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The Housing Bubble: What It Is And Why It Happens
Housing bubble is a term that we’ve all heard in the news. It sounds scary—after all, bubbles are fragile, and they burst quickly. But what exactly is a housing bubble? A housing bubble is usually defined by rapid increases in housing prices that are fueled by demand, speculation, and the belief that recent history is an absolute forecast of the future. Housing bubbles usually begin with a rise in demand in an area of limited supply, which takes a generally long period of time to replenish and increase. Demand is further driven when speculators enter the market, believing that profits can be made through short-term buying and selling. The housing bubble forms, and grows larger and more volatile, until at some point, demand drops or stagnates at the same time that the supply increases, causing a sudden, steep drop in prices. The bubble bursts. Housing bubbles can occur in real estate markets locally or globally. In their later stages, they are easily identified by rapid increases in the valuations of property until a level that is unstable and no longer sustainable is reached relative to incomes and other economic indicators of affordability. This is usually followed by drops in home prices that end with many owners finding themselves in the unfortunate position of negative equity, which is a mortgage debt higher than the value of the property. Underlying causes of the housing bubble are complex. Some factors include tax policy (exemption of housing from capital gains), speculative fever, tax lending standards, historically low interest rates, and failure of regulators to intervene. In the wake of the Dot-com bubble, the Federal Reserve lowered interest rates to record minimums, generating easy credit for banks to make loans. By 2006, rates had shot up to 5.25%, lowering the demand and increasing monthly payments for adjustable rate mortgages. Unable to afford the monthly payments, many homeowners went into foreclosure, dropping housing prices further. -By Katarina Combs |
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