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The Gap Between New and Existing Home Sales: Adjusting to the Bubble

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Thursday, 24 March 2011 06:56

In his blog today, Floyd Norris notes an unprecedented divergence between the trends in existing home sales and new home sales. He points out that existing home sales have held up reasonably well, while new home sales are down by more than 75 percent from their bubble peak.

While this is largely true (Core Logic and real estate analyst Keith Jurow have noted an upward bias in the realtors' data on existing home sales) this gap is also entirely predictable given the rise and fall of the housing bubble. New homes are the mechanism that adjusts supply and demand. When prices went through the roof during the run-up of the bubble, builders rushed to build new homes so that they could profit from the extraordinarily high prices. As a result, we had near record rates of new construction from 2002-2006.

However, once the bubble burst and prices began to tumble, there was little reason to build new homes. A large supply of homes for sale and falling prices makes building new homes an unprofitable venture. The price that builders can expect to receive is on average more than 30 percent less than it was at the peak of the bubble and they are likely to have to wait a long period of time before they can even make a sale.

For this reason, it should not be surprising that new home sales have fallen by much more than existing home sales following the collapse of the bubble. They will presumably rise back to a more normal level in the next two or three years, which is likely to mean at least a 100 percent increase from the February level. At that point, we will again be building homes fast enough to replace worn out structures and to meet the needs of a growing population.

Comments (8)Add Comment
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written by hapa, March 24, 2011 9:01
we'll be building homes. will they be cost-effective homes? maybe they won't have the basic energy efficiency, water thrift, and low-mileage locations needed to protect the owners from sharp price changes and ultimately keep the value of the house 10 years from now.
...
written by skeptonomist, March 24, 2011 9:21
I read elsewhere that existing home prices have fallen much more than new home prices. This suggests that new home sales might not pick up until the general price level actually increases to a level which will allow builders to make a profit - although I don't know how many new homes are built for profit as opposed to on owner's orders. This could take a long time - bad news for the economy.
In 2 or 3 Years, a Likely 100% Increase in New Home Construction????
written by Paul, March 24, 2011 10:46
What ever you are smoking over there, you need to stop and get help!!!
...
written by Bloix, March 24, 2011 11:28
Paul, learn to read, please.

Dean, why are existing homes would be selling better - any buyer presumably has a choice between new homes and existing homes.

Perhaps it's because the overstock of new homes is concentrated in certain markets (e.g., Las Vegas?) Or maybe they are mainly in exurbs while existing homes are mainly closer-in to metro areas? Or maybe new homes are on average a lot bigger and more expensive than existing homes?

There's got to be something that makes a big chunk of the stock of new homes non-fungible with a big chunck of the stock of existing homes.
Used vs. New home sales?
written by Nassim, March 24, 2011 11:54
I would assume that because many existing home sales have been foreclosed ones, discounted far more than new home builders are willing to match is the reason.

Foreclosed homes, and especially those in the foreclosure process are often priced below replacement value. The latter group are those owners who are allowed by banks to sell before the foreclosure process is completed. They can discount even more than bank can, due to cost of selling. Banks accept lower sales by owners because they will have to spend a lot of time and money to sell, needing a higher price to cover such costs.

Home builders don't have regular mortgages, they have construction loans or are self financed. Thus it is not to their benefit to discount much, hoping that carrying the buildings will net them more in the not so distant future.
Seriously?
written by JL, March 24, 2011 1:53

"...which is likely to mean at least a 100 percent increase from the February level." In San Bernardino and Riverside, price of new homes have come down significantly such as from $400K to $180K recently (some homes i know). You are saying in two - three years, those home will be back up to $360K?

Replacement value in Nassim's case, that seems to be construction cost and as in the case of SFR, that generally would be higher than existing homes whether foreclosed or not. Granted foreclosed ones would have even more discount. Reasons being development costs, constructions include things such as labor and materials.
Seriously
written by govcin, March 24, 2011 4:21
JL, 100% increase from the February level of _new home sales_, not price of new homes, not new construction. There is a huge stock of unsold new homes in many areas. An increase in new construction starts will follow sales, if builders perceive an increased demand.
*Houses* not "homes"
written by kjmclark, March 25, 2011 1:56
Geez, don't be a lackey for the "home builders" association! They're called houses. A house becomes a home when people live in it. Unless they're building houses these days with people installed as fixtures, the buildings are houses.

I *hate* it when people fall for marketing without a second thought.

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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.

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