We all remember the housing bubble that affected over half of U.S. states back in 2006. Housing prices peaked in early 2006 and started to decline later that year, into 2007. By October 2007, the U.S. Secretary of the Treasury had deemed the bursting housing bubble “the most significant risk to our economy.” And by the end of 2008, the Case-Shiller home price index was reporting the largest price drop in its history. Experts generally agree that the credit crisis that resulted from the bursting of the housing bubble was the primary cause of the 2007–2009 recession in the United States.
Many experts, then, will evaluate today’s housing market by comparing current conditions with those of 2006. Some financial services institutions, for example, noted in early June that home prices had increased to within 3.8% of their all-time highs set back in June 2006. Other home price indexes are indicating a similar trend, showing new record highs for home prices in certain metro areas.
Why are home prices so high right now? It can in part be traced to simple supply and demand. In the past five years in the San Francisco area, for example, nearly half a million jobs have been created, yet with only about 50,000 new housing units. In highly desirable places like San Francisco where there are low rates of new housing construction, higher income families outbid lower income families for scarce housing, driving up the prices on that property.
Supply and demand is not the only factor, however. Financial experts are also tracing high home prices back to regulations surrounding new construction and the volume of rent-controlled units. In addition, new construction often happens in higher income areas, as there is simply more money to be made in luxury housing.
Even still, it’s important to note that high home prices (or a return to “bubble-era prices”) are not necessarily an indicator of a looming housing crisis. After all, inflation means that it is natural for prices—not just of homes—to gradually rise over time, and it has been a decade since home prices hit their all-time high. Moreover, mortgage interest rates are at an all-time low, meaning that homeowners are paying less than ever to own their homes.
One more reliable way to assess the housing market—and to determine whether a housing crisis is looming—is to follow the ever-changing price-to-income ratio (PTI), as this will tell you if housing prices are sustainable or if they have outpaced incomes. And if PTI in a particular area looks high, it could be a function of its historical or geographical context. A 9.6 PTI in San Jose, for example, is not exorbitantly high when you consider that the outlier threshold for that particular region is 9.4. In Dallas, meanwhile, the PTI is 3.4, which is relatively much higher when you consider that the outlier threshold in that particular region in 3.2.