Wednesday, October 20, 2010

Is housing a Luxury or a Staple?

This seems like a silly question. Shelter is widely regarded as one of life’s basic necessities along with food and clothing. But is it a luxury item or a staple commodity?  What’s the difference? Well, in terms of future housing prices there is a big difference.  Staples (bread, soap, and corn flakes), tend to rise in price along with inflation. But luxury goods, tend to be consumed in greater qualities, as people get wealthier....think cars, jewelry, travel, boats.   History suggests that people will consume more or better quality housing as their real income, adjusted for inflation, actually increases. A great deal of research has been done on this subject by Professor Robert Shiller (co-author of the widely quoted Case-Shiller Home Price index.) He finds positive evidence that as people earn more, they spend more on housing, without necessarily increasing their consumption of staples.

There have been periods in US history where real income rose rapidly and housing booms followed. The most recent boom (that has now gone bust) is an exception. It was fueled not by rising income, but by easy credit. 

If house prices follow real income growth, what does the future hold for us here in Maryland? Current economic statistics are encouraging. In the first quarter of 2010, Marylanders had real income growth 0f .7% while the country as a whole suffered a loss of .1%…not a huge increase but at least we are heading in the right direction. 

The future of housing prices in Maryland will depend primarily on local employment and real income growth. If history is any guide, the trend has been positive for several decades and is likely to continue into the future. That fact that the housing markets may be weak in Las Vegas or Detroit due to poor local economic conditions, will have no effect on Maryland housing prices. As the media continues to forecast doom and gloom, we loose sight of the fact that housing, like politics, is all local. 

What does this mean for today’s buyers and sellers? For buyers, there is the prospect that positive income trends will continue into the future and that prices will increase slowly along with wages for the next several years. Annual price increase in the range of 1-2% over the inflation rate may be possible. The days of 5-10% annual increases are definitely gone along with all the speculators it attracted. But for buyers, who expect to remain in place for 5 or more years the likelihood of actually losing money is probably very low. If you are a “move up” buyer, do the math. If your existing home went from $250,000 to $225,000, (a 10% reduction), you are $25,00 less "wealthy". But if that $400,000 home you love experiences the same 10% decline, you can get it at a $40,000 "discount". 

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