December 3, 2008 (Housing Market Monitor)

House Prices Continue to Fall Most Rapidly at the Bottom

December 3, 2008

By Dean Baker

The limited fall-off in mortgage applications contradicts the credit crunch stories.

The collapse of the housing bubble has affected virtually all categories of housing in every part of the country, but the bottom third of the market continues to be hardest hit. This is not surprising since this is the segment of the market in which adjustable rate mortgages where most highly concentrated, and therefore has been hit hardest by resets.

The September Case-Shiller data indicate that house prices are now falling rapidly in this segment of the market in several former bubble markets. Prices for houses in the bottom third of the market in Phoenix fell by 4.5 percent in September and are down at a 44.3 percent annual rate over the last year. In Los Angeles, prices in the bottom tier fell 2.7 percent in September and have fallen at a 30.1 percent rate over the last year. In Miami, prices fell 5.5 percent in September and have fallen at a 44.4 percent annual rate over the last year.

In San Francisco, the price drop in September was 3.1 percent, with prices dropping at a 38.9 percent annual rate over the last quarter. In Washington, D.C., prices dropped 4.2 percent in September and have fallen at a 32.8 percent rate over the last quarter.

It is important to remember the extent to which these data are dated by the time they are released. A home that was sold in the middle of September was most likely put under contract in July. If the rate of price decline shown in these data has persisted, then prices are already well below the levels indicated. Furthermore, insofar as there was a sharp economic plunge beginning in September, as indicated in other data, this is not yet reflected in these price indexes.

The one item that is most encouraging in these data is the evidence that prices may be stabilizing in the most depressed markets. Cleveland stands out in this respect. After seeing a sharp drop in 2007 from prices that had never been very inflated, prices appear to have leveled off this year. The September level is 1.2 percent above the January level. The prices for houses in the bottom tier had fallen sharply earlier in the year, but are now just 2.3 percent below their January level.

This suggests that speculators are likely moving into the market and shoring up prices. If this happens in other markets, then it would prevent the sort of downward spiral in house prices that would devastate the housing market and the economy. However, it is important to keep in mind that the Cleveland sample in the Case-Shiller index is quite small and, therefore, the margin of error on these numbers is quite large. The evidence from Cleveland is encouraging, but we will need more data before we can assume that a downward price spiral can be prevented without more direct intervention.

The Mortgage Bankers Association’s weekly applications index showed sharp jumps for both refinance and purchase mortgages last week. The refinance index rose by 203.3 percent, while the purchase index rose by 38.0 percent as borrowers took advantage of 0.52 percentage point drop in the 30-year mortgage rate. It is worth noting that the purchase index is still at a very low level.

Again, it is important to keep in mind that this index measures applications, not mortgages. If the credit crunch stories were true then we should expect to be seeing an explosion in the application-to-mortgage ratio, as creditworthy borrowers have to go from bank to bank until they find one that will issue a mortgage. While this ratio is undoubtedly higher than it was a year ago, other data on house sales are not consistent with the sort of credit crunch stories circulated in the media.

The decline in mortgage applications is generally consistent with the reduction in house sales. In other words, there is little reason to believe that creditworthy borrowers are having difficulty getting mortgages. 

Dean Baker is Co-Director of the Center for Economic and Policy Research, in Washington, D.C. CEPR's Housing Market Monitor is published weekly and provides an incisive breakdown of the latest indicators and developments in the housing sector.