There is no claim that is made more often and with greater zeal in the US financial media than that the rapid rise in the housing prices is due to the basic Demand for housing (a place to live) exceeding the Supply in the recent years, especially, at the present. A July 28, 2005 article in Wall Street Journal by Neil Barsky, What Housing Bubble?, created lot of stir among those who do see all the signs of a Housing Bubble in the US. Here is Mr. Barsky’s basic claim:

“According to Census data, over the past 10 years, housing permits have averaged about 1.63 million units per year -- including multifamily units.

Household formation has averaged 1.49 million families per year. Roughly 6% of the new home sales (.06x1.63million = 100,000) were for second homes (I have seen estimates that the number is actually twice as high), according to UBS. Approximately 360,000 units every year were torn down. When the latter two numbers are taken into account (100,000 + 360,000 = 460,000), the real number of new homes is closer to 1.2 million (1.63 million minus .46 million), or 19% (1.49 million less 1.2 million, divided by 1.49 million) fewer than the average number of new households formed each year.”

One would think that someone at WSJ, or anyone else in any media for that matter, would bother to check the facts, especially that Mr. Barsky gives his source, US Census Bureau. Well, I did check the facts and the results are tabulated below. First and foremost, we know the current rate of new permits; so, why bother about using a 10-year average when the new housing construction activity level in the second half of 1990s was almost half, or even lower, than the current level, especially, in California. Therefore, you can see a fundamental misrepresentation of the Supply by Mr. Barsky. Do you think that it is unintentional? (Mr. Barsky is heavily invested in housing). The Census Bureau takes into account teardowns, because a house torn down and rebuilt is not two “housing units.” Most importantly, there aren’t too many interpretations of Vacant Housing Units. If the number of Vacant Housing Units is increasing then the Supply is exceeding the Demand.

No?

Table 1: Supply-Demand for the Past SIX MONTHS Ending 2005Q2
(all data in round numbers to 50,000)

The most important thing to note in Table 1 is that the Owner Occupied Housing has gone down substantially. Yes, many former owners are glad to sell at the recent high prices and rent from rapidly increasing purchases by “investors.” Also, the Demand seems to be shrinking due to extremely high prices, as one would rationally expect. Believe it or not, even in America quite a few households share a housing unit; it is especially true of the fastest growing population of Hispanics. One phenomenon that might be taking place, due to very high prices, is that unmarried couples who were living separately have decided to move into one house. When housing becomes unaffordable it does change the behavior of some. That is if you believe that incentives play a role in economics.

Since data for six months is not as reliable as for a longer duration, I have looked at the past three years, a good representation for the current housing climate, which many think is a bubble.

Table 2: Supply-Demand for the Past THREE YEARS Ending 2005Q2 
(all data in round numbers to 100,000)

From Tables 1 and 2 it becomes evident that for the 30 months up to 2004Q4 the Owner Occupied Housing, or homeownership rate, was rising, not smoothly but steadily. Fig. 1 shows the trend.

We have pretty good idea of the new permits as well as the pipeline for new homes, i.e., Supply, for the next two years. Also, the Demand trend is not going to change much. Therefore, we can make reasonable estimates for both and see how much greater the Supply is in relation to the Demand is and going to be.

Table 3: ESTIMATED Supply-Demand for the NEXT TWO YEARS Ending 2007Q2 

By combining Tables 2 and 3 we can get a five year picture ending in 2007Q2 and what we see is a disastrous imbalance between the Supply and Demand.

Table 4: ESTIMATED Supply-Demand for the NEXT FIVE YEARS Ending 2007Q2 

There never was a Demand-driven need for the new Supply. It was strictly a low-interest rate and loose lending standards driven rise in prices that drew in speculators beginning in 2003-4. For the past three years 1/3rd of the new units added are lying vacant and in the past six months 2/3rd of the new units added are lying vacant. At some point the reality of the Supply and the Demand for housing (as in living in a house and not speculating) will assert itself and all the speculative buyers will have hell to pay.

As to Mr. Barsky’s claim of purchases of second homes, anyone who is borrowing 80-100% to buy a second home at the current prices is courting disaster. Mr. Barsky’s article is a perfect example of self-serving propaganda that is the norm in the US financial media including the WSJ.