Is Housing Becoming Disconnected from Income?

Arnold Kling (one of my favorite econ bloggers) points to this analysis of high housing price to income ratios in a number of US metros and writes that:

California has five of the top six. Outside of California, New York City, and Miami, most housing markets may not be far from equilibrium. Remember that my ceiling for a price/income ratio is six, while others peg it at four. But the median price/income ratio might be higher than the ceiling, because median income includes a lot of renters. Overall, it looks as if prices may have to fall almost 50 percent in the top 7 markets, but in many other markets they don't have to fall at all.

Here's the top ten metros on Housing Tracker's housing price to income ratio: The whole list is worth a look.

1.  Los Angeles, Ca.  10.5
2.  San Francisco, Ca. 9.8
3.  New York City, NY.  9.4
4.  Orange County, Ca. 9.2
5.  San Jose, Ca. 9.2
6.  San Diego, Ca. 8.8
7.  Miami, Fl. 8.5
8.  Riverside, Ca. 6.7
9.  Boston, Ma. 5.4
10.  Sarasota, Fl. 5.4

I agree with Arnold's point about most markets being in "equilibrium."  But there are a couple of other things that are worth thinking about. My research with Charlotta Mellander shows how housing prices are becoming disconnected from regional productivity and wages.  Overall, the connection with income is stronger, but we also that measures of amenity and openness have a strong association with housing prices.  My hunch is that real estate prices in many of these markets are being driven by accumulated wealth rather than income per se. 

The list above has several different kinds of real estate markets. For example, in San Jose, wages make up about 90 percent of income, while in Sarasota, it's about 25 percent. Sarasota and Miami are classic speculative markets and which have been and will continue to experience significant declines. Several other of these markets are being shaped by the globalization of real estate - LA, NY and San Francisco stand out here, which is helping drive prices substantially out of line with local incomes. 

But the bigger point is that real estate markets in what Joe Gyourko calls superstar cities may be driven by something other than income - accumulated wealth from stock, royalties, previous real estate earnings and what not. In these markets, real estate prices are  increasingly disconnected from conventional measure of income and even more substantially disconnected from wages and productivity. If this is the case, could price to (local) income ratios be a  more or less permanent feature of some these markets? And if this is true, will we see more of a split or segmented real estate market?  Clearly, in many of these regions the American dream of homeownership will becoming less and less achievable for huge segments of the population. That's why, people I meet from California tell me how concerned they are that their kids will never be able to buy homes where they grew up.

Comments

[Frank]

I think this trend has a lot to do with the Baby Boomers aging and wanting to spend the wealth they've accumulated over the years. All of the young people I know who've purchased houses have done so using money they've either inherited or were gifted, and many of the Boomers I know are actively looking for real estate to put their wealth into.

Long-term, I don't know how this will effect prices. Is there a new crop pf "Old Money" in the making?

[Tracey]

And Montreal! A very cool city, low housing prices, incomes that are not that great, but a superb creative class! Lots of bricolage, great dressers, fun place, joi de vivre, superb place to eat at affordable prices and people walk in and love their city. They also have an excellent Metro that is full of public art and was designed with people in mind. Have you heard of ecoquartier? The festivals fantastic, I would love to hear you do both a qualitative and quantitative analysis of Montreal!

[Wil]

San Francisco/San Jose, and other superstare locations also offer superb opprotunities, so that those who wish to live there are really able to earn enough to do so. The real "American Dream" locations are places like suburban Kansas City, Omaha, or Cincinnati . Places like this likely have the world's highest quality of life relative to local incomes.

[Michael Wells]

I think long term housing price appreciation has a lot to do with it. The large baby boom demographic includes millions who bought houses in the 70's for low five figures. Their parents, the Depression/WW II generation, bought houses for four figures. Those houses are now priced in the six & seven figures. Those sales give them money to buy another expensive house or invest or travel or whatever.

But the disconnect between housing and income is real, even in cities where the housing price to income is OK. For example, I bought a Portland house in 1972 for $30,000 that I'd guess would sell now for around $1.5 million (I don’t live there now, but know the neighborhood). The median income in 1972 was about $9,000, today it's about $48,000. So the house was 3.3X income in 1972 and 31X income today. For young people who depend on income to buy a house, this has created a wider spread between the affluent part of the creative class and the working class.

As Richard says, this is segmenting the market. Even if they can afford a house, and the Housing Tracker ratio in Portland is 4.7 so most middle income people can, the neighborhoods are becoming more income segregated. In the long run, this isn’t good for even an “affordable” city.