February 27, 2012 7:44 pm
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Housing is the rotting core of the US recovery
Economic cheerleaders on Wall Street and in the White House are taking heart. The US has had three straight months of faster job growth. The number of Americans filing new claims for unemployment benefits is down by more than 50,000 since early January. Corporate profits are healthy. The S&P 500 on Friday closed at a post-financial crisis high. Has the American recovery finally entered the sweet, virtuous cycle in which more spending generates more jobs, more jobs make consumers more confident and the confidence creates more spending? On the surface it would appear so.
American consumers in recent months have let loose their pent-up demand for cars and appliances. Businesses have been replacing low inventories and worn equipment.
The richest 10 per cent, owners of approximately 90 per cent of the nation’s financial capital, have felt freer to splurge. Consumer confidence is at a one-year high, according to data released on Friday.
Yet the US economy has been down so long that it needs substantial growth to get back on track – far faster than the 2.2 to 2.7 per cent projected by the Fed for this year (a projection which itself is likely to be far too optimistic).
A strong recovery cannot rely on pent-up demand for replacements or on the spending of the richest 10 per cent. Consumer spending is 70 per cent of the US economy, so a buoyant recovery must involve the vast middle class.
But America’s middle class is still hobbled by net job losses and shrinking wages and benefits. Although the US population is much larger than it was 10 years ago, the total number of jobs today is no more than it was then. A significant portion of the working population has been sidelined – many for good. And the median wage continues to drop, when adjusted for inflation. On top of all that, rising fuel prices are squeezing home budgets even more.
Yet the biggest continuing problem for most Americans is their homes. Purchases of new homes are down 77 per cent from their 2005 peak.
They dropped another 0.9 per cent in January. Home sales overall are still dropping and prices are still falling – despite already being down by a third from their 2006 peak. January’s average sale price was $154,700, down from $162,210 in December.
Houses are the major assets of the middle class. Most Americans are therefore far poorer than they were six years ago. Almost one out of three homeowners with a mortgage is now “underwater”, owing more to the banks than their homes are worth on the market.
Optimists point to declining home inventories in relation to sales, but they are looking at an illusion. Those supposed inventories do not include about 5m housing units with delinquent mortgages or those in foreclosure, which will soon be added to the pile. Nor do they include approximately 3m housing units that stand vacant – foreclosed upon but not yet listed for sale, or vacant homes that owners have pulled off the market because they can’t get a decent price for them.
We are witnessing a fundamental change in the consciousness of Americans about their homes. Starting at the end of the second world war, houses were seen as safe investments because home values rose continuously. In the late 1960s and 1970s, baby boomers took out the largest mortgages they could afford, and watched their nest eggs grow into ostrich eggs. Homes morphed into ATMs, as Americans used them as collateral for additional loans. Most assumed their homes would become their retirement savings. When the time came, they would trade them in for a smaller unit and live off the capital gains.
The plunge in home values has changed all this. Young couples are no longer buying homes; they are renting because they are not confident they can get, or hold, jobs that will reliably allow them to pay a mortgage. Middle-aged couples are underwater or unable to sell their homes at prices that allow them to recover their initial investments. They cannot relocate to find employment. They cannot retire.
Under these circumstances it is not enough to rely on low interest rates and to make it easier for homeowners who have kept up with their mortgage payments to refinance their underwater homes, as the Obama administration has done. The government should also push to alter the federal bankruptcy law, so homeowners can use the protection of bankruptcy to reorganise their mortgage loans. (Few will do so, but the change would give homeowners more bargaining power to get lenders to voluntarily alter the terms.)
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A second possibility is for the Federal Housing Administration to take on a portion of a household’s mortgage debt in exchange for a share in the home, of the same proportion, when it is sold. Such debt-for-equity swaps could help homeowners struggling to keep up with mortgage payments, while not adding to the federal budget in future years when prices are expected to rise.
However, the negative wealth effect of home values, combined with declining wages, makes it highly unlikely the US will enjoy a robust recovery any time soon.
The writer is a professor of public policy at the University of California at Berkeley, and was US secretary of labour under President Bill Clinton
Copyright The Financial Times Limited 2012.
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