January 18, 2009

There Were Signs of Distress

There were signs of distress about the economy: 60 [Sixty!] percent of respondents said that they were very or somewhat concerned about being able to pay their home costs, and 39 percent said that the decline in home prices had affected them personally.

Slightly over half said that their household income provided them with just enough money to pay their bills.

-- NYTimes

These numbers are surprisingly high -- even though we knew many American families were under an economic squeeze. Would you have thought that 60% were concerned about being able to continue paying all the costs of their home? This alarming number makes sense though if you consider that about 1/2 of American households have "just enough money to pay their bills" as the poll reveals.

This is a dramatic confirmation of the
one key fact that underlies our economic woes.

Every time a nation has a housing price bubble -- when house prices rise well over the limit of about three times annual household income (of the household when purchasing the home), then the crushing burden of making this proportionally high mortgage payment *every month*, over time, gradually destroys so many household budgets that a large portion of the population progresses deeply into debt....

Deeper and deeper into debt, until....

Until the easy credit ends when the house prices finally stop shooting upward.

Then, as households are forced to pull back on their credit-fueled spending, it becomes clear that the level of economic interaction (making and purchasing) throughout the whole economy cannot be maintained.

And then, like a flexible latticework bridge with more and more pieces being pulled out of the structure, the economy begins to creak and sag. The sagging can threaten to become a major slump downward.

Outright depression is only held off by the efforts of governments.

This is how a house price bubble is one of the most destructive things that can happen to a nation. It gradually removes more and more actual (non-credit) discretionary spending power from the economy as housing costs escalate and eat more and more of available income (as gradually more people begin paying larger mortgage payments). Then, finally, as the bubble stops expanding and easy credit ends, there is a sudden drop in credit-fueled discretionary spending. So the demand for goods and services suddenly drops off to a lower level. It's like the bubble forces a hard fall.

It happened to Japan.

And now it has happened to many nations at once: the US, Ireland, Spain, the UK, Sweden, Australia, and those are not all. The fallout is not going to be easy to work past.

It would be reasonable to expect the economic difficulties of the world to last for a long while, in part because the adjustment itself -- production and wages being adjusted downward to a significantly lower level of demand (less purchases of goods and services by consumers) -- is a circular process, and even the aid of government for lending and credit makes the adjustment slow.

A slow adjustment implies a long time of economic weakness and uncertainty.

As I see it, the only thing that can speed a real recovery (instead of a painful stagnation) from a house-price bubble is exactly to achieve house prices falling all the way back down to their normal long term average levels in ratio to household incomes, and to have households that can't really easily afford their mortgage payments get out of them.

When homes are generally affordable in most places again, then the nation can recover.

It is exactly house prices falling back to where they have to be in terms of incomes that allows house prices to finally stabilize, and confidence to return.

Ironically, foreclosures, so often spoken against by our politicians, can aid many families in two important ways.

foreclosures help to push house prices down more quickly, so that the inevitable and necessary fall in prices ends sooner. After prices are low enough and buyers increase, confidence spreads and people feel their wealth will increase instead of falling. As an added benefit, the lower prices allow young families to afford their first home.

The subsequent turnaround from this lower house price point allows a general recovery.

Second, for many or most families that "lose" a house in foreclosure, the family budget becomes much easier when freed from especially large housing costs. They have room to breathe.

They have escaped the crushing monthly payment that not only stressed their finances and sometimes their relationships and even their health --they have also escaped the monthly burden that robbed them of a chance to save money for the future.

For many families, a foreclosure is a reprieve, and a chance to move towards a healthy monthly budget, with some savings for the future.

A family that has a mortgage modified so that instead of a crushing 40-50% of their income going to mortgage payments they are set to pay only 38%, for instance (one program under Bush), is *not* so lucky a family as we might think at first.

38% of the monthly income paid on the housing payment is still a crushing burden, even if the crushing squeeze it creates over time is slower. Slowly being crushed is not better than rapidly being crushed. In fact it is worse. Seemingly 38% can be just afforded, until....until the car needs one too many repairs or the medical co-payments add up a little too much....

A lucky family is one that escapes from any crushing 35% or 40% or 45% of income going to their housing payment and moves into a cheaper place with a payment of 28% or less of their monthly income.

But it is not widely understood by many people or many in Congress that paying over 30% of your monthly income for your housing payment leads to financial stress and even harms the general economy.

We have a ways to go yet, as few in Congress seem to understand that high house prices damage our economy.

High house prices damage America, Congressmen and Congresswomen, Senators.

They prevent us from having much of an economy, once the bubble illusion of wealth -- which is actually based on ever-higher mortgage debt -- comes to an end.

When we spend almost all our money just paying for the house, the insurance, the car and the health care, how can we afford to go out to eat or pay someone to mow the lawn or buy more gifts or the other myriads things that are the output of...

...the output of our jobs?


  1. Very good summary. Should be sent daily to every congress-critter

  2. Thankyou. Please spread the word: offer this post and link as often as you wish.