Housing market economic analysis

Housing Market Economic Analysis

To Americans, ownership of their own homes was an essential part of living, and it formed a part of their base - Community, security, accomplishments and family. Yet the nature of home ownership has now changed, as it has become a case of renting from the lenders and not direct and full fledged ownership. Cheap and easy money has led to give the housing industry and an unparalleled boom all across the country. This in turn has led to the gains in these sectors obtained by the Americans in these areas being cashed out and enjoyed by the equity loans which formed a sort of secondary income for the households to keep spending. This is a tragedy and somewhat similar to the S&L tragedy. The individual house is not viewed as an asset anymore, but is now viewed as an investment area which can be milked regularly for cash. (Is the Housing Market Going to Crash?)

The process of financing houses is handled by the Federal Home Loan Bank System which was created by the government in 1932 through the Federal Home Loan Bank Act to help create more confidence the national financial institutions and also increase supply of funds for home mortgages through the local lenders. At that time there was a depression and that had greatly affected the entire banking system. This has kept changing and from 1989 the bank's public policy has been to provide affordable housing and community development funds. This provides funds both long and short-term advances on the mortgaging of properties like houses, small farms, and also for agricultural business loans. This distinguishes the bank from other funding institutions. Its activities provide liquidity for housing finance and community development through the organizations that are members of the bank. It is also a source of long-term mortgage funds, asset-liability tools for management and liquidity for short-term requirements. This increases the profitability for the members as they can switch their investment to higher yielding instruments. The cost of loans provided by this institution is at lower interest rates than other organizations in the commercial area and determined by the Treasury. (Federal Home Loan Bank System)

At the same time, one has to remember that the basis for all financial accounting is double entry bookkeeping, and there the debts must equal credits and equity. When the assets exceed the liabilities, then the organization can think that it has surplus funds and can decide to issue more loans. After the Second World War, operation of Federal Reserve has changed, and it is no longer acting as a source for funds, but only matching those with excess funds with ones having less. This is compounded by other organizations which exist only for lending on real estate. This is causing a lot of problems. (Is the Housing Market Going to Crash?) at the same time one cannot forget that there are positive sides to home building and it generates income and jobs for people in the area. There are different models and estimate of these benefits. This also pushes costs on the local government as the area has to provide for education, police and fire protection. These costs can also be estimated, and it is often seen that the funds generated is often more than the costs. (the Local Economic impact of Home Building)

As an example, one can see that 2,448 full time jobs in construction and related industries for building 1000 single family homes along with $79 million of wages as also $42.5 million of total taxes for the federal, state and local governments. If the houses constructed are multi-family, then these figures come down to 1030 jobs, $33.5 million of wages and $17.8 million of taxes. (Housing's Direct Economic Impact)

The housing industry has seen a problem in the early 1970s, and this led to a lot of deregulation. At the same time, there has been a rise in costs of funds for similar industries, like the Savings and Loan industry and this has led to a lot of bank failures and the death of the industry itself. The first change was the introduction of the collateralized mortgage obligation which was to spread the differential risk on investment and speed up the lending cycle. The next problem was the supply of more cash to give to the borrowers and these led the lending organizations to pool up the loans and sell those pooled mortgage loans to the bankers, who in turn got the money from the investors. Large fees were collected as the amounts involved were large. This brought government in the picture and they created two organizations called Federal National Mortgage Association or Fannie Mae, and Federal Home Loan Mortgage Corporation or Freddie Mac. (Is the Housing Market Going to Crash?)

These are the two dominant organizations in the area of secondary residential mortgage market in entire United States. They are a very important part of the larger picture of wide efforts by the government to increase the preparation and use of housing at all levels. The effort through Fannie Mae and Freddie Mac are probably a unique effort. On the outside, they are like other corporations with shares trading on the New York Stock Exchange, but they are still a part of the government and have special responsibilities. These features are however double edged. They help the lowering of interest rates on residential than they would be in the normal situation, while at the same time, their operations cause a lot of contingent liabilities for the federal government. This responsibility is in turn a responsibility of the public. If the U.S. economy faces certain financial difficulties, then also there would be a lot of difficulties that would come up because of these two organizations. (Fannie Mae, Freddie Mac, and Housing Finance: Why True Privatization Is Good Public Policy)

These organizations package and sell loans like the stocks and bonds which are traded, and those are in turn further traded. The general view is that the contingent mortgage obligations -- CMO are safe investment as they based on mortgages which have real property as the basis for the mortgage. This led them to being rapidly picked up and dealt with by pension funds, insurance companies and banks. Corporations and wealthy persons from both within the country and outside have been dealing with them. In turn, these units are being refinanced. The two organizations of Fannie and Freddie are in turn financed by trillions of dollars of credit given by the United States Treasury. (Is the Housing Market Going to Crash?)

In the society of today, there have been few investments as lucrative as homeownership. The mortgage rates are very cheap and since 2001 their cheap costs have led to very high home sales. This high sale has in turn caused the prices of homes to keep going up at very high rates and that sort of increase in rates has not been seen since 1980. The increases are almost 10% for every year, and this has given a lot of money to wealthy Americans, and they have in turn used this as cash through the methods of re-financing or loans from home equity companies. The rapid increase has made many Americans still interested into getting into the housing area. This has led to a situation where the market seems to be getting too hot. Many prospective home buyers are standing in a line to buy a home, and the investors are changing properties almost immediately. There are people whose home value has doubled in five years, and this boom has been going on even in 2005. (After the Housing Boom)

The number of houses sold increased by 9.4% in February, and this increases the annual sales to 1.2 million. The people starting on their houses increased to 2.2 million a month and this sort of commitment was not seen after the 1970s. Yet many experts feel that during this year the number of houses sold will finally drop. The money has become tight and the economy strong and this has led to an increase in the mortgage rates. The rates have increased to over 6% in a period of six weeks at the end of 25th March. This has led experts to predict that starting of housing construction is expected to drop by 5% during this year, and even house sales are expected to drop similarly. In terms of prices, this leads to a situation where the prices will not drop, but not rise during the year. According to Richard Berner, chief economist for Morgan Stanley U.S., "Home prices will rust, not bust, for the next few years." (After the Housing Boom)

At this stage its important to look at the policies devised to increase house ownership, and most of them including Fannie Mae and Freddie Mac, do not have much of socially beneficial components and only increase housing. At the same time it has a lot of social costs. Some suggest that housing should be made totally private by removing all government links. Even Fannie Mae and Freddie Mac should be made totally independent from the government. This should be followed up by other methods to increase the individual ownership of housing and at the same time reduce the costs of owning a house. Even if the housing sector cannot be made totally private, it is important that the government make statements saying that it has no intentions of supporting Fannie Mae and Freddie Mac any further, and at the same time, try to improve the operations of these two companies. This can be achieved by limiting the amount of debt that these regulatory deposit organizations can hold and also focusing clearly with the two institutions on the sections of the housing market where their activities would provide the best social benefits. (Fannie Mae, Freddie Mac, and Housing Finance: Why True Privatization Is Good Public Policy)

The weakness comes from the feeling that contingent mortgage obligations are second only to treasury bonds and at the same time are not totally supported by the U.S. government. When the interest rates change, as it happened in 1990s with a dot com share which went beyond all reason, the markets suddenly rose and fell. Then the Federal government team had to cut interest rates very sharply back to get the market thinking logically again. Yet the drop in interest rates makes the investors feel that they have lost money, and at that time they had concentrated on homes and real estate. The government has not been able to control the imagination of the people, and the next dream has been on its way. This is reflected in the statement of Chairman Greenspan to Congress in the last two years to control Fannie Mae and Freddie Mac better. (Is the Housing Market Going to Crash?)