Practical Economics


Robert Shiller Predicts Home Prices Will Fall Some More

Jennifer Schonberger

Despite an uptick in home prices, the noted economist sees more trouble ahead for the housing market.



Home prices have been on a worrisome downturn, recently retreating to mid-2002 levels. In the latest read of the S&P/Case-Shiller home price index, home prices in the nation's 20 largest cities fell 4% in April from a year ago, when the home buyer's tax credit was boosting sales. On the other hand, the nation's most closely watched housing barometer shows that prices on a month-to-month basis rose in April for the first time in eight months.

What should homebuyers expect now? Is this the beginning of a turning point for the housing market? We checked in with the co-creator of the index, Yale professor Robert Shiller, for his outlook on the housing market. Shiller earned credibility as a pundit when, among other things, he called the housing bubble in 2006, just before prices started to tumble. Here are edited excerpts from his conversation with Kiplinger’s Personal Finance.

KIPLINGER: What is your outlook for home prices now in light of the latest read on your index?

SHILLER: I’m encouraged by the uptick and am slightly less bearish than I was a month ago, but it’s the beginning of the summer season, so home prices are supposed to go up. I wouldn’t be surprised if prices went up again in the next few months because it’s the summer season. The question is whether it does so exceptionally strongly and continues after the summer season.

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A lot of other indicators show weakening. So I can still see a scenario in which home prices could fall 10% to 25% in the next five years in real terms, correcting for inflation. Home prices tend to go in the same direction for a long time. It’s an uncertain period. The saving grace is that the population is growing, the economy is still growing, and the housing sector is not adding homes. So demand ought to go up eventually and bring prices back up.

Do you think it’s a good time to buy a home? Homes are certainly affordable now. Mortgage rates are low, and home prices have come way down. But buying a house is a personal decision. For the classic home buyer who wants to stay put, go ahead. So what if home prices fall 15% in the next five years? It’s different if you’re going to live in a house for just a few years before moving elsewhere. That person should feel no urgency to buy a house.

Why are people still reluctant to buy homes? It’s a combination of factors. One is that people are having trouble getting credit. Many institutions won’t lend on the same credit score that they did five years ago, or they’ll demand a much higher down payment. And if they want to get Federal Housing Administration protection, they have to adhere to the FHA standards, which have gotten tighter.

Plus, people are not optimistic about home prices. And unemployment is increasing. Long-term unemployment -- people out of work for 27 weeks or more -- is at record highs. Even people with jobs don’t feel secure in them. Also, buying a house ties you down -- it makes it harder to move for a new job.

Are we looking at a Japanese-style real estate sector recovery? That’s the worry. In the 1980s, Japan had a huge home-price boom and a stock-market boom, and they both collapsed around 1990. Since then both the Japanese stock market and the Japanese urban land market have performed terribly, and both are still considerably lower than they were in 1990. That’s an extreme case, and I don’t take it as a model for the U.S. But it’s certainly a warning that when you have speculative bubbles that burst, it can cause a change in the national psyche that lasts for years.

What else could hurt the housing market? About 12 million borrowers are underwater [they owe more on their mortgage than their house is worth], according to Zillow. If these people walk away from their homes, that would cause a huge increase in the amount of inventory on the market. Another worry is that people might start defaulting at a higher rate, especially if we have another recession. The default rate is already high. Then those houses end up on the market as well.

An issue that’s equally important is the fact that the government now primarily underwrites mortgage finance. Fannie Mae and Freddie Mac are both in receivership and have been taken over by the government. Without them and the Federal Housing Administration, the market would be a real disaster. The problem is that there’s a national discussion about scaling them back by reducing the loan limits that FHA would allow -- and they’ve already done that a little bit. Fannie and Freddie’s conforming loan limits might also be pulled in.


For additional insight from Shiller, become a fan of Jennifer Schonberger and Kiplinger’s Personal Finance on Facebook. We’ll share with our fans a couple of bonus questions and answers about what the latest housing numbers mean for the future of the economy and whether or not farmland is in bubble territory.



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