Microeconomics - The Property Markets - Term Paper Example

 Executive Summary: The concept of the ‘housing bubble’ and the impact it has had on the American markets has been very long debated and argued. A number of economists feel that this has over inflated the home prices. The impact of the bubble caused has been very high and the impact on the markets and the local Americans has been quite devastating. The paper talks in detail about how the housing bubble was created and the impact it had after the burst. An overview of the help that the homeowners received like refinancing options has been discussed later in the paper as well. Further research recommendations have been made to study how the housing bubble has impacted the economy as a whole. Introduction: The American real estate market from the 1800’s has been one with constant ups and downs and the major movements in these markets have led to a number of major world events. A few of the major events that impacted the markets include the World War I, The Great Depression, and also World War II. An excellent example of this is when World War I started the markets were impacted to a great extent and the real estate markets dropped drastically during this period (Waring). This paper aims at discussing in brief the history of the real estate markets and recent housing bubble that had been formed within the markets (Smith). The paper will firstly provide a brief history of the real estate market, following which the ‘housing bubble’ will be discussed in brief. This will be followed by the after math of the burst and the impact that the bubble had on the markets. A brief of the financial assistance that was received by the home owners has also been discussed. Brief History of Real Estate Markets: As explained earlier, the World War I brought about a major change in the markets and there was a drastic drop in the prices. The main reason for this was that many of the citizens of the country were either fighting or were involved in the war in any other manner. The economy was being driven by the war and was also supplying the war to a great extent. Again during this period the demand for buying homes was much lower which in turn led to the decrease in the markets (Shurick and Weir). Similarly as the war ended the demand for buying homes started to increase which in turn led to an increase in the prices and the economy began to rise as well. Later, again during World War II the economy saw a major sink and this was one of the lowest periods for the US Real estate markets. Post the World War II, the housing market increased to a great extent and over the years until 2007, the markets even jumped 83% (see figure below) (Shiller). The markets saw a major and rapid growth in the ten year period and a number of factors that helped in this growth form the factors that contributed to the housing boom. History of Home Values (Shiller) Housing Bubble: The housing bubble is referred to as the increase in the home values beyond the real value. This inflation of the home values was not in proportion with the cost of living and income of the people and started in 2000 and went on until 2006. A number of areas across US were affected by this however the most severely hit areas included Las Vegas, Phoenix, Hawaii, Washington DC, California and Florida (Shurick and Weir). The above mentioned areas saw an increase of almost 80% while the household income saw a rise of merely 10% at the same time (Shurick and Weir). The year 2006 has seen a number of people refinancing their properties to be able to pay lower interest rates. The customers have also been noted to have taken out a second mortgage as well (Smith). These were steps taken by the house owners to extract as much money as possible. This however has lead to the increasing the housing bubble and leading the house prices to decrease. Once this hit the country, the borrowers were not able to pay for the interest rates and neither were they able to refinance the homes. This lead the borrowers to default and lead to foreclosures from the banks due to delinquency (Smith). There were a number of views and opinions for the causes of this overvalue of housing markets. An expert explains, “Once stocks fell, real estate became the primary outlet for the speculative frenzy that the stock market had unleashed. Where else could plungers apply their newly acquired trading talents? The materialistic display of the big house also has become a salve to bruised egos of disappointed stock investors. These days, the only thing that comes close to real estate as a national obsession is poker” (Laing). The real estate markets have often been recognised to be solid and lucrative investments and people were under the wrong impression that the house prices would never reduce and that this was a sound practice (Waring). The aim of the people here was to find something which was secure than the dot com bubble. Post the IT bubble burst in 2000 the fed had reduced the interest rates, and also agreed to provide loans to people with low credit ratings (even below 620). Post the borrowers receiving the loan amounts, and with the lowered interest rates, there was a sudden hike in the prices of the real estates of the company, this lead to the sub prime borrowers to be able to borrow even more (Shurick and Weir). This extra borrowing became a burden for the sub prime borrowers and the number of defaulters had grown to a great extent (Waring). The housing bubble has grown to an extent where almost 4.5 million homes were left in the markets for an average of ten months and the surplus of these homes has clearly led to a down ward spiral in the housing industry and prices (Smith). The main idea here is that the supply is high and the demand is low. Hence the buyer has a wide range of choices and the sellers on the other hand need to work hard to ensure that the prices are as competitive as possible to be able to make a sale. The housing bubble led to a major blame game and people continuously blamed each other for this bubble. The parties blamed here included investors, mortgage investors, banks, mortgage brokers and subprime lenders and regulators (Smith). After Effects of the Burst: The period between July 2004 and September 2007, the prime increased to 8.25%. The increase led to a major increase in the mortgage payments and the people with adjustable rates became more comfortable with the payments. However, when the change moves to a few hundred dollars more, the change can be quite a blow to the person and can impact the finances to a great extent. The markets however led to a major loss and the decline led to continuous increase in the interest rates of the house while decrease in the value of houses. The people were now unable to pay for the properties and most of them were also subject to the prepayment penalties. The only hope out of this situation was to be able to move out before any more money was lost (Shurick and Weir). Assistance to Home Owners: With the major decline in the markets, the home owners were the most effected and along – side the entire economy was seeing a major decline. The government then needed to step in and bail people out of the issue. It was here that the government agencies took steps and initiatives to help the people who were directly affected and were in the lending mess. A number of different programs were set up and aid was provided to the home owners in need. The government also assisted the home owners in future buying decisions to make more sound decision and borrowing decisions. A report by Jeanne Sahadi, writer for CNN Money.com, explained that a number of different programs were available for the home owners. Of these the Federal Housing Administration had setup a plan which was referred to as, ‘FHA Secure Act’. This would assist the home owners pay the current ARM and will help in refinancing the home owners (Shurick and Weir). Conclusions: The housing markets have had a major impact on the economy as a whole and have led to a number of issues for a wide range of people across the markets. The economy of all has taken the biggest hit. The main aim was to ensure that the economic crisis was put to an end at the earliest and hence the interference of the government was essential here to ensure complete safety of the individual home owners in the mess of the investors and bankers (Smith). Further Research Recommendations: A further research here can be made on how the bubble burst led to a decline of the economy and how this led to strains on the international relationships of the country, also the impact that the housing bubble has had on the country’s currency rate and the overall inflation and recession rate. Recommended Readings: 1. United States. U.S. Census Bureau. USA Statistics in Brief–Income. 20 Dec 2006. 27 Sep 2007. 2. Laing, Jonathon. “The Bubble’s New Home.” Barron’s Online. 27 Sep 2007. 3. Business Cycle Dating Committee. “July 17, 2003 Announcement: of business cycle trough/end of last recession.” National Bureau of Economic Research. 17 July 2003. 27 Sep 2007. 4. The Federal Reserve Board. Federal Reserve Statistical Release: Historical Data. 27 Sep 2007. 27 Sep 2007. 5. “EHS Report.” Realtor.org. 2007. 27 Sep 2007. 6. Parsons, Jim. “United States House Prices.” Graph. 09 Oct 2007. 7. Gandel, Stephen, Amanda Gengler, with Paul Keegan. “Scenes from a Bubble.” Money. May 2007: 115+. 8. “Prime Rate Historical Graph and Chart.” MoneyCafe.com. Chart. 18 Sept 2007. 28 Sept 2007. 9. The Associated Press. “Why you can’t afford a home.” MSN Money. 12 Sep 2007, 12:51PM ET. 27 Sept 2007. 10. Cox, Jeff. “Subprime layoffs head for record.” CNNMoeny.com. 19 Sep 2007. 11. Sahadi, Jeanne. “Refi Rescue.” CNN Money.com 12 Sep 2007. 7 Oct 2007. 12. Internal Revenue Service. United States Department of the Treasury. “Foreclosure Tax Relief Available to Many.” IRS.gov. 17 Sep 2007. 7 Oct 2007. 13. “President Bush Discusses Homeownership Financing.” WhiteHouse.gov. 31 Aug 2007. 7 October 2007. Works Cited Laing, Jonathon. The Bubble’s New Home. 27 September 2007. 15 July 2010 . Shiller, Robert. "A History of Home Values." Graph. 9 October 2007. Shurick, Steve and Jenn Weir. "The Housing Market: Boom, Bust, and Oh Boy!" Principles of Microeconomics. 2007. Smith, M. US Economic Downturn Causes Anxiety, Mental Stress Among Jobless. 16 March 2009. 15 July 2010 . Waring, D. A Simple Explanation of the Subprime Crisis Part 1. 3 December 2007. 16 July 2010 . Read More