Existing-home sales hit all-time high in ’04

This article is a great example of how monetary policy can make a huge effect on the economy. The article states that home buyers continue to benefit from low mortgage rates; home sales have increased 9.4 percent last year. It also stated that sales prices for an existing homes increased 8.3 percent that marked the biggest one-year jump in home prices since 1980. Do you think that these low interest rates have created an inflated price of homes? Is it possible that when rates go back up the price of homes will fall? Would this economic factor be an important consideration to someone who is trying to choose between leasing vs. buying?


heather said...

I remember seeing President Bush campaigning last year discussing the benefits of an ownership society; the foremost topic of discussion was homeownership. While there is always the risk of property values decreasing, the benefits to be had, especially in the long run, among homeowners will far outweigh those of the rental option and continuing to pay for someone elses mortgage.

BOB said...

This demonstration is a valid reason why the FED raised the discount rate by 1/4 point on February 1, 2005. Greenspan's policy is aimed at slowing the economy and bringing down inflation. If it works, the price of homes will probably decrease until the economy reaches the desired rate of inflation.

scott said...

When the Fed decides to mess with the economy it helps some and screws others. Its a coin toss as to which point in life you are currently in as to whether it is currently beneficial to you. It goes to show that economists can be very utilitarianistic in their actions.

Dr. Tufte said...

This post has the sort of question that economists can answer on the basis of textbook understanding, and then usually be wrong.

In principle, a rise in interest rates should lead to a decrease in the prices of all assets, including homes.

The problem is that it is real interest rates that are inversely related to real asset prices. The latter are easy to figure out - just deflate nominal prices (the ones we see quoted every day) by inflation. The former is much harder. Real interest rates are formed by subtracting out expected inflation rates from nominal interest rates the (the ones that we see announced every day). The problem is that the expected inflation rate is not observed, so we have to guess/estimate what that rate is.

So, what happens in practice is that the Fed raises (nominal) interest rates. That will only effect asset prices if that also changes real interest rates. But it can only effect real interest rates if the expectations of inflation formed by people like you and I don't change. But, it's hard to figure that out. You can survey people, but that just isn't that accurate.

So, the bottom line is that theory is OK, but we can't accurately measure the data that you need to show that it works.