There has a been a great deal of speculation over the past half decade about the causes of America's housing market crisis but a paper written by Steven Sexton, JunJie Wu and David Zilberman from the UC Center for Energy and Environmental Economics provides us with an interesting hypothesis.
Within the two year period between 2008 and 2010, over 4 million American families had lost their homes to foreclosure and an additional 4 million families were "mortgage payment challenged". As shown on this graph, households saw the value of equity in real estate plunge from $13.4 trillion in the first quarter of 2006 to $6.09 trillion in the first quarter of 2009, a drop of 54.6 percent:
This brought the level of total household equity in real estate to levels not seen since 1999. As a result of the bursting bubble, one in four American households owed more on their mortgage than the market value of their homes.
While we have a pretty good idea that low interest rates, new mortgage products and easy credit that provided mortgages for the less creditworthy among us fuelled the bubble, it is less certain what actually triggered the housing market collapse.
Let's start by looking at national gasoline prices for the United States. For much of the period between 1990 and the early 2000s when the housing boom was taking shape, world oil prices remained relatively flat at around $30 per barrel in constant 2011 dollars and U.S. retail gasoline prices were below $2.00 per gallon in real terms. The long period of low nominal gasoline prices over the period between 1990 and the beginning of 2004 can easily be seen on this graph from FRED:
Over the 15 year period, national gasoline prices averaged $1.19 per gallon, despite the price jump in 1999 from around $1.00 per gallon to $1.60 per gallon.
The situation began to change right at the beginning of 2005, the last time that the United States saw gasoline sell for less than $1.50 per gallon. As shown on this chart, between the beginning of 2004 and September 2008, gasoline prices began a steady climb, peaking at $4.11 per gallon in July 2008:
During this nearly five year period, gasoline prices averaged $2.56 per gallon.
Now, let's get back to housing. The authors note that post-World War II housing growth in the United States was related to a decline in city centre population and an increase in the population of the suburbs. This was largely a result of the advent of the automobile that makes it easier for those living in the suburbs to commute. The result of the move toward both suburban and exurban areas resulted in this:
Between 1971 and 2007, total vehicle miles travelled rose from 1.13 million miles to 3.04 million miles, an increase of 169 percent. All of those miles travelled require household expenditures on gasoline.
While some suburbanites prefer to commute by public transit, a 2004 study showed that time savings for car commuters were substantial; in the year 2000, a median car commute took 24.1 minutes compared to a median transit commute of 47.7 minutes. Urban sprawl is very closely correlated with car ownership rates. If cars are being used for commuting, obviously, households are spending money on gasoline. Here is a graph showing U.S. household expenditures on gasoline in nominal dollars and as a percentage of mean household income:
Notice the rapid rise in household expenditures on gasoline between 2004 and 2008? That is the key to the author's thesis. Household expenditures on gasoline rose from $1600 in 2004 to $2700 in 2008, a 69 percent increase. While the extra $1100 spent on gasoline by an average household is not terribly punitive, it is the impact of higher fuel costs on the marginal households that are most severe. According to the authors, in some cases, workers in California saw their annual commute costs rise to nearly $10,000 annually, a very substantial portion of total household annual expenditures. The lowest income quartile households that have the longest commutes or that have older model, less fuel-efficient vehicles suffered the most from rising gasoline prices. The authors note that, in general, the median household income of households located within 120 kilometres of a high employment density city declines one-tenth of one percent per kilometre of distance from the city centre. This means that, in general, lower income households have the longest commutes and are most susceptible to gasoline price changes. It is these very households that availed themselves of the banking system's no downpayment, interest only mortgages, making them the most vulnerable.
The authors analysis uses California's experience during the housing market implosion to illustrate their analysis. California has 25 percent of the housing value in the United States. In 2010, the state accounted for nearly 20 percent of the nation's foreclosure filings and by 2009, one in three mortgagees in California was underwater. Seven of the nation's top twenty highest foreclosure rate markets were located in California, all in outlying areas including Modesto, Riverside-San Bernardino and Stockton. California cities that saw the highest percentage declines in median price were located farther from major cities and three things in common; longer commutes, higher vehicle miles travelled and higher gasoline expenditures. The fifteen cities that fared the best during the price "readjustment" were much closer to major cities and had incomes that averaged 125 percent higher than their less well-off peers and had gasoline expenditures that were lower as a percentage of household income.
What is interesting to note is the rise in household expenditures on gasoline since 2010 as you can see on the graph above. In 2009, households spent $2000 on gasoline; by 2012, this had risen to a new peak of $2900, an increase of 45 percent in four years. This has happened at the same time as house prices in many cities in California have risen to levels that are not substantially below the levels seen during the peak of the real estate bubble and at the same time as gasoline prices hover around the $3.50 per gallon level. Another factor that has to be considered is the fact that real wage growth in the United States has been very low over the past decade: this means that gasoline price increases are not being met with increases in household income.
In general, economists agree that there is a direct link between energy prices and economy growth and that high energy prices are transmitted through an economy, impacting unemployment and GDP. This study shows that the rise in gasoline prices between 2004 and 2008, in particular, may well have had a direct link to the collapsing of the real estate market.
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