The Second Bubble Bursts

The U.S. housing market has fallen less than half the distance it needed to fall to bring U.S. housing prices back to sane levels.
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By Jeff Nielson of Bullion Bulls Canada

While the next down-leg in the U.S. housing market actually began when the market turned lower earlier in the spring, when it comes to an asset bubble bursting, such crises are usually characterized by some news or event to shock the market -- followed by a mass epiphany, as both market-sheep and experts belatedly remove their blinders.

In the case of the U.S. housing market, we have this week's disastrous news on

U.S. new home sales (the lowest reading in the near-fifty years of recording such data), followed by the sudden realization by the deluded majority that the U.S. housing bottom was in fact a just a trap-door. The reason why this next, more serious collapse is a surprise to so many is because when it comes to the U.S. housing market, there are two entirely different worlds.

In one world, the U.S. housing market had already absorbed its pain. All that remained was to restore confidence to U.S. homebuyers (and maybe create a few jobs), and the U.S. housing market would once again start chugging higher. In the meantime, the plucky Obama government was doing its utmost to save U.S. homeowners, along with the assistance of the banker oligarchs -- and everyone was in agreement never to repeat the mistakes of the past.

Then there is the real world.

In the real world, the U.S. housing market has fallen less than half the distance it needed to fall to bring U.S. housing prices back to sane levels. While defining "sanity" is an ever more difficult task in this age of disinformation, let's start by going back to the mid-1990s. It was in the second half of that decade U.S. housing prices began a much steeper incline than previous years, and (depending on whose numbers you look at) U.S. home prices roughly tripled over that span.

Since that point in time, the wages of the vast majority of U.S. workers have been steady declining (in fact this decline goes back more than 30 years). The question becomes: how do people making less money support any increase in U.S. home prices (over the long term)? The answer is that such prices can only be propped-up (temporarily) by depleting the savings of those with savings, increasing the debt of those with no savings, and generally lowering lending standards. The longer that such short-sighted recklessness is allowed to continue, the nastier the meltdown when sanity returns to the market.

In the case of the U.S. market, not only are none of the price-gains since the mid-90's sustainable, but since incomes are substantially lower than that point in time, savings are gone, and debt-levels are much higher, it is extremely doubtful that U.S. home prices can even be maintained at that level -- especially with long-term unemployment at its highest rate since the Great Depression. Instead U.S. homeowners, and the small number of potential buyers out there should look back much further in time for an idea of how low U.S. home prices can go. The following chart (from a

wonderful site ) is sobering.

The moon-shot in the U.S. housing market over the decade from 1996 - 2006 was nothing but the hype of the U.S. media, the easy-money force-fed into the U.S. economy by the Federal Reserve, and the endless Ponzi-schemes which Wall Street used to pump-up the market even further, through securitizing mortgages and inflating their derivatives-bubble to a notional value exceeding $1 quadrillion.

A more realistic, long-term price level is found by looking back to the early 1970's. It was at that point in time that high inflation caused prices to begin a much steeper, long-term trajectory -- while wages for all but the highest wage-earners began a permanent erosion, as they failed to come close to matching inflation, year after year.

More specifically, it was at this time that the gold-standard died at the hands of Richard Nixon, a casualty of the massive deficit-spending which he and all the other warmongers sought, in order to win the Vietnam war. With no gold standard, U.S. bankers were free to drown the world in their fiat-currency. Indeed, all inflation is a function of increasing the money supply, price-inflation is merely the consequence of all that money-printing -- as diluted currencies obviously and rightfully lose their value.

As Alan Greenspan pointed out in

a famous essay in 1966 , inflation is the primary means for wealthy bankers to confiscate all the wealth of the average citizen, and the permanent era of high inflation brought about by the death of the gold standard has resulted in the greatest collapse in the standard of living of the average, Western citizen in centuries.

This collapse in real wealth has been largely concealed through three parallel phenomena. First, there was the mass-entry of women into the workforce -- creating more two-income households than at any time in history: two incomes in order to be slightly better off than a one-income family of a generation earlier. Second, Westerners in general, and North Americans in particular have allowed their savings to dissipate. Meanwhile debt-levels are now at their highest in history.

The graph below points out two stark realities. First, it points out that in real-dollar terms, average U.S. wages have fallen all the way back to levels during The Great Depression. Secondly, it points out another "dividend" for the U.S. government in lying about inflation. Using the phony numbers of the CPI, workers would be deluded into believing that they have only suffered a tiny dip in their earning power -- not a complete erosion of all gains in their standard of living, going back nearly 80 years.

Should U.S. homes fall back to 1970 prices (while U.S. workers earn their 1930's wages), that implies that U.S. home prices will fall more than 75% from today's prices. Such a devolution cannot be prevented by two-income households. Thanks to the refusal of our governments to deal with massive, structural unemployment, the vast majority of two-income families now have at least one of those wage-earners working part-time, or at minimum wage.

...And this isn't even the bad news. The "bad news" comes when we examine two more downward drivers for the U.S. housing market: under-funded retirements and option-ARM mortgages.

As I pointed out over a year ago, U.S. pensions are underfunded by at least $2 trillion - and likely more. With savings at their lowest level in history, this means that huge bulge of baby-boomer retirees will either have to slash their spending to keep within dramatically reduced budgets (and destroy this "consumer economy"), or, they will have to dump $trillions in real estate to fund their retirements - since real estate comprises 75% of their meager assets.

This implies an entire generation of real estate being dumped onto what is already the most over-supplied real estate market in history -- once the shadow inventories come out of the shadows. Indeed, as I recently pointed-out, even Fannie Mae has now acknowledged that simply bulldozing excess homes may be the only option - to cut into the stockpile of 20 million empty homes.

Then there is the option-ARM time-bomb, where millions of totally-underwater mortgages are about to create an explosion of new defaults, when the mortgages reset to a payment schedule likely multiples of the current monthly-payments for these mortgage-holders. Having never paid any principal on these mortgages, they are all "underwater" -- meaning these are the most likely homes yet to end up as walk-aways or foreclosures.

A lack of space prevents me from going into a number of lesser fundamentals which will also depress U.S. house prices going forward. Instead, it's time to address the issue in most readers' minds. While I have demonstrated that U.S. homes are grossly overvalued (and grossly over-supplied), and destined for decades of downward movement in prices, what evidence do I have of a second bubble?

1. 0% interest rates

2. zero-downpayment mortgages

3. lax lending standards

4. massive, hidden inventories

If allowing interest rates to plunge to 1% for a couple of years could lead to the biggest housing bubble in human history, then we can only cringe as we ponder interest rates set permanently at 0%. As I have pointed out on many previous occasions, with $60 trillion in total public-private debt, the U.S. cannot afford to make payments on that debt, should rates rise by a mere 1%.

After factoring-in the $8,000 homebuyers's credit, more than half of all homes purchased in the U.S. in 2009 had zero down-payment. This means that none of these homeowners started their mortgages with any equity, at all. With mortgages which have immediately sunk into "underwater" status, these newer homeowners have much less incentive than previous homeowners to even attempt to keep up with payments. As walk-aways surge to epidemic levels, and option-ARM mortgage-holders default by the millions, the glut of U.S. homes after this second bubble has burst will be far worse than the first U.S. collapse.

Meanwhile, the only way that the Obama regime could find enough chump-buyers to simulate a bottom in the U.S. housing market was to once again lower lending standards -- after promising never to do so again. There is a very good reason why the U.S. government was forced to nationalize the entire U.S. mortgage market - and guarantee all those trillions of dollars of mortgage-debt: because U.S. banks wouldn't touch such mortgages with the proverbial "ten-foot pole".

Lastly, there are simply far too many homes, of every shape and description (with the possible exception of low-end units -- which is all that U.S. buyers can afford). Millions of homes held off the market by U.S. banks. Millions of homes tied-up in foreclosure courts - but certain to come onto the market. "Monster homes" and "exurb" homes which will never have buyers. And even with the collapse in new home construction, U.S. home-builders continue to start more units than they sell every month.

Both I and other realistic commentators have insisted all along that there was never a real bottom in the U.S. housing market, and that the next down-leg for this bubble-plagued market would begin (at the latest) by the middle of 2010. That day is here. Now all that remains is to get out of the way -- as this house of cards collapses.

Jeff Nielson studied economics for four years at the University of British Columbia, before going on to attain a law degree from that same institution in 1989. He came to the precious metals sector around the middle of last decade as an investor, but quickly decided this was where he wanted to focus his career. After publishing his own, amateur blog for a year, in 2008 he founded Bullion Bulls Canada: a web-site providing information and analysis to precious metals investors. Today, bullionbullscanada.com reaches a global audience of precious metals investors in more than 120 countries.