The Capital Note — About Home Prices

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Welcome to the Capital Note, a newsletter about business, finance, and economics. On the menu today: home prices, Starlink, Arizona’s flatter taxes, and antitrust. To sign up for the Capital Note, follow this link.

News and Views

Raising (the cost of) the Roof
Well . . .


Home prices in April saw an annual gain of 14.6% in April, up from a 13.3% increase in March, according to the S&P CoreLogic Case-Shiller National Home Price Index.

Among larger cities covered by the index, the 10-city composite was up 14.4% year over year, from 12.9% the previous month. The 20-city composite was 14.9% higher, up from 13.4% in March.

Phoenix, San Diego and Seattle reported the highest year-over-year gains. All were up more than 20% from the year before.

“April’s performance was truly extraordinary. The 14.6% gain in the National Composite is literally the highest reading in more than 30 years of S&P CoreLogic Case-Shiller data,” said Craig Lazzara, managing director and global head of index investment strategy at S&P Dow Jones Indices.

What’s driving this? (Note the strong FHFA number, too.) A mix of factors, not least ultra-low interest rates.

The Financial Times:

US home prices surged last year as Americans took advantage of record-low mortgage rates to snap up houses in the suburbs. That demand, combined with a tight supply of homes, drove up prices to record levels. That was further exacerbated earlier this year by a sharp rise in lumber costs.

The “suburban” story is familiar enough (and it is about more than the impact of working from home), but the Wall Street Journal takes the latter angle further (in the most literal sense), looking at the exurbs, the next level out, if you like:

A shift to the exurbs started years before the pandemic hit, according to data from the Brookings Institution, and the population of these more-remote places continued to swell with more white-collar workers even as the pandemic weakened. Why? These regions allow employees to be within commuting distance of cities as many firms ask workers to be back in the office for at least part of the work week. U.S. Postal Service data showed that between March and November of last year, 72% of those who filed for address changes in the Bay Area only moved as far as another Bay Area county.

My guess, for the most part, is that the shift to remote working will, over time, be less dramatic than some now imagine. Human nature is what it is, and people, certainly ambitious people, will want to be where the action is — at the office. And, for the most part, that’s where employers will still want their staff to be too, and generally from Monday to Friday.


The pandemic has created a once-in-a-generation buying opportunity for investors willing to bet on the long-term prospects of workers returning to the hearts of global cities.

That’s the view of real estate titans including Tishman Speyer Properties President Rob Speyer and Brookfield Asset Management Inc. Chief Executive Officer Bruce Flatt, who have invested billions snapping up discounted offices and other commercial buildings since the start of the pandemic.

On the other hand, it’s not impossible that a more significant long-term shift will not be that from the city to the suburbs/exurbs, but from “global” cities to other cheaper cities, as, thanks to technology, the importance of being in a traditional “hub” city shrinks. Workers will still go to the office five days a week, but the office itself will have moved. That is not the most original of thoughts, but I was reminded of it (again) by this, also from Bloomberg:

Goldman Sachs Group Inc. is on the hunt for a new office campus in Dallas that could become the Wall Street bank’s largest presence in the U.S. outside of its Manhattan headquarters.

Executives are in advanced talks with developers as the firm scouts for expanded space in North Texas, a region known for steakhouses, luxury retail and low taxes. The move could boost Goldman’s presence there to rival an older outpost in Jersey City, where the bank’s tower looms over much of the local skyline — and even supplant it in time, according to people with knowledge of the situation . . .

Those familiar with Michael Lewis’s Liar’s Poker may smile at that:

“Equities in Dallas became training program shorthand for ‘Just bury that lowest form of human scum where it will never be seen again”.

To be sure, equity sales was not where you wanted to be working at Lewis’s former employer (which wasn’t Goldman, by the way) at that time, but this mattered too:

“Dallas was, well, a long way from New York.”

Now look at this report from William Emmons at the St. Louis Fed:

The U.S. housing bubble that peaked about 15 years ago was most pronounced in coastal regions (which I define as those with Pacific or Atlantic shorelines). Among the nation’s nine census divisions, three of the four with average house price-to-rent ratios above the national average at their respective peaks in 2005-07, the period that marked the peak of the housing boom, were located along the Pacific or Atlantic coasts: the Pacific, South Atlantic and New England divisions.1 Among inland divisions, only the Mountain states experienced above-average house price-to-rent ratios, a measure of housing valuation, at that time.

In the current housing boom, three of the five divisions with average housing valuations above the national average are inland—namely, the Mountain, West North Central and West South Central divisions. Even more striking, average housing valuations in all five inland divisions are higher now relative to the national average than they were at the peak of the previous housing boom. Conversely, average housing valuations in all four coastal divisions are lower now relative to the national average than they were at the previous boom’s peak. Thus, compared to last time, the housing boom has moved inland.

Emmons concludes as follows:

The regional pattern of the current housing boom differs notably from the boom that peaked 15 years ago. Housing valuations in inland regions of the country have increased more than valuations in coastal census divisions, exceeding their peaks in the 2005-07 period. If housing markets in coastal regions join their counterparts inland in appreciating rapidly, the current housing boom could substantially exceed what was, at the time, considered a historic housing bubble.

Ah yes, the b-word . . .

Writing for CNN, Mark Zandi argues that we are not yet in a bubble, citing various reasons unrelated to speculative pressure to explain home-price increases, but also mentioning that flippers — a telling symptom of a bubble that is under way — are still relatively scarce on the ground. That may be true, although, rummaging through the anecdata, other symptoms are beginning to appear.

Meanwhile, Zandi himself mentions that

stress lines are beginning to show in the housing market. Home prices have risen so far, so fast, that they have become overvalued. Nationwide, house prices appear overvalued by approximately 10% to 15% when comparing price-to-income or price-to-rent ratios with their long-run historical averages, according to my analysis. Some markets, mostly in the South and West, are seriously overvalued — by more than 20%.

Overvalued housing markets are vulnerable to a meaningful price correction as mortgage rates eventually rise. And they will.

Arguing that an increase in mortgage rates will dent the market is a reasonable assumption, but there are several questions that follow on from it. By how much will rates have to rise to make a difference?  By quite a bit, I reckon, given pent-up demand, a recovering economy, and my somewhat bleak thoughts about inflation, especially if people look at real (post-inflation) rates. And is it likely, to the degree that it can control them, that the Fed would “let” interest rates rise to the extent necessary given the amount of debt that the U.S. has piled up?

Nevertheless, it is true that there are some reasons to think that the pace of the current run-up in housing prices may ease (somewhat) at least for now.

From the Financial Times:

There are some signs that housing inventory is starting to grow. The US commerce department last week said the supply of new homes for sale rose by 15,000 in May to 330,000, up 5.8 per cent from a year ago. That represented 5.1 months’ supply at the current sales pace, up from 3.6 months in January.

But the effect of this should not be overestimated (via the FT):

“Inventory upticks in recent weeks suggest that a respite from these red-hot market conditions may be starting to form,” said Matthew Speakman, economist at Zillow. “But a return to a balanced market remains a long way off, and there are few, if any, signs that home-price appreciation will start to subside anytime soon.”

That said, there may be some signs of sticker shock.

The New York Times (from a week or so ago):

Sales of homes in the United States fell for the fourth consecutive month in May as a sharp rise in prices and a shortage of houses for sale led to a slowdown in the market.

Existing home sales fell 0.9 percent in May from April, the National Association of Realtors said Tuesday, with the median sales price climbing nearly 24 percent from a year earlier to a record $350,300.

But again, note that reference to inventory. The phasing out of the foreclosure moratorium and of forbearance on government-backed mortgage payments will start increasing the number of homes for sale (and, typically, such distress sales, would, as Zandi observes, tend to weigh on pricing), but won’t do anything to remedy an underlying housing shortage.

To return to Derek Thompson’s article in The Atlantic that I cited in a Capital Note last week:

Where the hell are all the houses? A ton of people want to own new homes right now—including the largest crop of 30-somethings in American history. But single-family-home construction is in a rut, having fallen in the 2010s to its lowest levels in 60 years. The pandemic threw a few extra wrenches into home construction that will hopefully resolve themselves in the near future.

Far worse than corporations taking a few thousand units off the market for owners are the governments and noisy NIMBYish residents taking millions of units off the market for owners and renters alike—by blocking construction projects in the past few decades. (California alone has an estimated shortage of 3 million housing units.) From New York to California, deep-blue cities and states have amassed a pitiful record of blocking housing construction and failing to meet rising demand with adequate supply.

Real estate is always said to be about location, location, location. Don’t overlook regulation, regulation, regulation.

In that earlier Capital Note, I quoted from an article (published in January 2020) by the NAHB’s (the National Association of Homebuilders) chief economist, Robert Dietz (my emphasis added):

Access to land and lots for building has also limited aggregate building volume since 2012. As of 2019, almost six out of ten home builders indicated that lot supplies were low or very low. Low lot supplies are due to a reduced number of land development companies, as well as tighter rules regarding zoning for housing and land development . . .

Regulatory burdens have increased during the 2010s. NAHB analysis finds that 24% of the price of a typical newly-built single-family home is due to the broad set of regulatory burdens imposed by state, local and federal governments. Moreover, between 2011 and 2016, such costs increased by 29%, faster than inflation and economic growth. Such burdens are high for apartment construction as well, as a joint study by NAHB and National Multifamily Housing Council found that 32% of apartment costs are due to regulatory costs.

Is that going to change anytime soon? I doubt it.

Meanwhile, some in the Fed are beginning to worry.

The Financial Times:

A senior Federal Reserve official has warned the US cannot afford a “boom and bust cycle” in the housing market that would threaten financial stability, in a sign of growing concern over rising property prices at the central bank.

“It’s very important for us to get back to our 2 per cent inflation target but the goal is for that to be sustainable,” Eric Rosengren, the president of the Boston Fed, told the Financial Times. “And for that to be sustainable, we can’t have a boom and bust cycle in something like real estate . . .

The Fed has been purchasing $40bn in agency mortgage-backed securities per month alongside $80bn in monthly Treasury debt as part of its asset purchase programme.

Fed officials are now beginning to discuss trimming that bond buying. And Rosengren said that “when it is appropriate” to begin that process, mortgage-backed securities purchases should be reduced at the same rate as Treasury purchases. That would mean the direct support to housing finance would wind down more quickly.

“That would imply that we would stop purchasing MBS well before we stopped purchasing Treasury securities,” he said.

James Bullard, president of the St Louis Fed, is among those who have called for the Fed to re-evaluate its support for the housing market against the backdrop of what he noted were broader concerns about a nascent bubble.

Robert Kaplan, Dallas Fed president, has also advocated for the purchases to end “sooner rather than later”, especially given mounting evidence of financial speculation in the housing market . . .

I’m not sure how much difference the absence of Fed support for MBS would, in isolation, make. What will matter more is the central bank’s broader intervention in the markets, something that may prove very tricky to scale back.

And then there’s the i-word.

The Financial Times:

Tuesday’s home price numbers would also influence broader inflation data, said James Knightley, chief international economist at ING. Primary rent paid by tenants, as well as owners’ equivalent rent — how much owners assess they would charge if they were to rent out their homes — accounted for a third of the basket of goods used to calculate the consumer price index, he said.

“Assuming the relationship holds we should expect the housing components to swing significantly higher in the months ahead,” he said.

While what’s happening to housing prices is, in part, a manifestation of the asset-price inflation caused by ultra-low interest rates, its effect both on wider inflation and (this matters because of the way that inflation feeds upon itself) longer-term expectations of inflation should not be underestimated. I doubt if many people are currently buying real estate either as a general inflation hedge or because their anticipation of future house-price inflation is causing them to pay more now for a roof over their head, but that could change quickly. Pessimists, particularly those focused on the amount of money that has been created (and is still being created), will already be looking at the way that housing acted as a store of value during the 1970s, a time when not much else seemed to do the trick.

Net, net, I have a feeling that, even if there are bumps along the way, rising housing prices may be more than — to use that fashionable adjective — “transitory.”

Around the Web

Via Reuters:

BARCELONA, June 29 (Reuters) – Billionaire entrepreneur Elon Musk said on Tuesday that his Starlink venture was growing quickly as he forecast total investment costs in the satellite internet business at between $20 billion and $30 billion.

The Tesla Inc (TSLA.O) CEO and founder of SpaceX, a rocket ship venture that seeks to colonize Mars, said up-front investment costs before Starlink achieves substantial positive cash flow would be $5-$10 billion.

“It’s a lot, basically,” Musk said in a video interview from California with the Mobile World Congress, the telecoms industry’s largest annual gathering that is being held in Barcelona.

Starlink, an array of low-orbit satellites offering high-speed connectivity for people living in remote areas, is already offering a trial service and says it aims for near-global coverage of the populated world this year . . .

“It’s a lot, basically.”

Ducey’s Flat(ish) Tax

The Wall Street Journal:

This week Arizona Gov. Doug Ducey will sign a 2.5% flat tax, a moment that will define his legacy. The bill’s passage was worth the political drama and will go far to maintain Arizona’s competitiveness.

Arizona currently taxes income under a progressive rate structure, starting at 2.59% up to 4.5%. The ballot last November carried an initiative to add a 3.5% surtax on earnings above $250,000 for single filers. It narrowly passed, meaning the combined top rate was set to hit 8%, higher than all of Arizona’s neighbors except California. Nevada and Texas have no income tax.

Mr. Ducey’s budget will cut rates for all taxpayers. The Legislature can’t repeal the voter-approved surtax, so above the 2.5% flat rate, there will still be a second bracket on income over $250,000. But the budget also has a provision adjusting the flat tax downward for those Arizonans, so no one will pay a top rate above 4.5%. That’s the same as today.

Republicans control the Legislature by two seats in each chamber, so a single GOP defector could block the bill. The House split 30-30 on an earlier version of the budget, with one Republican voting no and arguing that the state should pay down more debt. A second attempt to pass the flat tax failed when Democrats decided not to show up, leaving the House without an in-person quorum, since some GOP lawmakers planned to dial in remotely.

The bill eventually passed the House last Thursday, after tweaks that won over the GOP holdouts. No Arizonan will have to pay the threatened 8% rate, since the provisions forestalling it are immediate. The 2.5% flat tax will be phased in by 2024, provided state revenue stays strong. Cities, which receive a cut of income-tax proceeds, will get 18% instead of the current 15% . . .

On June 6, we published an article by the Goldwater Institute’s Victor Riches giving some of the background.

Riches concluded:

Today, with a $4 billion surplus to work with, Governor Ducey and the legislature have a once-in-a-lifetime opportunity to use that money to benefit all Arizonans — by eliminating three of the four tax brackets, providing residents with a simple, low 2.5 percent income-tax rate. This would return Arizona to its historical position as one of the lowest-tax states in the country.

This would be a huge victory and would make Arizona’s income-tax rate the lowest of the “flat tax” states. It would also lay down significant groundwork in the quest to ultimately eliminate the state’s burdensome income tax altogether. Many of us have been working toward this goal for several years, only to see our efforts thwarted by timidity and the unforgiving tide of politics. Fortunately, Governor Ducey supports the 2.5 percent flat-tax proposal and recognizes that Arizona now stands at a crossroads — a slightly center–right, purple state — whose ultimate red or blue hue will be determined by the choices made by policy-makers today.

By dramatically decreasing the state’s income tax and simplifying its tax code, the governor would help ensure Arizona’s future ideological and economic success. And in doing so, make history himself — in more ways than one.

Random Walk
From a not altogether unmixed review of Amy Klobuchar’s new book on antitrust via Law & Liberty by Asheesh Agarwal:

Klobuchar blames a failure of antitrust law for “too much business consolidation in this country.” Klobuchar, an attorney and alumnus of the University of Chicago Law School, excoriates what is now known as the “Chicago school” of antitrust thinking, which focuses on economic efficiency and consumer welfare, rather than on the number and size of competitors in a particular market. In Klobuchar’s telling, the Chicago school and its chief proponent, Robert Bork, “grossly perverted the whole history of the Sherman Act, which was to protect American farmers and workers and consumers from the power of monopolists.” She describes Bork’s consumer welfare standard as “bizarre.” In her view, the Chicago school’s failure to promote competition has led to high cable rates, airline fares, drug prices, seed and fertilizer costs, and income disparities . . .

Klobuchar makes some fair points about antitrust law. She is right that the authors of the Clayton Act, an early companion to the Sherman Act, wanted to protect small companies and forestall economic concentration, and that antitrust law today does not concern itself with these issues. Unfortunately, Klobuchar does not explain why the courts, with more than a century of experience, eventually found it both impossible and unwise to punish companies based on their size and profit margins. Such criteria proved unworkable and harmful; indeed in the 1960s, LBJ’s antitrust chief, Donald Turner, warned against using the antitrust laws to attack bigness per se.

Klobuchar also makes some claims that are demonstrably false, if not outright troubling. She wrongly asserts that the consumer welfare standard ignores prices paid by actual consumers, when in fact today antitrust concerns itself first and foremost with the possibility of price hikes, along with non-price competitive factors such as quality. She also repeatedly attacks the courts in ways that some may find concerning coming from a member of the august Senate Judiciary Committee. “[T]he extreme views of Gorsuch and Kavanaugh on antitrust issues were one of the many reasons why I fought so hard to keep them off the Court.” Socialist leader Eugene Debs “had good reason to believe that the courts were carrying the water for big business.” Et cetera . . .

 — A.S.

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