Can home buying psychology change in the United States? European versus United States home prices and their respective bubbles.

The current economic crisis, with real estate at center stage has brought about new financial questions especially when it comes to purchasing a home.  In the past, a home purchase was a rather safe investment.  Clearly this housing crisis has thrown that assumption out the window.  Buying a home is the biggest purchase most will ever make and will also carry a deep emotional impact.  This is a place where your family will grow and set their roots.  But at the same time, would you put your family into a smoke filled gambling casino?  Probably not but that is what occurred during this housing bubble where many put their financial well being in the hands of massive speculation (some knowingly and others out of financial naiveté).  In a generational crisis like the one we are experiencing, paradigms shift and new perspectives emerge.  Many in the mainstream viewed those in the real estate industry with trust and put their success with their lot.  Clearly as it turns out, the psychology of those in the industry was to maximize every penny regardless of the long-term stability to the market.

It is going to be incredibly hard to shift this mindset sine real estate was not contained in a silo.  The housing wealth effect also led to much higher consumption which bolstered the economy:

You can see the near perfect pattern of home price increases versus retail spending.  When people feel wealthy they tend to spend more.  This “feeling” over the past decade was largely built on a bubble and not any deeper fundamentals like wage increases or sustainable economic growth.  As the bubble pulls back, we are now confronted with a new way of viewing real estate and what it means for our lives going forward.

Why down payments are important

Part of the problems in real estate would have been avoided with sizeable down payments.  Nothing out of the ordinary historically, but at least a 20 percent down payment.  Recall that purchasing a home at least prior to this bubble, was a rite of passage that many had to save for a few years before jumping into a big purchase.  This served a handful of purposes.  First, it showed the banks that the buyer was serious enough to forego spending on other items to purchase a home.  Next, it provided a bank a large enough buffer that if a person was unable to pay their mortgage, there would be room to negotiate and sell the property at market value and clear a profit or in the worst case scenario, break even.

This is a political debate we should be having but psychologically speaking it is understandable why most aren’t pushing for it.  Banks don’t want to push this because it would push many future home buyers into a delayed position.  Many buyers won’t advocate for this measure because they are accustomed to buying high priced items with very little down.  I’m surprised how many zero down car deals this current market has even after the crisis we just lived through.

It is amazing how quickly the down payment requirement was eroded over the past decade.  But this mentality permeated beyond the real estate market.  It also wasn’t just a U.S. experience.  Europe had a very similar looking bubble in real estate:

No one nation has a monopoly on the power of financial manias.

And the above clearly shows that the fascination with real estate was not confined to the United States.  Bubbles grow and burst in similar fashions.  The housing market has a long and arduous road ahead.  People across the world will grow reluctant to buying homes if they do not see home prices appreciate in the next few years.  This is clear.  Keep in mind people are motivated by large incentives and those days when people bought homes for the long haul are still not a cultural norm.  Many are still expecting large appreciation gains like those we saw in the bubble days.  Doubtful we will see those so it will be interesting to see how people respond to the next phase of the housing market where it has to stand on its own two feet.

Home buying won’t be the same for a new generation of Americans.  How this impacts the economy going forward is yet to be seen.

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