until the dust settles. That is reduced demand. In the short term you say? Well, won't a foreclosure moratorium or slowdown, be just a short term disruption in supply?

The underlying issue is the composition of demand in the housing market. There just are not enough buyers wanting to "move up" into higher priced homes.

written by izzatzo, October 28, 2010 9:21
Baker has fallen into his own liberal logic trap and can't get out. While repeatedly reminding everyone of the over supply of houses, he also hounded them with evidence of rising prices that resulted even as supply was increasing[/i}.

Now he conveniently changes his mind and decides that when the supply of houses drops, prices increase as well.

It's nice to know that liberal economists believe house prices rise whether supply is increasing or decreasing. Only govenment interference in a free market can make that happen.
written by npm, October 28, 2010 9:55
If you disagree with the administration's logic, I'd enjoy reading about WHY you disagree, but simply mocking it as contrary to "common sense" is not helpful.

From the administration testimony:

Possible Economic Effects of Suspension of Foreclosure Proceedings

The time required to resolve these recent foreclosure issues by the servicers and state courts, and delays due to the related law enforcement investigations, could delay thousands of foreclosures for several months, which may have both immediate and longer term consequences. Longer foreclosure timelines will likely lead to lower sales prices of houses that are already in the foreclosure process. Vacant houses, in particular, are likely to not only sell for lower prices once they are ultimately put on the market but may also drag down the value of nearby houses in the present as long as they remain unsold. Further, uncertainty about the status of foreclosed houses, including uncertainty with title insurance, and whether based on the documented problems in these banks or not, may discourage purchases of foreclosed houses until the uncertainty is resolved. This would hurt homeowners and home-buyers alike at a time when foreclosed homes make up 25 percent of home sales. Together these two factors may exert downward pressure on overall housing prices both in the short and long-run.

Right now, families who have watched their home values decline over the last few years want nothing more than new homebuyers to buy the vacant homes so that their neighborhoods can start the process of recovery. While the foreclosure reviews may reduce the near-term supply by delaying the sale of distressed homes, we expect that most of the affected houses will eventually come on the market.
written by Adam's Myth, October 28, 2010 4:28
Glad someone finally posted on this. I had noticed it -- not just with NPR, but across the media landscape as reporters simply repeated Administration talking points -- and had wondered why no one else noticed. It's a basic misunderstanding of microeconomics.
written by PeonInChief, October 28, 2010 6:11
I think the main reason the government wants to keep foreclosures moving along is that we can't have people who are upside down, have lost their jobs, or just made bad economic decisions living in houses and not paying for them--it would be sort of like the government bailing out banks after they'd made bad loans.
written by ugo ubili, October 29, 2010 12:44
The price of a house in a reccession economy do not varies with the availability or supply but depended on the willing buyers.However,availability of job is the fundamental tool that arguably in the long run rotate the price and to great extent,availability.In this discourse,job is an important factor
written by helhel, November 01, 2010 3:31
My solution to the foreclosure mess...

1. Anyone who bought a house they cannot afford for whatever reason, should be foreclosed upon and evicted. At that point the following help should be offered to these people:

2. The foreclosure should not be a black mark on their credit record that would prevent them from re-entering the housing market.

3. Allow them to borrow again under stricter lending guidelines. Limit the amount of their next loan and require a larger down payment. In this way these people would not be shut out of the housing market, but instead would be helped into a more affordable home for them.

4. All the foreclosed properties should be sold for whatever the market will bear.
Buy and rent
written by Mike Ballard, November 01, 2010 10:34
The government should buy the houses at their current market price and rent them to the people who occupy them. Evictions only cause even more disruptions. Once the market has recovered the government can sell the houses for their market prices, giving the right of first refusal to their occupants.
written by boxer, November 02, 2010 7:44
When have government/corporations not acted in their own interests to fund and refund thier enterprise, Izzatzo? What paradigm are you coming from? Your motto is "profit over people",
and it shows just how cruel and selfish you capitalists are. Shame on you little man.

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About Beat the Press

Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.