Tuesday, March 20, 2007

Jobs and Housing, or Chickens and Eggs

I got a couple comments on yesterday's post arguing my point #12 was off base. Here is the bit from yesterday:

12) Besides, nationwide the job situation remains strong. The long-term evidence is that job growth drives home sales. While we may be in a unique situation with home prices coming off a bubble, strong job growth should create a floor beyond which prices are unlikely to fall.

The two comments argued that A) Employment is a classic lagging indicator and B) Housing weakness could cause its own job decline through construction, mortgage brokers, etc.

Here is my take. Obviously employment generally is a lagging indicator. Lord knows I'm not disputing that.

But if you are going to make a case for a housing induced recession, you have to argue that home prices keep declining. So supply has to increase or demand decrease or some combination. I think I made a strong case that supply problems would be contained. You can disagree if you will, but point #12 was about demand. If you accept my case that supply will not expand, but still want to argue prices will fall, then you have to give me a story about declining demand. I said that demand is primarily a function of job growth, and I stand by that. Even in the recent boom periods, where speculation in hot markets played a big role in driving prices to unsustainable levels, those markets got hot in the first place because job growth was strong in those areas. Baltimore/Washington for example, has seen a huge inflow of jobs in the last several years. The result is that downtown Baltimore home prices went sky high. Yes, there were lots of speculators, but they didn't show up until the underlying demand for homes reached a certain level.

So I can agree that employment tends to be lagging, but if we theorize that weak housing demand will cause a recession, then I argue that job growth has to be weak first. You can't make the following progression:

1) Home prices fall because demand is weak.
2) Demand is weak because job growth is poor.
3) Job growth is poor because home prices are falling.

That's circular logic.

Now, home builders laying people off is another story. Home builders are going to lay off a lot of people (or construction companies will). But I'm hard pressed to say that will amount to recession-level unemployment. I'd say that mortgage companies had even fewer people employed.

Some people have tried to argue for larger numbers of people related to housing. I'm dubious about that. Normally they throw in all sorts of industries: materials, retailers, furniture manufacturers, etc. I'm not saying those sectors won't be hurt. I'm just saying I'm dubious that you can really parse out who has a job because of a housing boom and who doesn't. How many Home Depot employees are "housing related?" Well, the whole freakin' store is about home improvement. So do you say that all those people lose their jobs in a housing bust? I can't buy it.

I'm a believer that most recessions are the result of a credit crunch. So in my opinion, the best case for a recession stemming from subprime is that banks freeze up, similar to the 1990-1991 recession. I think this could be avoided by the Fed making 2-3 cuts from here. All the Fed has to do is prevent banks from cutting off funding for C&I and prime residential loans. The subprime problem will take a little time and a little pain to resolve, but shouldn't be recessionary.


Anonymous said...

Great Blog!

One thing though: you argue that housing demand (as reflected in home prices)is, in part, a function of wage/job growth. You then point out that you don't see enough evidence to suggest that wage/job growth will slow enough to slow housing demand to the point where it will offset expected reduced supply.

A fair point.

However, I would ask you to examine the relationship between job/wage growth and housing demand from 2001 to 2006.

Put another way: if in 2001 I had told you what job/wage growth would be over the next five years, what would you have predicted housing demand growth -- as reflected in home prices -- to be?

I suggest to you that you would have come in way low with your prediction.

If I'm right about this, what does it suggest? It suggests that over this five-year period (which, by the way, only captures a little less than half of the housing bull market), job/wage growth was a poor predictor for home price growth. I say this guessing that over the long-term, wage/job growth is a good predictor of house price growth.

Therefore, what it tells me is that, over shorter time frames, a good long-term "predictor" does not work so well. I would also hazard to guess that, relative to most other five-year time periods, "demand" over this five-year time period has been far less of a function of wage/job growth.


p.s., please excuse any spelling/grammatical errors. I've kind of rushed this post.

Vivek Vish said...

Well, you're certainly right on the case I was making. I evidently didn't think through everything there. Good argument.

Accrued Interest said...


Love the handle. You are obviously right that employment can't possibly explain the boom in home prices for the last 2-3 years, and maybe further back.

I think the effective price consumers face when buying a home is not the actual price of the home, but the monthly payment on the mortgage. So if interest rates fall, that has a impact on home demand as well. But that's more a quantity demanded movement and not a shift in the demand curve.

Anyway, I'm not here to say there is nothing wrong with housing and prices will start rising by 5-10%. I think the decline in demand from speculators will have a material impact on home prices. Most likely causing prices to stagnate for several years. I'd say there is a good chance that real prices fall over the next 3-5 years.

But the question is what kind of economic impact does that imply? I call this the "small pain spread out" scenario. I think the economy can swallow this without a large hit to GDP.