Decision of Buying a New House - Case Study Example

 A New House – Decision Table of Contents Introduction 2 Implication of Owning a Home 2 Relation with Economics 4 Comparison of Marginal Benefits and Marginal Cost 6 Effects of State of Economy on Marginal Benefits and Marginal Cost 8 Roles of the Domestic Economy and International Trade in Assessment of the Strength of the Economy 8 Conditions that may Lead to a Different Decision 9 Conclusion 10 References 11 Introduction Buying a house is a long term investment. The implications of making substantial investment without proper estimation of return can be very complex and detrimental. Thus, while buying a house it is very essential to be specific about the finances and also to have a clear picture of the macro and micro economics. Even buying a house itself depends upon lot of personal and external factors. It is a dream of each and every individual to own a home. For some of the citizens, it might very easy to buy a home because they have huge amount in their disposal, but for many, it is quite hard to purchase a house with their hard earned money. So, for these people a house buying decision has quite a few implications. A wrong decision can hamper their future life which may lead to several other problems. So, it is wise to invest in a house very systematically and after judging the potential of the house to give returns, either quantitatively or qualitatively. Implication of Owning a Home There are pros and cons of owning a house. There are certain advantages which makes it much more lucrative decision to own a house but it is not to be forgotten that with owning or possessing something valuable brings greater responsibilities. And there are several other aspects which may look disadvantageous while buying a home. So it is very important to weight the advantage and the disadvantage, before buying a house. One of the great motivating factors to buy a new house is the feeling of possession and the sense of ownership. There are no restrictions to be imposed, unlike while in the case of renting. Any thing could be done probably until and unless it violates the regulations of building and zoning. Also, there is a sense of privacy. Another financial implication of buying a house is that it increases the equity. It is actually a building step towards creation of long term wealth. In case of buying a house, a certain portion of the amount in mortgages is received back by the owner in the form of equity. Which is not in the case while a house is rented, rent payable is the expense and builds no such equity. But the most important and lucrative factor of owning a house is the re-sale characteristic. It is actually an asset and an asset which reaps greater benefits with time. Most of the time, the sale is made on a much more amount than the buying price. Thus, it results to capital gain. Some time even in many cases these gains are tax free. And lastly, there are certain tax benefits which an owner of a house gets, in many cases the mortgage interests and the property taxes are deductible, meaning a decrease in the overall tax burden. But the demerits of buying a house can be in various forms such as, owning a house brings with it added pressures. In a rented house or apartment, it is the look out of the land lord to make repairs and also to look after the maintenance. After owning the house, these are additional costs that have to be borne by the owner. It is not just a monetary burden but too a psychological pressure. Another consideration to be made is about the situation of the real estate market. Often it has been seen that the real estate market remains flat or it goes down. So, selling the house at that point of time would only incur capital losses for the seller. Similarly, another important aspect is its long term implications. Owning a house is quite different from renting it, as in the case of renting only periodic expenses are to be made so the decisions regarding to shifting and changing of house can be more flexible and dynamic but in case of owning, which implies a huge investment, such decisions can never been taken in a short span of time. So it is very much required to access and to analyze the benefits and drawbacks of owning a house and then decide upon it. A lot is dependent on the decision made and a good decision will reap good benefits and vice versa (Vohwinkle, n.d.). Relation with Economics One of the basic principles of economics which applies to any purchase decision is the theory of consumer choice. Buyers always face a trade off in their purchase decisions, since income is always limited and the choices to be made are numerous. Trade-off is one of the greater principles of economics when it comes to buying a new house. It is true that every decision is taken at the cost of another. Thus, in the trade-off of buying a house or not buying it implies that if a house is bought a substantial amount depletes suddenly and may be certain other thing could be done with the same amount of money. For example, if the decision is made not to buy the house then the money saved can be invested or utilized in different activity or activities such as education of children, long vacation.etc. So it is very much required to understand the implications of any decision made and basically for the decisions which require greater investments. So, to purchase a house it is required to have a thorough analysis is to be made so that the results obtained from the decision are beneficial. For example, if the new environment is clean, it would be best for the baby. Again, proper space for the family is required so that each one can have their privacy as well as live together. Most importantly, it should be near to the market and other necessary facilities. Thus, a buyer should only buy the house if it gives substantial benefit to her than the current facility. One factor which is essential in determining or making the choice is the budget. As mentioned in this case that there are no budget constraints, therefore the theory does not apply here. But still the choice also remains depending on other significant factor. Buying a house is a very complex process. Again, graphically the properties of indirect curves play a greater significance in understanding which is to be considered over what. The other force which come into play while determining the decision making process of buying a house is the theories of demand and supply. Secondly, the opportunity cost of a decision also plays a vital role in a purchase decision of a new house. It generally means the cost of the next best alternative, which one has to sacrifice. This involves both implicit and explicit costs. Implicit cost means the qualitative benefits or disadvantages, whereas explicit cost means the monetary value that has been spent on the purchase. Marginal cost analysis also plays a major part in new purchase process. If a purchaser is rational then the person would only purchase a house if the marginal benefits of buying the house are more than the marginal costs. The benefits are basically of qualitative nature, whereas the costs are generally quantitative (Baumol & Blinder, 2008). In relation to this case, it is quite necessary to own a house. Firstly, for the reason of a studio, apartment would not fulfill the requirement. And most importantly it is very hard to shift places with a baby again and again. A house can mean to be a necessity or a comfort or a luxury to different buyers. In this case, it can be termed as a necessity because of the immediate urgency and of the situation. Each and every component of economics is directly or indirectly related to each other. So, the decision of buying a house does not only depend on one particular theory of economics but relate with the whole macro economic environment and even some times with that of micro economics. Even the theories of behavioral economics have a larger part to play in the purchase decision. Key aspects of expected utility theory, exponential discounting, social utilities and equilibrium also play a major role in the buying decision (Camerer, n.d.). Comparison of Marginal Benefits and Marginal Cost Firstly, the choice to buy a new house is an important decision. Analyzing the marginal benefits and the related costs are very tough jobs. Most of the benefits obtained are qualitative. For example, a posh location, proximity to major educational and medical centers, nearness to the market, cleaner environment, friendly neighborhood and various other facilities which cannot be equated in monetary terms. But on the other hand the cost of purchasing is the amount of money required to own the house. This, in turn reduces the purchasing power of the buyer because buying a house means reduced savings. Thus income factor is very high determinant of marginal costs and benefits. Effects of State of Economy on Marginal Benefits and Marginal Cost The state of economy strongly affects the purchase decision in regard to the marginal benefits and costs. A healthy economy is categorized with higher income of people, full employment and increased stability of jobs with the increase of GDP, the economy will be in a boom condition. In this state, the purchasing power of the buyers are more because of their income which positively affects the buying decision as they have enough money to indulge in various other commodities too. But on the other hand, if there is a recession, the purchasing power will fall substantially and affect the buyers. There would be retrenchments and thus people would have less urge to buy a new house. Moreover in this condition, the priority is to meet the needs and not to spend in luxury and comforts, which a new house in this situation is (Watkins, 2010). Roles of the Domestic Economy and International Trade in Assessment of the Strength of the Economy The strength of the economy is highly dependent on these two factors. Domestic economy comprises of level of investments, level of consumption, government spending and trade levels. Thus, the movements in these factors consequently increases or decreases the strength. A reduction in the GDP generally means a weak economy categorizing low incomes and retrenchments. This as stated earlier will decrease the purchasing power of the people. Similarly, international trade stabilizes the economy’s balance of trade. The GDP of the economy increases when there is favorable balance of trade. This in turn will lead to economic growth of the economy, which means increase in the income as well as employment scenario. But on the other hand if the balance of payment is deficit then the GDP will fall significantly which will have an adverse effect on the income and the employment. Even international trade also affects in change in price of houses. An increase or decrease of export and import materials used for construction purposes reduces or increases the price of houses. A decrease in the imports will result in a fall in the supply of houses and subsequently increases the price of the houses. It will affect the purchase decision regarding a new house (Milner, 1999). Conditions that may Lead to a Different Decision There are quite a few factors that may lead to different decision. For example, retrenchment or decrease in income. It will possibly lead to a situation of uncertainty which will considerably affect the purchase decision. Other factor which can affect the change in decision can be related with the climatic and cultural reasons. A sudden forecast can affect the decision considerably. For example, no one would like to buy a house in a flood hit area. Other reason may be a sudden illness of a family member which will affect the decision of buying. There are several other reasons taking into concern both present and future, which may affect the buying process either positively or adversely (Lipsey & Steiner, 1975). Conclusion There are several factors to be considered while buying a new house. Most importantly, the natures of these factors are dynamic and constantly changing. So it is very important for the buyer to analyze each and every implication of the decision made and take the best decision so as to make a good investment (IOWA State University, 2008). References Basic Economics. (No Date). Theory of Consumer Choice. The Basic Principles. Retrieved Online on Aug 21, 2010 from http://www.basiceconomics.info/theory-of-consumer-choice.php Baumal, W.& Blinder, A., (2008). Economics:  Principles and Policy. Cengage Learning. Camerer, C., (No Date). Behavioral economics: Reunifying psychology and economics. PNAS. . Retrieved Online on Aug 21, 2010 from http://www.pnas.org/content/96/19/10575.full#sec-7 IOWA State University. (2008). Buying a House. Money Mechanics. Retrieved Online on Aug 21, 2010 from http://www.extension.iastate.edu/publications/pm1460.pdf Lipsey, R. J.& Steiner, P. O., (1975). Economics. Harper & Row. Milner, H. V., (1999). The Political Economy of International Trade. Stanford University. Retrieved Online on Aug 21, 2010 from http://www.stanford.edu/class/polisci243c/readings/v0002017.pdf Vohwinkle, J., (No Date). Things to Consider Before Buying a Home. Financial Plan. Retrieved Online on Aug 21, 2010 from http://financialplan.about.com/od/realestatemortgages/a/BuyingaHome. Watkins, T., (2010). A Statistical Review of Current Economic Conditions in the U.S. San José State University. Retrieved Online on Aug 21, 2010 from http://www.sjsu.edu/faculty/watkins/USecon08.htm Read More