Economist Warns of Housing Market Decline Recent federal reports have shown that existing home sales -- the figure that economists say most closely influences pricing -- are in a general decline. Analysts say that could be trouble, despite today's report that sales of new houses rebounded in August from a dip in July. Hear Michele Norris and economics professor William Wheaton.
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Economist Warns of Housing Market Decline

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Economist Warns of Housing Market Decline

Economist Warns of Housing Market Decline

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For more on what the new housing numbers might mean for consumers and the economy in the days and weeks ahead, we turn to Professor William Wheaton. He teaches economics at the Massachusetts Institute of Technology, or MIT.

Professor WILLIAM WHEATON (Massachusetts Institute of Technology): I actually think it's potentially troublesome for the economy. As home prices fall, people stop spending as much money on durable goods - electronics, furniture, homebuilding equipment. All of that tends to slow down the growth in the economy. Whether it slows it down to zero and actually throws the economy into a recession is a very, at this point, debatable question.

NORRIS: You know, one of the things that economists look at is new home sales versus existing home sales. What's the importance of those two numbers?

Professor WHEATON: Well, new home sales really reflect how much of a builder's inventory is getting sold, and that really primarily affects the homebuilding industry. Existing home sales are much more important because existing home sales are what drives prices. The prices for housing that we live in, that anybody may be trying at any given moment to sell. And it's when those prices start to fall that people feel poor and they start to spend less and that hurts the economy.

NORRIS: You say that people feel poor. I was wondering home much these numbers reflect what's really going on in terms of home sales or in terms of the economy as opposed to the psychology of the market, the affect of seeing sales signs that sit for weeks where they used to disappear in just a day or two. Or a reaction to discussions like this one.

Professor WHEATON: Well, I mean I think that it's very hard to disentangle the psychological from the economics. They're really just flip sides of the same coin. If people feel pessimistic, then they also don't spend. Economists have another term for this, which is that if you've lost value in your home, then you have less wealth, your assets. It's like losing money out of your 401. As a consequence, people do spend less. And we have a lot of estimates of that effect and they suggest a slowdown in consumer spending is likely if house prices take a significant dip.

NORRIS: And the way the numbers are now starting to vacillate, does this help us in some way predict whether we should expect a soft landing or a crash in the housing market?

Professor WHEATON: Unfortunately, that's really the $64,000 question. I don't think anybody disagrees there's going to be a correction. As to whether it's hard or soft, it really depends on some wild cards that are happening in the housing market this time. There's a huge number of recent first time buyers, all of whom have been financed with, shall we say, innovative mortgage instruments. So the so-called sub prime mortgage market.

And there's growing evidence that a large number of those people may in fact go into default and be foreclosed upon, and that would tend to lead to a hard landing. And the other factor that's out there looming is the fact that there's been a large volume of purchases in at least in some parts of the country of housing by people treating houses as investments - buying second homes, (unintelligible) investment properties. And that kind of speculative activity can also unravel very quickly and could convert a soft landing into a hard landing.

NORRIS: You know, we've been talking about some of the market indicators. Are there other things that we should be looking at?

Professor WHEATON: Well, traditionally, building permits are a very good leading indicator. Builders somehow can sense a softening market before buyers and sellers can. And so when permits start to drop, you're pretty well sure that a couple of months down the road, sales and then prices are also going to drop.

NORRIS: So if you're interested in buying in a particular area, first time homebuyer, maybe before you call the real estate agent, you might want to first make a stop at the county clerk's office?

Professor WHEATON: And see exactly what's happening to permits in your neighborhood.

NORRIS: William Wheaton, it was good to talk to you. Thanks so much.

Professor WHEATON: Okay. Thank you, Michele.

NORRIS: William Wheaton is a professor of economics at MIT. He spoke to us from his office in Cambridge, Massachusetts.

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