Housing Market Still Isn't Rational

[Jon Q.]

I thought you might enjoy this article written by Robert Shiller, Sterling Professor of Economics, Yale University:

http://insights.som.yale.edu/insights/housing-mark...

Agree/Disagree? Comments? Thoughts?

[Tom V.]

With great respect for the work of Robert Shiller, this statement: 

""In San Francisco we found that while the median expectation for annual home price increases over the next 10 years was only 5%, a quarter of the respondents said they thought prices would increase each year by 10% or more. That would mean a net 150% increase in a decade. These people are apparently not thinking about the supply response that so big a price increase would generate. People like this could bid prices in some places so high that eventually the local market will collapse."

demonstrates a fundamental misunderstanding of the function of local real estate markets, and willful ignorance of the old maxim, "Location, Location, Location." 

In physical terms, San Francisco is virtually entirely 'built out.'  Constructing new homes means tearing down old structures and building new ones.  Simple right?  You just tear down an old industrial building and build some condos, right?  

Wrong.  The San Francisco planning code, in the aftermath of the first Internet bubble enshrined for posterity industrial uses for most existing uses in San Francisco.  You can't tear down a PDR (Production Distribution Repair, fancy name for 'Industrial'.) building or EVEN CONVERT THE USE TO OFFICE OR RESIDENTIAL in most parts of the city.  

So you just build up, on  existing residential parcels, right?  No so fast.  Getting a demolition permit will take you about 3 years, even in the best case scenario.   Also, you probably won't get one.  "But my house is only 20' tall and the lot is zoned for 40' height limit!"  Tough cookies.  Your pretty little old house contributes to the architectural environment.  You can't tear it down.  

The people at the top of the food chain (picture little old ladies who paid 15K for houses now worth $1.5mm) don't want their neighborhoods to change.  They don't want more or more dense housing.  They are against new housing.  

People at the bottom (fixed income people living in rent controlled buildings) see new development as increasing the likelihood they are displaced from their neighborhoods.  They are against new housing. 

There is no natural political advocacy group for middle and upper middle class people who would like to buy or rent new housing. 

Thus, the only projects that could make a meaningful impact on supply are the massive condo and rental towers being constructed.  At the same time we are adding office space so that there will at least be one new job for every new housing unit constructed.  Most new condos aim for at least $900 to $1000 + ppsf, so even when those are sold, they do little to lower the average selling price or make available more affordable housing.   

Does this mean that prices in San Francisco can never go down?  Of course not.  We are pretty overheated and if the tech market slows down, there will be a drop in speculative energy.  But will high prices be mitigated by a rapid increase in supply.  Nope.  It's almost impossible to see enough housing being built to materially impact the market clearing price.  We would have seen it in SF already....