Priced Out Forever

Sunday, November 26, 2006
I had a conversation with someone the other day about housing. The person was describing to me why they wanted to buy a house. Part of the argument was that housing always goes up (which is wrong, and recent statistics bear that out) and that if they didn't buy now they would soon be priced out.

Now let's just look at the logic of that statement. There is little argument here that housing is quite expensive and out of the reach of many people. In the more popular areas in the country, house prices start in the 30oK - 400K range, which, by traditional measures, should require a six-figure income.

So if housing is that expensive, and housing always goes up, then logic would dictate that if you can barely afford it now, you better get in before its too late. But does that actually make any sense? Of course not. Just imagine what the world would be like if it were true.

Say that at some point housing becomes so expensive that all people who earn less than $50,000 (Slightly above the national Household average) are permanently priced out of the market and all people who can and want to buy have bought a house. Now someone who owns a starter home has a growing family and wants to move up, who do they sell the house to? By definition, they can't sell it to a family who is looking to own rather than rent. They can only sell to people who have previously owned a home. But people in general don't downgrade their home, so they have to sell to someone who is moving laterally (like someone moving into the city). So all that we get is stagnation, people just keep swapping houses, and nobody can move up because there is nobody below to sell to.

This of course implies that the supply of housing stays constant, which it isn't. It can be disproved by looking outside at all the cranes building high-rise condominiums or the construction crews putting up new housing tracts. I also highly doubt that home builders such as KB and Toll brothers plan on shutting their doors. New homes will be constructed, and these homes are going to have to be purchased by someone.

This is the key observation. All bubbles eventually end because supply catches up and surpasses demand. They don't end form a lack of demand. Builders willl see that there is an underserved market, this very large segment consisting of young middle class families, and cater to them by making affordable housing. It is next to impossible that you ever become "priced out forever" for an asset as common as housing.