Realty Views By Terry Ross

Wealth Effect Is Different This TimeTerry Ross, Realty Views

August 13th, 2013 – Reports of price increases and gains for the housing market have been more consistent this year than at any time during the recession, but many economists and housing experts are pointing to the fact that this recovery – and there is one to be sure – is different than anything we have seen during the last few housing cycles.

To a certain extent the American consumer and homeowner learned a valuable lesson from the financial meltdown of the past few years – that there are no guarantees when it comes to home prices and the equity in a home – which fueled much of the boom during the early and middle part of the 2000s.

Home equity and rapidly rising prices contributed a large part of the euphoria that spurred spending 10-12 years ago and ended with the housing bubble in 2008, leading to the eventual overhaul of the nation’s banking and financing system that we are still working through.

This time, even with reports of some dramatic improvements in home prices, consumers are wary of going to the housing piggy bank in a big way because home equity profits can be fleeting and unpredictable.

First of all, some of the numbers being bandied about are misleading. Gains of 12 to 20 percent or even higher are very dependent on location, market segment and the fact that the starting point can be anywhere from 30 to 40 percent below 2008 levels. Last year 1.7 million homes escaped negative equity territory nationwide and another 850,000 did so in the first quarter of this year. This is significant but is also tempered by the fact that many of these are the result of loan modifications, short sales and foreclosures that have cleared the books of underwater loans. Household wealth has been on the upswing, according to the Federal Reserve, hitting a record $70.3 trillion at the end of the first quarter with rising home values accounting for a quarter of this number – a $3 trillion increase from the previous quarter.

In past recoveries, this would have led to a major economic stimulus given the formula that every dollar in increased home prices leads to 8 cents of increased consumer spending over the following 18 to 24 months, according to Mark Zandi of Moody’s analytics. He notes that there has been an increase in spending but nothing like in the past where the wealth effect could be pegged to rising home equity.

The popular theory now is that, instead of relying on home values and using equity as a financing tool for everything from autos, home improvements to consumer goods and even businesses, the consumer has learned a lesson to some degree and is basing purchases more on real work income rather than an equity number that may be fluid.

As for the general economy, the work income picture is not as rosy as the housing outlook right now. According to the most recent UCLA Anderson Forecast, the job market is experiencing “tepid growth” with good-paying jobs at a premium. In a nutshell, said the report, there aren’t enough good jobs being created for a strong middle class, which is vital for the long-term health of the housing market. It noted the “Great Recovery” has not materialized and the Real Gross Domestic Product (GDP) is more than 15 percent below the trend of past recoveries, which have seen an average of at least 3 percent improvement.

Although predictions going forward show a drop in the jobless rate, the elimination of many well-paying jobs by automation and technology is taking its toll in the present. The GDP is predicted to average 1.9 percent this year and rise to 2.9 percent next year and to 3 percent in 2015.

In the meantime, the psyche of the American consumer will be fragile since well-paying jobs are harder to find than in the past, and any wealth accumulation from increased home equity will be viewed with a wary eye to the recent past.

(Terry Ross, the broker-owner of TR Properties, will answer any questions about today’s real estate market. E-mail questions to Realty Views at terryross1@cs.com or call  562/498-1049.)