Homeowners praying for house market crash


No, they aren't. But Evan Davis, the BBC economics editor, says maybe they should be:

If you are upwardly mobile and you own only one property you should want prices to go down, not up. I would happily sell my flat for 50p if I could then buy Buckingham Palace for five quid.

This, of course, is non-sense.

It is easy to see why. Think of an owner-occupier as having two identities: on one hand he is an investor, and on the other he is a tenant.

The investor always wants the value of her assets to go up: that way, she has more money to spend on the stuff she wants, including housing. If things go the other way, she has to cut down on her consumption or start working more - both unpleasant alternatives.

What about the tenant? Things here are the opposite. If house prices go up, rent prices follow and the tenant is left with less money after paying the rent. If prices go down, the tenant can now afford a bigger house, a new car, or frequent flights to the Carribean.

Economists use the term opportunity cost for what you are missing out when you decide to follow any given course of action. If the price of your home goes through the roof, the opportunity cost of living there does the same: you could rent it out to someone else, move somewhere smaller, and increase your consumption of everything else. In other words, your tenant self does not enjoy a free lunch when house prices go up, nor does he lose out when they go down: he effectively pays higher or lower rent - opportunity cost - to your investor self whenever the value of the property changes.

If you are a homeowner, your tenant self is in a sense indifferent if house prices go up or down: after all, he 'pays' - in terms of foregone consumption of other goods - exactly for what he gets. In contrast, the investor directly enjoys the rewards when prices are on the up, and feels the pain when they come tumbling down.

The point Evan is really making here is trivial: everyone is better off when the price of a good falls, as the same income can support higher consumption of the good in question, or of any other good for that matter. But I'd rather not have my wealth in gold the day it starts growing on trees.

While not strictly related to the above, I am sure you are aching to find out what I think about the current state of the housing market. I live in London, and despite the extremely generous tax treatment, I do not own my home. In my opinion, and you can disagree with me on this one, investing in London property currently pays an uncomfortably low risk premium. So, I prefer to invest my hard-won salary in other assets.

If house prices go up dramatically, I will grudgingly move to a smaller property - or get a job in investment banking. But if they crash, not only will I buy Evan's flat, but I will also make a point of beating him to Buckingham Palace - while still having enough money in the bank to hold a stately house-warming party.

1 comments:

  1. Dave Says:

    Doesn't matter. As Paul Krugman will tell you, the poor are getting screwed by sub-prime lenders anyway, and those lenders are going bankrupt, and the bond-holders of the lenders are swirling down the drain, and we're all going broke in the coming (or current) housing crash, anyway.

    It makes you wonder why Krugman even bothers to live in a house, let alone own one (or, more probably, more).