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The Housing Tipping Point. 3 Factors That Will Burst the Bubble: The Negative Wealth Effect, Negative Press, and Suffocating Debt Payments

Housing-Market / US Housing Jun 28, 2007 - 01:47 PM GMT

By: Dr_Housing_Bubble


As the Fed does an ostrich impression by sticking its head in the ground and pretending everything is okay, we are facing an economic tipping point ushered in via housing. The Fed has left the key interest rate steady once again. At this point, they are backed to a wall because lowering rates will signal that the economy is weak and needs additional help thus stunting consumer confidence. If they raise rates, they accelerate the bursting bubble because debt service on millions of American's mortgages will go higher thus taking money away from the national past time of mall shopping. We are quickly approaching a global tipping point.

Tipping points are interesting phenomenon because they occur rather instantly even though the build up may take numerous years. There is a certain point where multiple intersecting fields connect to push an idea, product, or opinion into another dimension. 3 of the many factors that will tip the housing market over the edge are the negative wealth effect, negative press, and suffocating debt payments.

Negative Wealth Effect

For the last seven years it is no shocker that all things real estate out performed nearly every investment vehicle. Home is where your heart and wallet is as the old adage goes. The wallet portion was an added amendment that the realtor groups added a few years ago. When people feel wealthy they spend and the economy spins on a kaleidoscope of happiness showing colors that only Teletubbies are familiar with. You beam with joy. Your credit card blisters with ecstasy. This is the American consumerist dream. We spend with no regard for the future. We've reached milestones in negative savings only rivaled to those during the Great Depression. The last 17 years have been great for this economy; we jumped from one bubble to another without missing a beat.

Yet the tide has turned. There is a moment in any bubble where people stop, think, and listen and hear their gut (yes your gut is fluent in English) and you realize that maybe you aren't as wealthy as you once thought you were. See, we've been indoctrinated to believe that everyone of us is worthy of being a millionaire. From the office assistant to the CEO, we all deserve to be unbelievably rich. Work? Investing? Those things are for losers who have patience and who can afford patience when my Blackberry is vibrating in my Diesel jeans.

The wealth effect works in two ways. It amplifies a good economic environment because people feel and are wealthier. No one spends exactly as much as their wealth is worth. If you feel rich, you won't fee so guilty taking that trip down to Cabo especially when you know your job is secure. However when the market reverses and heads south, you begin to tighten your belt and batten down the hatches. It is exponential on both sides. As housing is going down the economy will be vastly affected because this is the number one store of American's wealth. If they feel the number one investment they hold is losing money each year, they will restrain their spending. And this will happen by force because of the next topic, the suffocation of debt.

Suffocating Debt Payments

If your mortgage jumps from $1,500 a month to $2,000 a month that is $500 less you have from spending in the economy. But you argue that the bank now has this money. Well, in theory they do because they are also paying their debts to the government and skimming anything on margin. In addition most CEOs don't shop at Wal-Mart. This works perfectly when everyone is doing what they are suppose to be doing. But what happens if rates reset and people stop paying? Now that the bank attempts to unload a property and has suddenly become a landlord we now have a negative cash flow problem and negative cash flow is a flu in economics. It will spread. It is contagious. And the person that loses their home? Well as this market implodes on the credit orgy we've lived through many will have harder times accessing credit and most will not be able to purchase another home for many years. Thus the number of people in the market buying homes is decreased simply by eliminating those that are currently homeowners via ridiculous credit instruments. Plus market psychology will feed to the frenzy. In essence there is a purging of owners who shouldn't be owners. Yes, this goes against the American dream of everyone owning their own plot of land but face it, debt is not wealth and no amount of posturing can change that economic reality.

There is an interesting stat showing that credit card debt has increased drastically in the last few months. The logic follows that folks facing resetting mortgages are using their credit cards as a “carry over” to finance their current debt. So things look dandy even though they are heading down the merry road of debtors paradise (not to be confused with Coolio's Gangsta's Paradise otherwise known as a Real Home of Genius ). So we are running out of time on this credit time bomb and by the end of 2007 we will reach another tipping point; a point where money is worth a lot less and credit becomes more elusive. The outcome is a market where prices depreciate and folks feel poorer because they are paying for today's expenses with tomorrow's income.

Negative Press

I've talked about the $14,000 a year strawberry picker who was able to purchase a $720,000 home. Or what about the 102 year old man getting a 25 year mortgage? And we also have the story of a 29 year old graduate student who was able to buy a $600,000 home with a $20,000 a year income. Even the Los Angeles Times had a cover story about a sheriff deputy who is evicting people in the Inland Empire this weekend. The press is now anti housing if you haven't noticed. Once relegated to the blogsphere world and tin hat wearing neg-heads, being anti-housing is now in vogue. Not that it is in fashion, but being financially irresponsible for so many years has repercussions. The press is now finally understanding that a $500,000 500 square foot box may be a tad bit over priced in a neighborhood where people earn $45,000 a year. This obvious logic is now tipping the mainstream public into accelerating the bursting of the bubble.

Yet we have summer. This is the last time before housing agents and brokers will be turning tricks for cash. Last summer I was receiving wonderful glossy invitations from ReMAX, Century 21, Prudential, and other well known franchise brokers to join their team; I am still a card holding agent although from my rhetoric you can tell that I am no longer in the industry. Fast forward to 2007 and those glossy expensive invitations have turned into Xeroxed copies that mirror frat parties in college. “ Make bank with Joe Schmoe Mortgage ” as a model points to you eluding that if you switch over, you'll get chicks and cash. Stellar marketing. Too bad this was done on pink florescent paper otherwise me and Joe would be selling no-doc suicide loans to the public. Brokers and agents that wouldn't give me the time of day last year suddenly send me hand written letters of appreciation trying to win my business. Hand written means one thing, more time on your hands.

The thing is, many in the California real estate industry have prospered amazingly from this real estate bubble. Many had high incomes but are not wealthy. See, many in the industry are financially naïve and have invested little of what they earned. They are like Mike Tyson squandering $200,000,000 because when times are good why save? It is a matter of personality I suppose but those folks that grew up in the Depression have habits such as making food last, reusing certain household items, and even SAVING. I heard a lightening bolt strike outside my office because it almost seems like blasphemy this concept of spending within your limits. We are at a tipping point and by 2008 we will be fully engaged in a bursting housing bubble and all the consequences associated with it. 30% of all added jobs in the last seven years have some association to real estate. So what do you suppose this means for our economy?

By Dr. Housing Bubble

Author of Real Homes of Genius and How I Learned to Love Southern California and Forget the Housing Bubble

Dr. Housing Bubble Archive

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