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Why are Housing Prices Going Up When Demand is Getting Weaker?

The Mystery of Rising Housing Prices

by MIKE WHITNEY

“What we are seeing is a bottoming out of home prices. This is a good thing overall for everyone. It means we no longer have that vicious cycle between declining home prices and buyers and sellers remaining on the sidelines.”

–Gregory Daco, an economist at IHS Global Insight.

Housing prices are going up, but demand for housing is getting weaker. How can that be?

Typically, when demand is weak, prices fall, but that is not what’s happening now. According to the latest Case-Shiller report, that was released on Tuesday, average home prices in the nation’s 20 biggest cities rose 2.2% in May from the prior month, “the strongest month-over-month percentage gain in more than a decade.” According to the Los Angeles Times:

“All 20 cities in the index posted positive monthly results. The May data showed that average home prices across the country were back to spring 2003 levels. Home prices are off about 33% from their peak in the summer of 2006.”

Okay, so prices are going up, but where’s the proof that demand is weakening?

The National Association of Realtors (NAR) reported two weeks ago that sales of previously occupied homes decreased 5.4% in June to a seasonally adjusted annual rate of 4.37 million while new home sales tumbled 8.4 percent to a seasonally adjusted 350,000-unit annual rate, the lowest pace in five months. Also, applications for loans to buy homes fell last week despite record-low mortgage rates. So, demand is weaker across the board, and yet, prices are inching higher. Why?

Supply. It’s all about supply.

Existing inventory has dipped more than 20% year-over-year while distressed inventory (which is what really pushes down prices) has been has been slashed dramatically. In fact, completed foreclosures are down 24 percent from a year ago. According to Bloomberg: “Foreclosures and other sales of distressed properties made up about a quarter of the month’s sales, down from about a third a year ago.”

The banks are operating on the theory that if they reduce the number of severely discounted properties on the market then–Voila–prices will rise. And so they have. It’s the same as if you had 5 bikes for sale and 4 of them were worth $100 each, but the last one had a bent frame and was worth just $25. The best way for you to raise the average would be to ditch the $25 bike, right? That’s what the banks are doing and, what’s interesting, is they all seem to be doing it at precisely same time.

Is that just a coincidence or proof of collusion? Anyone who has been following the Libor scandal knows that collusion is simply the way the big boys do business. And why not? They are a cartel aren’t they?

So, rising prices are a sign of manipulation not growing demand. The nation’s biggest lenders find themselves in the awkward position of having to fiddle their inventory of unwanted homes to keep the public from seeing that they’re technically insolvent. It’s a tedious game that’s been going on for more than 4 years and is likely to go on for some time to come. Now if the banks followed normal procedures and foreclosed on the millions of homeowners that are currently more than 90 days delinquent on their mortgages, the flood of bank owned homes (REO) onto the market would send prices plunging causing catastrophic losses for the banks. The bankers don’t want that, so the whole process has been slowed to a crawl.

Have you seen Steve Berkowitz’s article at Forbes titled “Diverting the Foreclosure Flood”? It’s a real eye-opener. Berkowitz, (from Realtor.com) uses the piece to advise the banks on how to rig the market, at least, that’s my reading of the article. See what you think. Here are a few clips from the article:

“Our nation’s lenders and real estate leaders must work together to preserve the price stability gained over the past 18 months by controlling the flow of foreclosures back into for-sale inventory.

We know that sudden spikes in inventory shock prices and destabilize markets, while healthy markets can sustain relatively high saturation levels of inventory if introduced over time. Should large volumes of foreclosures hit these markets over a relatively short period, home values will suffer and the emerging housing recovery will regress in many key markets….

Since the onset of the Foreclosure Era in 2006, we’ve learned a great deal about foreclosures and how they can devastate home values by destabilizing markets with sudden waves of discount-priced properties. By working together, lenders and real estate leaders can maintain the stability of our local markets by keeping another wave of foreclosures from sending America’s real estate markets under water.” (“Diverting the Foreclosure Flood”, Steve Berkowitz, Forbes)

Does Berkowitz have any idea of how a free market is supposed to work or does he think the whole thing is just a big PR sham that’s set up to dupe people out of their hard-earned money?

One can only wonder. Of course, what Berkowitz thinks or doesn’t think is irrelevant. What matters is whether the banks are following his basic blueprint for price-fixing, that is, are they deliberately slowing the flow of distressed homes onto the market to keep prices artificially high?

Let’s look at the facts. There are currently 1,575,000 mortgages that are more than 90 days delinquent, and another 2,027,000 loans that are presently in the foreclosure process. That’s roughly 3.5 million distressed homes that should be headed for the market, but current existing inventory is only 2.39 million units, down 24.4% from a year earlier. Why is that? And why did foreclosures and distressed properties sales make up a mere quarter of June sales?

It’s because the banks are doing exactly what Berkowitz recommended they do; they’re dragging their feet to keep prices propped up.

Doesn’t that put a slightly different spin on the “housing prices have hit bottom” meme?

Allowing the banks to arbitrarily manipulate prices (by withholding distressed properties) is totally nuts. I mean, how many times do we have to get fleeced by these guys before someone fixes the blasted system? Congress needs to settle on a policy that “clears” the market (of backlogged units) while keeping as many people in their homes as possible. That should be the objective of any government intervention.

Naturally, some people will oppose government intervention believing that “the market can fix itself” if we just stop the manipulation and allow prices to settle where they will. But these people have no idea of how big the problem really is or how devastating their remedy would be. According to real estate guru Mark Hanson there are between “20 to 30 million homeowners in a negative or “effective” …. negative equity position.” (Hanson is including the vast number of people who are underwater on their 2nd liens, which are never included in the data on underwater homeowners.”) How will these people react if prices suddenly fell another 10, 15 or 20%? Will they stay in their homes and try to make their monthly payments or simply “walk away” from a deteriorating asset that will never regain its original value?

Millions of them will probably walk away triggering a bigger crisis than 2008. We’d be looking at Housing Armageddon 2012.

No, we shouldn’t let the market fix itself. When prices are this distorted by fraud, manipulation and collusion, the government needs to get involved, straighten things out and seek the best possible result for the greatest number of people. (most of who were victims in this swindle.)

Presently, the demand for homes is around 4.5 million per year. The real inventory (if we include “existing” inventory and “shadow” inventory) is in the neighborhood of 10.6 million according to Hanson. That sum must be whittled down to below 2 million in order to stabilize prices and restore “normalcy”. The only way to accomplish this, is for regulators to supervise the “orderly” processing of foreclosures forcing principal writedowns whenever possible. (to keep the maximum number of people in their homes). As for the people in homes that they clearly cannot afford, they must either be foreclosed on or given the option to rent the same home at the market rate (which would be considerably lower than the mortgage payment) for 4 to 5 years so they have time to find something more affordable.

Finally, many of the nation’s biggest banks will have to have be restructured due to the losses they’ll sustain on their flagging loan portfolio. This will give the USG a second chance to do what should have been done in 2008, which is, take the banks into conservatorship, nationalize them, remove the people at the top, wipe out shareholders (if the bank is insolvent), give bondholders haircuts, separate the good and bad “toxic” assets, and rebuild the institution as public utility. That’s the only way that the banks are going to return to what should be their primary function, extending credit to businesses and consumers so the economy can grow at a more vigorous pace.

Of course, there’s not a chance in hell that Congress will do anything that would ruffle the feathers of their deep pocket constituents. Still, it’s worth knowing that there are solutions if we can just get the politics right.

MIKE WHITNEY lives in Washington state. He is a contributor to Hopeless: Barack Obama and the Politics of Illusion. He can be reached at fergiewhitney@msn.com