Economic Illiteracy and Stopping Foreclosures
Express, a publication of The Washington Post, notes that as a result of a stoppage in mortgage foreclosures: “Prices might stabilize because so many homes are penned up.”
The underlying logic is that:
(1)If there are fewer foreclosures today, then the supply of houses on the market will be reduced.
(2)If supply is reduced, prices will go up (or “stabilize,” i.e., not go down).
Their logic is sound, but they must follow through with the analysis. Yes, the foreclosures are delayed. But we know that they are coming eventually. Therefore in, say a year, we expect prices will decrease once the foreclosure process is re-initiated because those houses then show up on the market.
They [Express] imply that expected future prices are lower than today’s current prices. This won’t do however.
If sellers expect that prices will fall in the future, they will want to sell at today’s relatively higher prices. As a result more people start selling now which increases today’s supply and this brings down today’s prices. This will continue until future prices are equated with today’s prices. Why? Because if expected future prices are low relative to today’s prices more people would like to sell to capture the relatively higher selling prices of today.
A similar effect occurs on the demand side of the market: some potential home buyers expecting prices to fall in a year will wait to buy, until houses become relatively cheaper. Fewer home buyers today mean less demand today, and this entails lower prices today.
The main idea here is that expectations of future prices held by sellers and buyers affects today’s prices, such that future prices and today’s prices move to equality. In this case it means prices go down. The unfortunate take away from this is that the healing period is far from over.