Home Ownership and Markets
PART TWO

Edward J. Dodson

A crucial challenge for policy analysts today is to identify within the aggregate statistics available general trends and tendencies that are strong indicators of near-term upturns and downturns, then make policy recommendations that either maximize opportunities or mitigate harmful effects. In doing this, however, one must examine not only economic markets but also how important socio-political factors impact those markets. A thorough analysis of housing requires, as indicated earlier, looking at the four sub-markets for land, labor, capital goods and credit. Among the socio-political factors involved are population demographics, wealth and income distributions, laws applied to property and taxation, and what might be called tradition.

THE LAND MARKET

At the base of housing is the land market. Land has two primary characteristics unique to its role. The supply of land is, in a pure sense, fixed by nature; moreover, land (or, more precisely, a location) lacks mobility. Generally speaking, as population in a given area increases so will the demand for locations -- with the result that the price commanded by those who hold title or otherwise control access also tends to rise. Just how fast or continuously location prices will rise also depends not only on the basic principles touched on above, but also by what economists would call externalities, dynamics that cannot be easily forecasted or accounted for. In the U.S. from 1946 to 1960, during the period of expanding government intervention in the housing sector, the demand for housing was stimulated by a steadily growing pool of potential home buyers. This contributed to a gradual rise in land prices of roughly 200 percent.[8] In some regional markets the increase was even higher.

An objective analysis of the market dynamics affecting locations also requires that one recognize that every society imposes artificial constraints on the land market. A considerable quantity of land normally remains in the public domain and out of the competitive private sector markets, although some publicly-controlled land is leased to private users under various arrangements. The privately-operated land market is also affected by the degree of special protections or privileges established within the systems of property rights and taxation as they are applied to land ownership. Where a high degree of privilege exists, one would expect to see very large land holdings, periods of rapidly rising and falling land values and considerable speculation. This, in fact, has been the experience in the United States even as early as colonial times when most of the North American continent remained beyond the frontier.

The chief form of privilege granted to owners of large land holdings is low annual imposition of taxes by government. A low annual tax on land both permits and encourages underutilization and speculative hoarding of locations (as well as lands laden with natural resources) from the market without economic penalty. Such hoarding outside of urban centers takes the form of landed estates covering dozens, hundreds or even thousands of acres held off the market and often creating an artificial shortage of land for the development of housing for others. Large title holders to landed estates are rather successful in convincing elected public officials to protect the rural character of these areas by imposing very low density zoning requirements on development. In regions dominated by wealthy title holders, the minimum acreage required for the construction of a house may be five, ten or even twenty acres. This results not only in a very exclusive and privileged lifestyle for those who have the financial reserves to purchase this much land, but the pressure on other communities to develop at very high densities is intensified.

The greater the protection of privilege for title holders, the more likely it is that land will be held for long-term, speculative appreciation (or merely hoarded for personal aggrandizement. A secondary consequence is that with a significant percentage of a finite good land held off the market, the price of that which remains available escalates faster and climbs higher and higher. As price is considered by economists and policy analysts as the clearing mechanism by which an equilibrium is established between supply and demand, any artificial constraint (or disincentive inherent in public policy) on title holders to bring idle land to market will tend to push up prices. In fact, what the economics textbooks tell us is that the supply of land is inelastic; that is, there is virtually no relationship between the price offered and the supply of land brought to market at least not under the set of laws and public policies that have existed for as long as there has been private titles issued for the control over land.

What land costs has an obvious impact on the type of housing (or any other structure) that can profitably be built on a given parcel of land. Whether any construction at all will occur depends, in turn, on potential purchasers with savings and income sufficient to afford the full cost of housing -- meaning the price of the structure as well as the parcel of land on which it sits. The same is true for business owners who do not own their site of operations and must accommodate rising land lease expenses -- as well as all the taxes they are required to pay to government. Businesses will, of course, try to pass on increased costs to their customers. When competitive pressures do not permit doing so, the alternatives become either relocation or instituting measures to generate greater productivity. As we have experienced repeatedly throughout the last two decades, the quest for higher and higher productivity often has the unfortunate side-effect of reducing the number of individuals employed as well as the compensation of those who remain employed.

Where a regional economy is growing and new businesses and new jobs are constantly being created, even dramatic changes in employment levels by significant numbers of businesses will not materially affect aggregate demand. Unfortunately, this type of dynamic balance exists in very few regional environments. Rapidly rising land costs contribute, therefore, to a destabilization of consumer purchasing power and deteriorating ability of businesses to compete in the larger arenas. The same productivity enhancements that may preserve (in the near term) profit margins for business owners, tend also to result in higher levels of unemployment of individuals many of whom have become highly leveraged with debt taken on to acquire housing.

In order to address the above problems, the appropriate public policy must effect a reduction in the cost of land to potential users. Historically, this has meant using tax revenue broadly collected to acquire land from private owners at market prices, then subsidizing the sale of that land to attract development of affordable housing, industrial facilities, office buildings or other uses -- with the thought that such subsidies will eventually be repaid in increased real estate taxes and taxes on business and individual incomes generated. This is a policy that clearly redistributes purchasing power. Revenue must be raised today from already-present businesses and workers and home owners and visitors in order to acquire and resell land for development. The data compiled on these experiments in public investment does not make a compelling case for broad application of this practice as sound public policy. Even where there is a net increase in public revenue over time, combined with the creation of long-term employment for previously unemployed individuals, these measures have not resulted in the rejuvenation of communities. High land prices, land hoarding and land speculation are left untouched by this type of public policy.

What initially fueled and then sustained Housing during the post-Second World War decades were steady gains in real household income fostered by long-term employment stability. These two bed rocks of economic growth and socio-political stability are today threatened by the very rising land prices they helped to generate. Higher land prices also mean that the number of players has been reduced to those with sufficient financial resources to acquire and hold land for expected future gain without any undue burden on their need for current income. Land hoarding, then, is fast becoming a game only rich individuals acting alone or in syndicates -- can play. Numerous corporations also specialize in the land market as so-called land bankers, some of whom also engage in actual development and others of whom act as middle-men, acquiring options to purchase land in the future as some designated price, then line up ultimate developers. While not every land speculator ends up extremely rich, the aggregate impact of this type of investment activity works in direct opposition to the efficient operation of markets and to the societal objective of stable economic growth at full employment.

THE LABOR MARKET

The global markets for labor changed dramatically during the postwar period, in large measure because of the expanding government and service sectors within virtually every nation within that can be characterized as social democracies. At the same time, the output of goods has continued to increase dramatically despite a smaller and smaller percentage of people engaged in these activities. As barriers to many forms of international trade have been scaled back and as the transfer of technological knowledge has flourished around the globe, companies have constantly shifted production to different sites, either to satisfy domestic content rules for selling in a given country or in an effort to maintain or increase profit margins by reducing production costs. In the United States, a good deal of production has shifted from the Northeast to the South and Southwest and West. Even before the passage of the North Atlantic Free Trade Agreement (NAFTA), U.S. domiciled companies were producing goods in the Canadian provinces or in Mexico when this made sense to do so. Today, approximately half of all goods manufactured around the globe are manufactured by multinational corporations whose shareholders come from every nation. Their labor forces are also from all parts of the globe.

The U.S. labor force is not alone in experiencing the pressures of external competition and the push to reduce the labor component of production. Nevertheless, during the 1970s and 1980s the U.S. benefitted by the in-migration of countless well-educated and highly trained individuals who could not find satisfactory employment (or found the socio-political system repugnant) in their native countries. For the untrained and uneducated, however, the situation has rapidly deteriorated. In the Housing sector, there has been a pattern of rising and falling employment opportunities because of the close relation between the demand for housing and the overall health of regional economies. The incomes of individuals in countless housing-related businesses are thus affected by the cyclical nature of Housing.

For those directly involved in the housing construction trades, the drive for greater productivity has yielded new, labor-saving techniques, not the least of which is the prefabrication of housing units which are then delivered and assembled on-site. In this process, some skilled labor is replaced by lower wage, semiskilled factory workers. For the consumer, this has sometimes provided housing units at prices lower than they otherwise might be. Too often, however, market forces work against passing on such cost savings to the home buyer; the potential increases in affordability are eventually capitalized into higher land prices. Moreover, the type of housing being built in many parts of the U. S. has been dictated by very high land prices and the necessity of building for the upper income households only -- or the construction of high rise condominium structures that ration the cost of land out over a large number of unit owners.

Construction work is still an occupation with the potential for greater than median annual income. The number of workers employed, however, has gradually declined. Of equal importance is that construction jobs represent only part of the housing labor market. This market also includes thousands of architects, engineers, government inspectors, financing specialists, sales agents, interior designers, and a large pool of people involved in the production of materials and consumer products that go into housing.

CREDIT MARKETS AND HOUSING FINANCING

While rapidly rising land prices have gained only superficial attention from economists, political leaders and policy analysts, almost any movement in interest rates for residential mortgage financing sets into motion government's powers over the monetary system. The impact of interest rate shifts is immediate, in that the potential number of households able to qualify for financing rises or falls when rates move as little as a quarter of one percent. Even a modest rise in the rate of interest from that in effect at the time an application for financing is taken to when a commitment is issued by the lending institution (some 30-45 days later), may result in denial of the required level of financing. For those individuals or households who are first-time home buyers and whose equity in a purchase must come from cash savings, a parental gift or public subsidy, unanticipated increases in financing costs may be crucial in converting the affordable house into one out of reach.

Another group of consumers in the market for financing is the significant number of households that decide to refinance an existing mortgage loan in order to take advantage of a drop in long-term interest rates or for some personal reason -- such as, to refurbish or improve their home, pay for a child's university education, or to raise cash for some alternative investment. Whatever the reasons, the demand for this type of credit is also extremely sensitive to small incremental changes in the rate of interest and fees charged by lending institutions or finance companies.

The residential housing finance industry has, in many countries, been handmaiden to government housing policies and the agencies created to carry out those policies. During the three decades following the end of the Second World War, the U.S. used its tremendous reserves in personal savings (and its unchallenged dominance in the global marketplace) to aggressively subsidize home ownership as a primary objective of its socio-political agenda. Financial institutions chartered to facilitate the delivery of credit to home buyers benefitted by government restrictions on the interest rates that could be paid to depositors in savings accounts, and limits were also established on the maximum interest rates chargeable to borrowers. In this way, savers -- many of whom were themselves not home owners -- subsidized the cost of borrowing for those who purchased homes. That happy circumstance gradually broke down under the deep stagflation that hit the global economy during the 1970s. A group of governments had decided to effect a dramatic shift in global purchasing power based on the fact that the industrialized societies had become almost universally dependent on the energy provided by fossil fuels. Since demand was relatively inelastic for fuel oil and for gasoline, these producers of crude oil decided to push up prices by withholding supply and pricing their crude oil as a cartel.

OPEC and the Consumer Price Index

All oil-importing countries experienced the shock of rapidly increasing prices for crude oil following the world's first confrontations with the governments who came together to form the Organization of Oil Exporting Countries (OPEC). In the U.S. Housing was immediately hit by the increasing costs of construction materials and by labor cost increases. Most construction contracts included cost-plus language that permitted builders to pass on any unanticipated expenses to the home buyer, and labor union contracts tied wages to the Consumer Price Index (the CPI). As a consequence, the effects of OPEC- induced price increases had a devastating impact on consumer demand and on commerce in general.

Construction lenders were flooded with requests from builders for increases in outstanding loan commitments in order to complete projects already underway. At the same time, consumer spending declined and businesses began large layoffs. Builders who had undertaken speculative projects were left with unsold housing inventories and were forced to default on the repayment of bank loans. One important group of lenders in the construction loan markets -- the nation's real estate investment trusts (REITs) -- were major losers and many soon found themselves faced with liquidation and bankruptcy. The less well capitalized REITs defaulted on credit lines with commercial banks, and the banks soon found themselves the owners of partially completed real estate projects spread all across the U.S.

In the short run, the actions of OPEC to artificially control the supply and market price of oil resulted in one of history's fastest and most extensive transfers of purchasing power. The global economy staggered under the weight of this shift. Much of the rest of the world sank beneath the crush of price rises for oil, a basic commodity for which demand was rather difficult to curtail. In the U.S. as elsewhere the policy responses were contradictory and seemed to only make matters worse. Along with incentives to increase domestic production of oil, producers were hit with a windfall profits tax on their low cost oil reserves. Supplies were rationed and the market was prevented from finding its own a new equilibrium clearing price. The U.S. government then set about financing research on energy conservation and the development of alternative fuels. In the Housing sector, conservation took a number of specific forms:

[a] Higher density development through construction of attached and stacked units, which lowered the ratio of land cost to total construction cost and also reduced the per unit amount of labor and materials required. Zoning changes and other regulatory variances were often required to accommodate such measures where the traditional type of construction and market acceptance had been geared to single-family, detached dwellings on land owned in fee simple.

[b] Enhancement of insulation and the introduction of more energy efficient materials, both in new housing construction and for rehabilitation of existing housing stock. Tax credits were approved for those homeowners who took such measures.

[c] The migration of higher income families back to older (and usually the more historical) inner city neighborhoods. The attraction of owning historically significant town homes was stimulated not only by the high price of gasoline but by the desire to reduce the time spent commuting to and from the workplace. Also, changing demographics and lifestyles made city living once again a preferred choice among certain segments of the population.

For a time in the mid-1970s, housing became a buyers' market with prices stabilizing and in many regional markets declining. Interest rates had not yet become a major variable affecting housing affordabilitv; however, accompanying stagflation was an atmosphere of fear and inactivity. People who were still employed and had savings were waiting to see in which direction the economy would next head. By 1978, many regional markets showed signs of adjustment to the possibility that general price rises would be an ever-present aspect of the global economy.

In the United States, deficit spending at the Federal level kept demand from falling too far or fast, while at the same time contributing to the general rise in prices. Of some importance to the overall economy (greater in some regional markets than in others) was that for those who retained steady employment and who owned their own homes, real purchasing power tended to increase. Ironically, as nominal wages increased in response to adjustments prompted by increases in the CPI, the money used to repay long-term mortgage debt to creditors not only had considerably less purchasing power than when received but was becoming smaller proportionally to total household income. The nation's lending institutions, on the other hand, were quickly losing profitability as the tenuous relationship between savers and borrowers shifted; the depreciating dollar favored old borrowers and placed added pressure on lenders to increase the interest rate charged to new borrowers. Those who possessed savings were at the same time pulling their financial reserves out of the banks and savings institutions in search of investment opportunities that promised to protect them from real and anticipated inflation. Precious metals, works of art, antiques and land became increasingly attractive alternative hedges against inflation. The lending institutions intensified their efforts to have the states and Federal government remove the layers of regulation that had prevented them from diversifying and charging whatever loan fees and interest charges the market would accept.

In the meantime, other players in the market moved to take advantage of the rising expectations of investors and savers. What would bring down the system that had for so long subsidized housing was the creation in the early 1970s of the money market funds. Operating outside the regulatory environment of the banks, these funds invested in short-term corporate debt instruments; and -- in this period of double-digit inflation -- offered excellent protection against the U.S. dollar's loss in purchasing power.

Commercial banks were not long to respond, issuing their own high yielding certificates of deposit. Not until 1982, however, did the savings institutions obtain from the U.S. Congress authority to enter the game on an equal footing. For many, their window of opportunity had closed, and so did their doors. The residential mortgage loan portfolios of thousands of lending institutions were substantially under water -- yielding something like a six percent rate of return in an environment where the cost of new deposits was in the double digits. Not only did this present tremendous cash flow problems for these institutions, but the market value of their loan portfolios dropped by a third and then more as interest rates rode an upward trail. Despite an effort of herculean proportions to rid themselves of this drain, by the early 1980s the fate of thousands of savings institutions was -- as described by Hermann Kahn in 1982 -- already determined:

In 1980, many S&Ls were earning an average of about 14 percent on their loans, but paying about 14 percent on their deposits (including CDs). They were therefore not able to meet their overhead and operating expenses, which often were about 2 percent of their assets. These expenses had to come out of the S&Ls' nominal net worth, i.e., book capital and surplus, but they could be met in this way for only three or four years, since most S&Ls normally have about 6 or 8 percent equity. The result: a slight feeling of desperation.[9]

The failures then began in earnest, interestingly enough at the very moment that regulatory controls (and certain safeguards of prudent lending activity) finally began to disappear. Mergers between institutions of over $1 billion in assets were approved in an endless stream to forestall failures. Time would confirm the view of skeptics that the merger of two troubled institutions added weakness rather than strength, despite whatever economies of scale might be hoped for. Restrictions that had prevented the expansion of operations across state borders also fell away. During 1981 the Federal Home Loan Bank Board (FHLBB) and Federal Savings and Loan Insurance Corporation (FSLIC) negotiated and approved 23 mergers (at the time a record high number for the postwar era). That number would increase to over 150 in 1982 and has continued to climb ever since.

The independent money market funds had by this time -- bolstered by their higher yielding, short-term investment opportunities -- produced a dramatic shift in the use of the savings pool that had traditionally supported the housing finance industry. Credit was moving to the highest bidder, without regard for societal objectives and too often without much consideration for the risk of non-repayment.

Another factor in the changing credit markets was that late in 1979 the Federal Reserve System had abandoned any attempts to control movements in interest rates, adopting the ostensibly less difficult challenge of managing the nation's supply of money and credit. The more freely operating credit markets combined with deregulation and continued inflationary expectations to pull the prime rate up to over 20 percent. The rate of interest on long-term, fixed rate mortgage loans approached 18 percent. There were few takers.

Disaster had again hit the housing sector, and the U.S. government's policy analysts recommended several measures to correct the problems. Financial institutions were exempted from usury restrictions and permitted to make loans that provided for periodically adjusted interest rates. Variations on the theme proliferated for several years until a degree of standardization arose. Some lenders introduced loan programs characterized by a fixed payment but with a floating rate of interest, so that any accrued but uncollected interest was added to the unpaid principal balance to produce what became known as negative amortization. Another loan program included payments set at fixed rates for three or five years, after which the entire loan would be renegotiated or repaid (much like the pre-FHA era type of housing financing). Finally, the nation's secondary market for mortgage loans responded with programs to purchase from the mortgage lenders pools of low-yielding fixed rate loans as well as the new adjustable rate loans. The fixed rate portfolios could be priced at a discount to give the investor a yield matching current rates because Federal regulators agreed to permit the selling lending institutions to spread the losses on sale out over the life of the loans as payments came in and were passed on to the investors.

Entry of the Federal National Mortgage Association -- today known officially as Fannie Mae -- and the Federal Home Loan Mortgage Corporation (now known as Freddie Mac) into these markets provided a tremendous degree of liquidity as well as standardization. The nation's mortgage bankers, who were not subject to the same regulations as commercial banks or savings institutions, took full advantage of their newfound ability to compete in the nongovernment-guaranteed loan market. The side-effect was, however, to increase the competition for borrowers under conditions of contracted demand for credit and housing. Borrower creditworthiness was too often ignored in an effort to generate loan volume and fee income.

Fundamentals And The Debt Bomb

What was happening to Housing and credit markets in the U.S. had its origins in a flawed system of socio-political arrangements that protected privilege at the expense of production. Tax and property law encouraged both hoarding of land and gross speculation in all commodities and securities. What triggered the move from stagflation to a general global downturn was the mounting debt taken on by raw materials rich countries during the period of rapid price rises in the 1970s. Not only had OPEC executed one of history's greatest shifts in purchasing power, but the billions of dollars received above what they could possibly spend on consumption and infrastructure were thrown back into the hands of the international banks -- at a time when low risk business and personal credit demands in the developed nations had hit rock bottom. The banks responded by virtually abandoning any semblance of prudent lending practices in an effort to sell these petrodollars at a profit. As early as 1981 over 25 developing countries were behind some $6.5 billion in interest payments on loans to the banks.[10] By mid-1982 the amount of debt owed by just Mexico and Brazil alone was greater than the entire capital of the nine largest banks in the U.S. The debt bomb had arrived as a permanent fixture in international relations.

Then, an amazing chain of events began. The burden of absorbing declines in purchasing power dramatically shifted against the debtor developing nations, as one they yielded to the demands for austerity imposed by the International Monetary Fund (IMF) and representatives of the banks in return for additional loans or loan guarantees. These debtor nations then embarked on aggressive export programs in order to obtain foreign currency reserves (largely U.S. dollars) needed to maintain interest payments on their debt. The corresponding demand for dollars also brought down the cost of foreign-produced goods in the U.S. And, as global supplies of commodities -- including oil -- outpaced a contracting demand, prices stabilized, then tumbled.

Tax cuts and credit-driven Federal spending combined with the commodity price declines to gradually restore considerable purchasing power to the majority of citizens in the U.S. and other developed nations in the West. Moreover, despite an expansionary monetary policy, the tremendous global liquidity (to which was added a flight of capital -- i.e., financial reserves -- from the debtor nations) pulled down interest rates. Housing in the U.S., which had been suffering dearly, with new housing starts falling to less than 1 million for the year beginning in mid-1981, started to respond. A sense of recovery for the U.S. was in the air.

REAGANOMICS: A SPECULATIVE BUBBLE ABOUT TO BURST

In Britain and the United States, conservative political leaders pushed through a series of measures their policy analysts told them would stimulate private sector investment in productive business activity. Key elements in this effort included the reduction of regulations and controls over industries and (particularly in Britain) the sale of previously nationalized corporations. A reduction in the marginal tax rates on individual income and a lowering of the tax on the sale of assets (the so-called capital gains tax) also formed the theoretical basis for supply-side economic policies -- Thatcherism in Britain, Reaganomics in the U. S.

Keynesian demand management fiscal policies had seemingly ceased to work; the impossible had occurred with the arrival of both high unemployment and double digit inflation. Mainstream economists as a group were forced back to the drawing boards for new policies that promised to bring life back into the faltering global economy. A window of opportunity opened for mavericks and long-time critics of left-of-center Liberalism. Within their ranks, however, only a few focused their attentions on the growing national debt. The general supply-side assumption was that lower tax rates would generate enough economic growth to yield a larger amount of revenue than previously causing the annual budget deficit to disappear and the national debt to fall. In one sense, this optimistic forecast was politically necessary because of the widespread fiscal irresponsibility that permeated government in the U.S. Rhetoric aside, Reaganomics stood on the shaky assumption that economic growth would provide sufficient revenue to eliminate the growing annual deficits and also pay for both guns and butter (i.e., the military and social welfare infrastructure).

Unfortunately an ambitious military build-up and continued real growth in total government spending far outpaced revenue receipts. Argument continues over how seriously the $5 trillion (and growing) national debt threatens the longer-run health of the U.S. economy. In practical terms, however, the amount of tax revenue needed just to meet interest payments to holders of U.S. government securities is -- at a conservative 8 percent annual rate of interest -- some $40 billion. Thus, before anything can be spent on actual programs, the U.S. government must collect an average of around $400 from every U.S. household to be paid out in interest. What has so far protected the U.S. from financial collapse is the global confidence in U.S. political stability, and in the dollar as a (relatively) safe harbor and storehouse of value in comparison to that of many other currencies and countries.

The U.S. recovery under Reaganomics began in earnest in late 1982. Falling commodity prices and excess liquidity in the credit markets gradually brought down interest rates in the U.S. Pent-up demand brought construction starts of new housing units back to the 1.3 million annual level during 1983, despite the fact that mortgage interest rates remained above 12 percent and stayed that high until 1985. To put this in some perspective, while the CPI was falling, the high mortgage interest rates reflected the market's fear of returning commodity price rises and possible government intervention in the credit markets.

Anticipating that housing prices were about to again take off, builders opted for the new adjustable rate mortgage loans (ARMs) in order to acquire housing. Between mid-1982 and early 1985 the number of ARM loans grew to account for over 60% of all mortgage loans provided. The national median price of housing at the beginning of this period was $69,400; by mid- 1985 the median price had risen to $76,500. A year later, it passed $82,000.[11] For the seller of existing housing units the rising prices represented welcomed appreciation. Buyers whose savings were adequate to meet down payment and closing cost requirements -- and whose incomes were sufficient to absorb the monthly loan payments -- had concluded that housing prices were on their way back up; they decided to buy before they were priced out of the market. Many would refinance these higher rate mortgage loans when fixed rates eventually fell below double-digit levels, then refinance again as rates fell (briefly) to below 7 percent during 1993. These same households would also find satisfaction in their decision to buy at 1983-85 prices. For those entering the housing market for the first time in 1985 and after, however, the problem of affordability has become chronic. Today, very few first-time home buyers are able to accumulate sufficient savings for even a minimal 5 percent down payment. They require assistance from parents or government agencies.

As has been discussed, whenever the equilibrium price of credit or commodities falls in response to global market conditions (and regional economic conditions are stable or expanding) the fundamental advantage shifts to those who are in control of the supply of land (including land that is improved by housing). For an expanding list of regional markets, the resurgence in activity was no different. The affordability crisis was analyzed in 1987 by a senior officer of whast was at the time one of the U.S. market's largest mortgage banking concerns:

Land and lots -- their availability and their cost -- are at the top of builder concerns in almost every local market. Not in many years has the land problem been so pervasive.[12]

The percentage increases varied widely from regional market to regional market and within local markets as well; however, except for the recession prone oil belt and the nation's depressed agricultural regions, prices everywhere were on the rise -- both absolutely and as a percentage of total housing prices.

As one would expect, households headed by young adults or those with lower incomes were hardest hit by the rapid increases in land and housing prices. The percentage of home ownership among households headed by persons aged 25 to 34 fell from 55 percent in 1980 to 46 percent in 1985, and has not moved back up since then. Already low ownership percentages for Americans of African or Hispanic ethnicity -- for all age groups -- also experienced severe drops.[13] Ironically, this occurred despite a continued fall in housing prices within many urban neighborhoods. Along with the slide in housing prices came a parallel loss in employment opportunities for the marginally-educated and unskilled. In the Reagan recovery, there were very few new jobs created at the traditional first steps on the socio-economic ladder.

The movement of higher income individuals back to the cities also combined with dwindling Federal housing subsidies to force many lower income households from neighborhoods undergoing what critics called gentrification. Increases in housing prices and in apartment rents were followed in short order by dramatic increases in real estate taxes beyond what many longer-term residents could afford. In rural areas the housing problem was exacerbated by falling commodity prices for agricultural goods, leading to farm foreclosures and the disintegration of rural communities. Newsweek magazine reported in August of 1988 that of the 57 million people living outside U.S. metropolitan areas, 9.7 million -- or 18.1 percent -- were impoverished.[14] Many of these poor had by necessity become part of a new generation of migrants, traveling from region to region in search of employment. Others simply drifted to the cities to join the growing ranks of the homeless and those dependent on welfare for their existence.

For most of the two-thirds of the U.S. population who lived in family-owned homes, their paper net worth continued to grow, with equity in their homes and underlying land parcels accounting for over 40 percent of all personal wealth. Yet, statistics gathered in 1984 showed that more than 10 percent of all adults in the U.S. owned no assets at all and lived in constant debt.[15] Perhaps of even greater concern is the probability that many people seem unable to escape poverty and thereby enter the mainstream of self-sufficiency.

As defined by the U.S. Census Bureau, middle-income households are those with incomes of between $15,000 and $49,999. During the period 1970-85 the size of this group shrank from 65.1% to 58.2% of the population. Interpreting the statistical change reflected in these numbers is not easy, however. Not only have many households experienced increased incomes, but the very nature of the family unit has changed considerably just in that brief period. The percentage of married couples with children has declined as a percentage of total family groups, while the number of unmarried heads of households and unrelated individuals living together has increased. Self-described traditional family groups now represent around 68% of all households, down from 77% in 1970.[16]

The simple increase in the number of family groups has put tremendous demand pressure on the supply and price of Housing. Absent the socio-political arrangements that would guarantee a competitive land market, the upward spiral of land prices means that quality, affordable housing is becoming less and less available to those at the lower end of the socio-economic ladder. That household incomes have in many regions trailed the rising cost of acquiring and carrying housing has created a new generation of highly leveraged home owners whose remaining discretionary income after housing expenses is minimal. On the other hand, stable below double-digit interest rates during the 1990s has helped to facilitate the movement of tens of thousands of households from rental units into home ownership often at net decreases in monthly housing-related expenses.

In the 1950s and 1960s home buyers were considered qualified for mortgage financing based only on the income of one primary income earner. A rule of thumb limited the maximum acceptable housing expense (which included the monthly loan payment, plus a pro rata allocation for real estate taxes and hazard insurance) to 25 percent of gross monthly income. Today, although that 25 percent ratio of monthly housing expense-to-income has been increased to between 28-33 percent, rarely does a one-income household meet this income qualification test. The risk of loan default has in the process significantly increased. Adding a second income to assist a family through periods of unemployment or other income interruption is no longer an option. Any prolonged period of income loss inevitably leads to default, foreclosure and the loss of home ownership. Although the speculative overbuilding that brought the housing markets of Houston and Dallas, Texas crashing down has not occurred to a similar degree in other major metropolitan areas, rising unemployment triggered high delinquencies and foreclosures in Boston, Hartford and other parts of New England beginning in 1989 (particularly where condominium units or properties with more than one living unit were concerned). For the last several year, the southern California economy has been the latest recessionary trouble spot.

The Current Plateau And Role of Rising Interest Rates

At this writing the rate of interest being charged for long-term, fixed rate mortgage loans has been relatively stable far the last few years. Nevertheless, all has not been well and there are greater dangers looming on the horizon. U.S. government debt continues to climb as does the extent of debt-financed consumer spending. Large and small savings institutions and commercial banks continue to fail or are on the verge of failure, although the most dramatic period of failures seems to have passed. Getting past this last round of bank failures required the Federal government to use general revenue to honor the deposit insurance obligations to depositors who were guaranteed repayment of up to $100,000 on deposit with any bank. The source of this giant bailout could have come from raising taxes or raising the national debt. The choice was never in doubt. The U.S. government has repeatedly chose borrowing over taxation of the nation's wealthy citizens.

We must also remember that throughout the 1980s across the nation's heartland, financially-troubled farmers lost their farms to many of the same bankers who were on the verge of failing and closing their doors. For too many years, too many farmers had lived from loan to loan, year by year, dependent on rising commodity prices and strong demand to keep them in business. A fair proportion of their indebtedness could be traced to the purchase of additional acreage on credit during years of surging prices and a global market hungry for U.S.-produced agricultural products. When foreign producers expanded their own acreage under cultivation and products from these sources entered the market, commodity prices fell. As tens, then hundreds and then thousands of U.S. farmers defaulted on their loans and lost their farms, the price of agricultural land also began to fall. Bankers were reluctant to make loans secured only or primarily by land values that were anything but stable. As large numbers of farms turned over and were added to the acreage controlled by others or by corporate agribusiness, another casualty became the small, rural agricultural community. Fewer farmers meant fewer customers for goods and services sold in these towns and less and less revenue to support public services, such as schools, hospitals and the maintenance of infrastructure.

And finally, another great fear expressed by economists -- namely, a return of inflation -- always threatens.


PART THREE * BACK to PART ONE