Housing Price Bubble: Learning from California


In a letter to The Wall Street Journal (February 6) defending California’s greenhouse gas (GHG) emissions policies, Governor Arnold Shwarzenegger’s Senior Economic Advisor David Crane noted that California’s high unemployment is the result of “a bust of the housing bubble fueled by easy money.” He is, at best, half right.

The “bust of the housing bubble” occurred not only because of “easy money,” but also because of the very policies California has implemented for decades and is extending in its battle against GHG emissions.

The nation has never had a housing bubble like occurred in California. The Median Multiple (median house price divided by median household income) in California’s coastal metropolitan areas had doubled and nearly tripled over a decade. Housing costs relative to incomes reached levels twice as high as those experienced in the early 1990s housing bubble, which was bad enough.

This is all the more remarkable because even before the bubble the Median Multiple in the Los Angeles, San Francisco, San Diego and San Jose metropolitan areas was already elevated at 1.5 times the historic norm.

“Easy money,” by itself, does not explain what caused the unprecedented housing bubble in California. If “easy money” were the sole cause, then similar house price escalation relative to incomes would have occurred throughout the country.

Take, for example, Atlanta, Dallas-Fort Worth and Houston. These are the three fastest growing metropolitan areas in the developed world with more than 5,000,000 population. Since 2000, these metropolitan areas have grown from three to 15 times as fast as Los Angeles, San Francisco, San Diego and San Jose. While 1,800,000 people have moved out of the four coastal California metropolitan areas to other parts of the country, 700,000 have moved to Atlanta, Dallas-Fort Worth and Houston from other parts of the country. This is where the demand would have been expected to produce the bubble. But it did not. House prices remained at or near historic norms and average house prices rose one-tenth that of the California coastal metropolitan areas.

These three metropolitan areas were not alone. Throughout much of the nation, in metropolitan areas growing both faster and slower in population than coastal California, house prices simply did not explode relative to household incomes.

In touting “smart land use” as a strategy for greenhouse gas emissions, Crane misses the other half of the equation. Indeed, it is so-called “smart land use” (“smart growth”) that intensified the housing bubble in California. “Smart land use” involves planners telling the market where development will and will not occur. In the process it ignores the price signals of the market. Owners of land on which development is permitted naturally and rationally raise their asking prices, while owners of land not so favored can expect little more than agricultural value when they sell. The result is that the land element of housing prices exploded, fueling the unprecedented bubble. Restrictions on supply naturally lead to higher prices, whether in gasoline, housing or anything else.

California has placed restrictions on development with a vengeance. For nearly four decades, California has woven a tangled web of land use restrictions that have made the state unaffordable. When the demand rose in response to the “easy money” the land use planning systems were unable to respond and a rapid escalation in housing prices followed. The same thing occurred in other areas with excessive land use regulation, such as Las Vegas, Phoenix, Seattle, Portland, New York, Washington and Miami, though the house price escalation was not so extreme as in coastal California.

On the other hand, where land use still allowed a free interplay of buyers and seller (consistent with rational environmental requirements), the housing bubble was largely avoided. Average house prices in Atlanta, Dallas-Fort Worth and Houston rose only one-tenth that of Los Angeles, San Francisco, San Diego and San Jose.

When the bubble burst, the far higher house prices naturally tumbled more than in other areas. The price was paid well beyond California and the other “smart land use” markets around the nation. From Washington to Wall Street to Vladimir Putin and Chinese Premier Wen at Davos, everyone knows that the international finance crisis was precipitated by the US mortgage meltdown.

It all might not have occurred if there had been no “smart land use” markets with their exorbitant and concentrated losses. Overall, the “smart land use” markets represent little more than 30 percent of the nation’s owned housing stock, yet produce more than 85 percent of the housing bubble values at their peak. California style “smart land use” intensified the overall mortgage losses by more than five times. If the losses had been more modest, there might not have been anything like the current mortgage meltdown. With more modest losses, the world financial system might have been able to handle the damage without catastrophe, just as it did with the “dot-com” bubble earlier in the decade. The many households that have lost much of their life savings or retirement income would not be facing the future with fear. And even personally frugal taxpayers of the world would not be the principal stockholders in failing banks.

California needs to wake up and face the reality. The intensity of the housing bubble was of its own making. More “smart land use” is just what California does not need. This is the lesson the rest of the nation needs to learn rather than repeat.

David Crane letter to the editor: http://online.wsj.com/article/SB123381050690451313.html
Domestic migration data: http://www.demographia.com/db-metmic2004.pdf
Analysis of the housing bubble: http://www.heritage.org/Research/Economy/wm1906.cfm
House price losses by peak Median Multiple: http://www.demographia.com/db-usahs2008y.pdf
Las Vegas Land Market Analysis: http://www.demographia.com/db-lvland.pdf
Phoenix Land Market Analysis: http://www.demographia.com/db-phxland.pdf

Wendell Cox is a Visiting Professor, Conservatoire National des Arts et Metiers, Paris. He was born in Los Angeles and was appointed to three terms on the Los Angeles County Transportation Commission by Mayor Tom Bradley. He is the author of “War on the Dream: How Anti-Sprawl Policy Threatens the Quality of Life.

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When the bubble burst, the

    When the bubble burst, the far higher house prices naturally tumbled more than in other areas. The price was paid well beyond California and the other “smart land use” markets around the nation. From Washington to Wall Street to Vladimir Putin and Chinese Premier Wen at Davos, everyone knows that the international finance crisis was precipitated by the US mortgage meltdown.
    It all might not have occurred if there had been no “smart land use” markets with their exorbitant and concentrated losses.

If this is true ("smart land use" = mortgage meltdown), how come Atlanta (and Dallas) have/had some of the higher foreclosure rates in the nation over the last few years (Atlanta had one of the highest in 2006)?

Portland, Seattle, and New York have had much lower foreclosure rates than Houston, Dallas, and Atlanta. While things can change, your statements seem inaccurate.

Do land-use restrictions really mean more foreclosures? And if so, why have some of the housing markets you mentioned been hit reasonably hard by foreclosures (Atlanta especially)?

Wes: Profoundly Missing the Point: From the Author


Thank you for your comment. Unfortunately the comment indicates a profound misreading of the article and as a result a misrepresentation of our principal point (presumably unintentional). This is a mistake others have made before.

Our article makes no connection between smart land use (smart growth) and foreclosure rates. The connection is between smart growth and the intensity of foreclosure losses. There is a big difference.

The thesis is not that smart growth impacted foreclosure rates. It is that the unprecedented house price increases that were fueled by smart growth resulted in an intensity of foreclosure losses that the market could not withstand. Just in the last year, the average median price per house loss in the coastal California markets was over $200,000. In Atlanta it was $24,000, in Dallas-Fort Worth under $4,000 and in Houston prices actually rose (http://www.demographia.com/db-usahs2008y.pdf). Thus, the median house price losses in coastal California were 8 times average Atlanta losses and 50 times average Dallas-Fort Worth losses. This is what we mean by intensity of the losses.

Had the losses in California, Florida, Washington, DC, Las Vegas and Phoenix been on the order of those in Atlanta, Dallas-Fort Worth and Houston (and other liberally regulated markets), the mortgage meltdown might well have been avoided. The difference could have been on the order of $5 trillion, as the references to the article indicate.

Best regards,
Wendell Cox

Article is light in factual support


Your response to Wes restates one of the more trival conclusions of your article: That some of the most expensive markets have gone down by the largest dollar amount as the bubble has burst. At the same time, you seem to be disowning what is repeated over and over in your essay that "smart growth" policies are responsible for many of society's ills.

Your use of the linked statistics in your response to Wendell indicates that you misunderstand the numbers. For example, the San Francisco/Oakland area includes areas with weak development controls (e.g. eastern Contra Costa County) as well as areas with stronger controls (San Francisco, San Mateo, Marin). Price trends througout the bubble have not been uniform throughout the referenced area. I would note that Southern/Central Marin County still have declined by a modest amount...though I am expecting much larger declines by the time this cycle is over. Same can be said for the best residential neighborhoods in San Francisco. In S.F., a lot of new condominium development has been constructed in the SOMA and that area is seeing some of the steepest value declines.

Areas with the least constraints on development (eastern CC County and certain other inland areas) have been hit very hard in the downturn. Over the past 1-2 years we have seen entire neighborhoods abandoned in some inland areas.

You noted that Riverside/San Bernardino area market was very bubbly. I'm not that familiar with that area but I notice that it is 50+ miles from the coast. It also appears to be located near the desert...I'm not convinced that constraints on growth were that stringent. Sacramento is another inland market that became very bubbly and is now being hit hard. Same for the Central Valley. A lot of housing units were built in these markets over the past 10 to 15 years. You don't address these markets in your essay or your response to Wendell.

Also, I was not aware that Las Vegas had strict growth controls. I believe Clark County has been one of the most rapidly growing areas of the country in recent years.

You may have facts and data to back-up the arguments in your article. Unfortunately you don't present them. Links would have been helpful.

You mention that certain areas with stringent development controls were unable to respond quickly to the demand for more housing and prices increased. In the long view, this might be considered a good thing as those areas were not left with a lot of homes with no one to live in them.

I realize that these comments do not provide a lot of linked references and are written very quickly. If I was writing an article for publication, more support would be required...I am composing this on my lunch hour and don't have time to do more. Nevertheless, it is disappointing to read an article published for general consumption by a university professor that, on the surface, seems to have an ideological axe to grind and is so lacking in factual, analytical, and rhetorical rigor.