Uncertainty over end of fall in house prices

IN the past week several publications have emerged which indicate that far from the house price crash reaching the bottom it appears, at least if you believe daft.ie, to be accelerating.

Daft.ie suggests that the asking prices for houses are now 52% below the peak, showing an 18% fall in 2011. Myhome.ie, owned by The Irish Times, is a little less apocalyptic, suggesting a 43% fall.

The CSO, and Alsop Properties, basing their data to November on paid prices, suggest that the declines are 46% and 67% respectively.

Part of the difficulty in interpreting exactly where we are is that the indices used are based on different constructions. For example, the Allsop data reflects distressed properties at auction, while the CSO data represents purchases based on mortgages.

Coming off the report noted above, the consensus is that far from the market reaching the bottom in 2012, house prices will continue to decline into next year.

One commentator has suggested that the average house price fall from peak could be as high as 90%. But this is even gloomier, and founded in decent analysis, than the proposal by Morgan Kelly that we could see price drops of up to 80%.

There is a proposal that in June 2012 we will, if all goes to plan, finally see an official government house price index based on settlement prices. To say that this is long overdue is akin to saying the Titanic had a slight damp problem.

It is arguable that a large part of the crisis which we are in now is down to people not knowing where we were, how we got here, and therefore not being able to make an intelligent prediction about where we will likely go.

The absence of a decent timely official house price index contributed in large part to this. However, as I understand it, the initial publication of this will only be back to 2010. While there will be data available back to 2001, it appears as though this will not be published at least not initially. Why this is so is baffling.

Part of the difficulty in relation to ascertaining when we will see the bottoming out of the market is that the dynamics, both statistical and psychological, of turning points are not particularly well understood. There is a reasonably large body of research on the dynamics of house price booms. It is a pity that more cognisance was not taken of these reports by the relevant authorities, and by commentators, including myself.

However, in Ireland we tend not to engage in that foreign continental vice of evidence-based policy making, and therefore one can’t but wonder as to whether or not any amount of analytical evidence into 2004-2007 period would have made the blindest bit of difference to government policy.

The consensus in academia is that there are three major elements of house price booms.

First, these tend to be self-perpetuating — house prices in one period leads to expectations being formed of house prices rising in the next.

Second, and this is particularly case in Ireland, the credit conditions are important, with some evidence suggesting that credit laxity can fuel house price booms.

Third, the general economic conditions are important, including in particular the conditions and rental market and the overall health of the economy.

If we consider all of these we cannot come up with the conclusion other than that house prices will continue to fall through 2012.

Daft.ie has noted on a number of occasions that falling house prices are not necessarily a bad thing, if they get house prices back to where they should be based on fundamental economic conditions.

I agree, but Daft has also noted that the very self-fulfilling nature of booms also operates for crashes. Expectations of falling house prices will feed into falling house prices, and in the Irish context this is going to be exacerbated by the aggressive deleveraging of banks in general and in particular in relation to mortgage credit.

Outstanding mortgage credit to Irish households is now only 62% of what was at peak, and has continued to decline by 2% to 3% per month. There is no reason to expect that in the near future this will change. The evidence is that the longer the boom not only the more severe but also the longer the crash. There is relatively little research on the macroeconomics determinants associated with house price crashes, and such research that does exist seems counterintuitive.

However, much research remains to be done on house price crash dynamics, as opposed to house price boom dynamics. A valuable investment by a mortgage lender would be a couple of postdoctoral researchers focused on this area.

*Brian M Lucey is Professor of Finance, School of Business Studies, Trinity College Dublin