THE LINK BETWEEN FORECLOSURES AND HOUSE PRICES
September 22, 2008
Rising foreclosures will not cause U.S. home values to plunge, despite widespread concerns to the contrary. That's the conclusion of a new study by the National Bureau of Economic Research (NBER). The effects of foreclosure shocks seem to be smaller than many have feared.
In fact, even under their most extreme scenario, in which foreclosure rates would substantially exceed current forecasts, the resulting average drop in home prices between the national peak in the second quarter of 2007 and the fourth quarter of 2009 would be less than 6 percent, predict the authors:
- Only 12 states are projected to see foreclosure-induced price declines of 6 percent or more through 2009, led by Nevada, Florida, California and Arizona.
- Part of the reason that foreclosure shocks have small effects on house prices is that these shocks tend to occur late in the housing cycle, after housing starts have declined and the supply of existing homes on the market has fallen sharply.
- These effects largely offset the price consequences of a supply surge caused by foreclosures.
- Another contributing factor to the observed stability of house prices is the measure of price change.
Using quarterly data for each state going back to 1981, they model the dynamic linkages among five variables -- foreclosures, home prices, employment, permits issued for single-family homes and existing home sales:
- However, they model must be adjusted for the assumed foreclosure forecasts for 2008-09 by 53 percent.
- To test the sensitivity of their results to even greater foreclosure risks, they also build an "extreme-shock" scenario and boost the foreclosure projections by 75 percent.
- These two scenarios create modest downdrafts in home prices that average 4.7 and 5.5 percent, respectively, through 2009.
Source: Charles Calomiris, Stanley Longhofer and William Miles, "The Foreclosure-House Price Nexus: Lessons from the 2007-2008 Housing Turmoil," National Bureau of Economic Research, September 2008.
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