Hardy perennials
I suspect that there are as yet undiscovered Amazonian tribes who also make the mistake of believing that houses are a consumption good. Via Yglesias, we have some bod in the New York Times:
I can’t claim to clear up all the uncertainty. But I do want to suggest a framework for figuring out whether you lean bearish or less bearish: do you believe that housing is a luxury good and that societies spend more on it as they get richer? Or do you think it’s more like food, clothing and other staples that account for an ever smaller share of consumer spending over time?
sigh. Nothing particularly objectionable about this as long as you're clear in your mind about the meaning of "housing", and indeed the accompanying chart correctly plots the CPI component reflecting rent and imputed rent. But David Leonhardt's article jumps immediately from there to talking about house prices.
The value of a house is the capitalised value of the stream of housing consumption provided by it over its lifetime. So it depends not just on the price of housing or its expected future path, but the capitalisation rate used. You can't ignore the level of interest rates in thinking about these things.
I think that the root of the problem here is that the following sentence refuses to stay put in its proper home on the personal finance page, and keeps trying to run away and join the circus in the economics page.
The best advice for homeowners and would-be buyers may be to think of a house not as an investment, first and foremost, but as a place to live.
I would guess that some restaurant critic has written "think of the Doodleburger not as food, first and foremost, but as a thing to eat", but he probably knew he was joking. This one about housing is just as incoherent.
The only people who are actually purely looking for "a place to live" and purchasing housing on the spot market are tramps searching for doss-houses. Everyone else is looking for a place in which they are going to live for a period of time. During that period of time, they will consume housing and pay money, and at the end of it (if they bought) they will receive the difference between the buying and selling price. It's an investment. In the personal finance pages, this just means "don't enter into housing transactions where price appreciation is vital to the affordability calculation", which is reasonably good advice, but anyone reading the economics section ought to be enough of a grown up to realise that a house is an investment.
Bonus hilarity - the bit where they try to find out what happens to the housing component of consumption for long runs of time and hooray! some Freakonomics type has found some houses! in Boston! that have been recorded since "the late 19th century and are still around"! American exceptionalism, how are ya.
I would add that although buildings can be "consumed" through wear and tear, the freehold and planning permission aren't. These often make up a big part of the value.
ReplyDeleteAs an object lesson, consider the value of an empty lot zoned for housing. In my neighborhood, at least, market prices tell us this value makes up the vast bulk of 'house' prices. After all, I can have an underemployed, licensed acquaintance pop a very nice house on a nearby lot if you hand me $300k cash or so, and yet the house at the corner just sold for $1.6m.
ReplyDeleteYou do the, um, math.
Re final para: after my first week in Australia, I exhausted the fun to be had in saying "well, it's nice, for something that's 600 years newer than the house I grew up in" whenever people tried to show me historic buildings.
ReplyDeleteOTOH, our sniping is more like UK exceptionalism - I can't think of many other places where property has freely and recordedly changed hands for more than a couple of hundred years unbroken to the present day without annexation, revolution, conquest, genocide, etc, that make historical series pretty much irrelevant.
http://www.chicagofed.org/publications/workingpapers/wp2009_12.pdf
ReplyDelete"The French government currently honors a very unusual debt contract: an annuity that was issued in 1738 and currently yields E1.20 per year."
Europe has been fairly good at maintaining continuity of property ownership despite wars, revolutions, and economic collapses. Also a lot of historic buildings belonged to churches, schools, or similar organisation. Or in the UK, pubs.
I went on a tour of New Orleans once. After you've heard that a particular building is Over A Hundred Years Old two or three times it stops even sounding funny and just makes you feel you're in the wrong place. (I mean, the pillar box outside Bargain Booze down the road is OAHYO - which is pretty amazing in itself, but not that amazing.)
ReplyDeleteNot sure about UK exceptionalism, though. Did the Nazis torch the land registries in Germany, let alone in occupied France? I wouldn't have thought they did. Old World exceptionalism, maybe.
Without actually doing any, you know, research, setting aside wars and that, the absence of significant land reform and a far more ubiquitous primogeniture would suggest that British[1] land ownership is unusually stable by even European standards.
ReplyDelete[1] Specifically excluding Ireland.
Surely the house is a consumption good. Land is an investment good, but a house (well maybe its just the ones I live in) gets used up. Its a longer scale perhaps.
ReplyDeleteThe "age" thing has to be one of the bigger culture gaps between Europe and the US.
All investments depreciate though - a computer-controlled lathe will also wear out over time, but nobody would see that other than as an investment good bought for the stream of output it was capable of producing over time. Maybe someone is going "don't think of a blast furnace as an investment, just think of it as a way to make steel" out there.
ReplyDelete(consumer durables are investments by a strict criterion and generally considered to be so by economists, but this typically gets fudged in the national income accounts as nobody knows how to depreciate them)
I thought Felix got very confused on this issue (http://blogs.reuters.com/felix-salmon/2010/09/02/why-houses-are-like-dishwashers/).
ReplyDeleteYes, but not quite as confused as he appears to be over Michael Lewis' article about Greece (summary: stupid smelly foreigners won't pay their debts because they are stupid, smelly and foreign)
ReplyDeleteOkay well if all consumer durables are investments that sort of works in a don't look at it too closely kind of way. But the land component has to be treated differently, surely?
ReplyDeleteA sort-of-accountant writes:
ReplyDeleteDepends on which GAAP you're using. UK GAAP (soon to be RIP) and IFRS for SMEs view it as a whole, IFRS & US GAAP require you to split land and buildings apart and depreciate the latter. US GAAP has the additional quirk that you also need to apportion a proportion of a property's purchase price to intangibles (e.g. the NPV rental value of a tenant unfortunate enough to be paying above market rates.)
I read that NYT article and it seemed to me that the background assumption that house prices should, in the long run, stay at pretty much the same ratio to incomes, is highly questionable. After all, there's a real positional goods aspect to housing so, so long as we're all getting richer (in the days when we were), you'd expect the bidding process to make houses more and more expensive. (Do slap me down if that's a hopeless thought.)
ReplyDeleteNo I think you're right, and it's not just a positional good (in the Veblenian sense of one that you buy just to show off - the positional aspect comes largely from the fact that there's a hard limit on the availability of good locations, plus a similar limit on the density of housing in them if you're going to maintain their desirability). At the end of the day, housing is a good that you consume a hell of a lot of - you're in your house most of the day - so it makes sense to me at least to consume the nicest housing you can afford. It's also a more or less non-satiable demand, in that I would be indifferent between $500,000 worth of hamburgers and $1m worth of hamburgers (because they would both be in the category "more hamburgers than I could possibly eat), but I wouldn't be indifferent between a £500k house and a £1m house. So I don't think one needs much more than a quite weak version of positional or luxury goods argument to get the result that housing is going to be a rising proportion of rising incomes. I think you're correct and as I said in the post, the way one can see this is to have a look at the alternative argument that we're buying "shelter" as one of the necessities of life. There are people in that category and I wouldn't want to make too many guesses about demand functions over housing in developing countries, but basically nobody who is realistically in a position to buy a house (even during the subprime boom) is doing so purely to keep the rain off.
ReplyDeleteAlso, "buying housing" in this sense means paying rent or paying the imputed rent of owner occupiers. Turning that into a house price involves turning the future stream into a present value. Although there was a housing bubble, not all of the increase in house prices was bubble - some of it was a correct reaction to constantly-falling interest rates ...
Richard: That's just accounting though. Which is fine, but in practice land and the buildings have different economic qualities, no? Even if the house falls down, the land component is (largely) maintained. In the SE of England that land component is the majority of the value of the housing stock, whereas in parts of the US the land is a tiny proportion.
ReplyDeleteDD: Surely the value is not determined by salaries per se, but by access to credit. Most people in practice seem to borrow as much as the bank will lend them, and this is what constrains their spending. In the UK at least, increase credit availability and you increase the cost of housing. So one of the impacts of the housing boom was to transfer a lot of wealth to banks for basically doing sod all. I'm sure there's a flaw in my reasoning there somewhere.
Cian: basically you're right (although the windfall actually went mostly to the previous generation of property owners, the banks as you recall lost their shirts), but basically that's one of the instructions in the operating manual for the UK economy. If you want to increase the supply of credit and lower the interest rate for other reasons, you end up having to wear the housing market consequences of that - also it's not like rationing credit would actually help - this would just mean that the windfall would go to landlords who would continue to charge the market rent while paying much less on their mortgages.
ReplyDelete