And that brings us to the statement that “house prices track income - interest rates do not matter,” made by a notoriously snarky SI member. Here is a chart of that relationship where both income and house prices have been deflated by the cost of living.
What the data shows is that house price has been diverging from income at a regular clip, at least since 1952. What is ironic about the “tracking statement” is that either relationship, i.e. tracking or diverging, implies that housing is supply constrained relative to demand. Now, if every increase in incremental income results in a shift in demand, one implication is that demand is up against a budget constraint. Under this premise, anything that effectively increases the budget constraint will result in a shift in demand, and consequently, house prices tracking income implies interest rates do matter. Consequently the author refutes his own assertion while making it. But we can say something more about interest rates and house prices. For clarity, let’s imagine the simplest case - a scenario where the market was in long run static equilibrium so that house prices and income have been flat for sometime and now, by some exogenous cause, real rates drop. Given that housing is an asset, i.e. yields services in the future, one should expect that the price one is willing to pay would rise – just as in a bond, or any other asset.
One thing that appears evident in the chart is that, since 1976, the divergence between housing and income increased. Is that due to asset inflation, or a boomer demand bubble, or perhaps a generational change in real rates of interest, or lastly a combination of factors? Well have more to say about that. |
