Tuesday, June 1, 2021

The Fed’s easy credit policies are widening wealth inequality as they fuel persistent home price inflation

Rod's comment on the below article:  As one who spent over 25 years working in the field of affordable housing and more years than that in other related real estate fields, I continue to have an interest in the topic of affordable housing.  There was a time when people with jobs that paid a modest income could, nevertheless, expect to achieve the dream of homeownership. That dream is fading for many people.  It is a shame.  Last year in Nashville, the average home increased in value by $32,000.  

In addition to having an interest in the topic due to my background, I have been more cognizant of what is happening in housing due to the fact that my son-in-law and daughter are shopping for a home. I am in a position to help them get into a home and will, but for young couples of modest income who do not have parents able to help them, there is simply no way that most of them can buy a house.  Also, trends show that it will even be more difficult to buy a house in the future. 

The answer to this problem does not lie in greater government subsidies for affordable housing.  The amount that the government can appropriate to make housing more affordable will only be a drop in the bucket as to what is needed to make a difference. Also, imposing price controls or forcing developers to provide affordable housing will distort the market and may make things worse, not better. 

Also, the government applying pressure to lenders to force them to make loans to people who do not meet lending criteria may lead to a new housing crisis like that of 2007.  With the new government emphasis on "equity," I fear that is where we are headed. It is as if we learned nothing from what happened in 2007.

There are things locally the government can do to help, or if not help, the local government can stop policies that are making the problem worse.  In an article, My advice to Mayor Cooper's newly appointed affordable housing task force, I laid out some of these.  If the city would follow my advice, that might help somewhat at the local level but this problem cannot be solved only at the local level.

In this article by Edward J. Pinto of the American Enterprise Institute, he explores the destructive role of easy money policies and how that is pushing up the cost of housing.

The Fed’s easy credit policies are widening wealth inequality as they fuel persistent home price inflation

by Edward J. Pinto, June 1, 2021 - At his April 28th press conference, Chairman Powell’s statements made clear that the Fed does not understand how house price inflation differs from inflation for commodities and services. He stated that “these one-time increases in prices are likely to have only transitory effects on inflation” and added “In the near term, 12-month measures of PCE inflation are expected to move above 2 percent as the low readings from early in the pandemic fallout of the calculation and past increases in oil prices pass through to consumer energy prices.” Finally, that the Fed’s response has been “guided by our mandate to promote maximum employment and stable prices for the American people….” 

These statements are hard to reconcile with the fact that home prices have been anything but stable. Since late-2020 year-over-year home price appreciation has been in the low- to mid-double digits. This boom in prices is an acceleration of a trend that began in 2012. Since then the price of constant quality lower priced homes has doubled, while the Fed’s preferred general inflation measure has increased by 16%. And, over the next 12 months, the AEI Housing Center expects the price of such homes to increase another 12-15%. For first time buyers these increases will be anything but transitory, as they form the future price base and will make homes increasingly unaffordable. 

 Powell went on to add: “There is no question, though, that housing prices are going up. And so we’re watching that carefully. It’s partly because there’s clearly strong demand and there’s just not a lot of supply right now. So builders are, you know, struggling to keep up with the demand, clearly. Inventories are tremendously low…. [i]f you’re an entry-level housing buyer this is a problem because it just is going to be that much harder for people to get that first house…. And, you know, my hope would be that over time housing builders can react to this demand and come up with more supply, and workers will come back to work in that industry.” 

This is a simplistic view. As land economist Richard Ratcliffe observed over 70 years ago: “The essential nature of housing demand is changeability; the nature of housing supply is rigidity.” The Fed’s easy credit continues to drive housing demand higher, but has done little to boost supply. Further, home prices are sticky, unlike lumber and other commodities, which price levels rise and fall by substantial amounts regularly. Since 1993, lumber futures prices have doubled or more on 7 separate occasions. Over the trading period of May 10 – June 1 lumber futures have dropped 25%.” 

For decades, the Fed has used lower interest rates to inflate asset prices, in particular those of stock and real estate, with the goal being to generate a wealth effect. But this effect largely accrues to the benefit of those households that already own stocks and bonds. The Fed’s own data confirm this. In July 1991 the Fed funds target was 5.80%. At that point, the bottom 50% of households had 4.1% percent of all household wealth. At the end of 2020, the overnight target is 0.00%-0.25% and the bottom 50% had 2.1% of all household wealth. 

The Fed’s easy credit policies are creating a growing housing affordability crisis for lower-income families, who are increasingly crowded out of the home buying market and putting homeownership out of reach for millions. With accommodative monetary conditions likely remaining in place for the foreseeable future, the Fed’s policies are having a disparate impact which will lead to a slowing of gains in racial integration, a widening of wealth inequality, a further increase in socio-economic stratification, and a reduction in home ownership rates. Quite an accomplishment for an agency with a stated goal of “stable prices for the American people.” 

As a society, how will we reckon with just how expensive housing has become and the resulting decline in the opportunity for homeownership? Long-time Fed chair Marriner Ecles faced a similar situation in 1947. The price of houses had “advanced by 25 to 35 per cent during the past two years. A large number of families of moderate and low income have been encouraged to assume mortgage debt which will be beyond their means…. Sellers and builders of houses have been enabled to make exorbitant profits.” 

 He gave this advice to Congress, which is still applicable today:

If the easy credit situation were producing a substantial additional volume of housing at supportable values in the long run, it would be justified, but because of the limitations of labor and materials it produces, instead, a dangerously inflated market which cannot be sustained for both new and old houses. I believe that by curtailment of credit for housing in closer relationship to the supply of labor and materials, the price trend would be reversed and a market for houses assured over a long period of years. Good low-cost housing cannot be built with high-cost materials and high-cost labor. Neither Government nor private industry can produce this miracle. 

 Housing inflation was tamed and we entered a 25-year period where new home construction kept up with demand, with the result being that real home prices declined slightly over the period. Mr. Chairman, stop spiking the monetary punchbowl. Mr. Chairman, stop buying 30-year agency MBS. 

Mr. Chairman, you owe the American people nothing less.

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