Prices About to Plunge? Not Right Away, Economist Says

After a six-month-long frenzy of home buying and building, some economists worry that the bubble is about to burst and home prices about to deflate. Mark Zandi of Regional Financial Associations is not among them.

"The concerns of a bubble are overblown," Mr. Zandi said in an interview from his West Chester, Pa., office. But he acknowledged, "There is good reason for concern, because the potential of a bubble developing has not been as high since the late 1980s."

In a recent paper, Mr. Zandi looked for two signs of a bubble - overbuilding of new homes and speculative home buying - and concluded that neither exists now.

"A bubble would tend to exist if builders were putting up homes more quickly than buyers would tend to purchase them," he explained.

Indeed home building is very strong. In June, the most recent month for which data are available, builders started homes at the seasonally adjusted annual rate of 1.62 million units-a gain of almost 6% from May.

But demand is even stronger. The robust economy has led to more households being formed, and they in turn have decided to buy homes instead of rent, Mr. Zandi said. More than 1.3 million households have been formed on average each year over the past three years-the highest average rate in nearly a generation, he writes.

Nationally, the supply of new homes through the first quarter-1.8 million-was exceeded by the demand, which equaled 1.9 million units.

The second sign of a bubble would be if consumers were buying homes simply because they expect prices to rise, as happened in California and the Northeast in the late 1980s.

But Mr. Zandi found that home price appreciation in most parts of the country was consistent with the increasing value of goods and services produced there.

"We are hard-pressed to find any area where housing values are well above what we would expect," he said. "They are about where we would expect them to be, given the condition of the underlying economy."

Still, as the economy slows over the next six to 12 months, a bubble could develop unless builders can quickly rein in home building and home price appreciation slows down, Mr. Zandi said.

Historically, builders have found it difficult to match slowing demand by cutting back on their building. That is in part because they expect any slowdown to be temporary and, armed with construction dollars, they are reluctant not to build, Mr. Zandi said.

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