The ABCs of the Housing Bubble

Economist Dean Baker explains the basics of the housing bubble

For Immediate Release: July 7, 2005 

Contact: Lynn Erskine, 202-293-5380 x115

Washington, DC: A new publication by the Center for Economic and Policy Research explains some of the basic facts about the current housing market. “The Housing Bubble Fact Sheet,” by economist Dean Baker, describes why the rise in housing prices constitutes a housing bubble and what can be expected when it inevitably collapses.

Over the last 8 years, the United States has seen an unprecedented rise in housing prices that has created $5 trillion in bubble wealth. Like the late-1990s stock bubble, this run up in home prices cannot be explained by the fundamentals of supply and demand. It is a speculative bubble that will inevitably collapse and almost certainly throw the economy into a recession when it does.

The “Housing Bubble Fact Sheet” provides an overview of the housing market and its implications for the economy:  

• Over 2 million housing units are being built annually, while the number of households is only growing by 1.4 million a year. 
  

• Some regions of the U.S. have experienced a 60 percent increase in real home prices, while the average for the country as a whole is 45 percent. Historically, real home prices have not increased, as house prices have just kept pace with the overall rate of inflation. 
  

• The collapse of the housing bubble will have a larger impact than the collapse of the stock bubble, since housing wealth is far more evenly distributed than stock wealth. 
  

• The collapse of the housing bubble will likely throw the economy into a recession and require a federal bailout of the mortgage market.  It could lead to a loss of 3.6 to 4.5 percentage points of GDP.

Given how far out of line house prices have grown from fundamentals, there is no way to avoid enormous economic damage when the bubble collapses. However, the sooner house prices drop, the less damage there will be.

For access to the "Housing Bubble Fact Sheet," by Dean Baker, click here.