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Tuesday, July 19, 2005

If There Was a Housing Bubble In Wichita, Would Anybody Notice?

It's often said that while there may be a housing bubble in some areas, especially big cities on the coasts, there isn't a nationwide bubble. But what if there's a nationwide bubble in land prices, a bubble that's being masked because land just isn't a very big of house prices in many places?

One of many recent statements of the idea that the house price boom is confined to a few areas comes from Greenspan-in-waiting Ben Bernanke, who recently argued,
While speculative behavior appears to be surfacing in some local markets, strong economic fundamentals are contributing importantly to the housing boom.
Econbrowser James Hamilton chimes in:
I would argue that the huge differences across communities in the rate of housing appreciation are much more of an embarrassment for Bernanke's critics than they are for him. Those challenging Bernanke's interpretation are forced to suggest that there are hundreds of separate little bubblets, expanding in different communities at curiously different rates.
One simple point that hasn't received enough attention is that standard statistics on house prices actually measure a combined package that includes both land and the structures built on them. And we'd only expect a bubble in land prices, not in the price of structures.

The price of structures will be constrained by the cost of construction. The price of houses themselves (absent the land) can never rise much over the cost of building a new one. On the other hand, it's pretty hard to make more land, so as long as the demand is there, the price can go sky-high. In the language of econ 101, the supply of structures is quite elastic, while the supply of land is very inelastic.

It may seem a little odd to think of land and houses being sold separately. But if we imagine a city with abundant land, it's pretty easy to see that we can't have much of a boom in house prices. If house prices start to rise, people will just build new homes instead of buying existing ones, and prices will fall back down.

In high-priced areas, land is a bigger portion of house prices, probably a much bigger portion. In Wichita, land may be only 10% of the price of a house (of the house-land package, that is), while in New York City, 90% of the value of a house or apartment may be in the land. If land prices doubled nationwide, people in Wichita would hardly notice: the price of a house would only go up by 10%. But in New York, house prices would go up 90%.

At a casual glance, this is exactly what's been happening, with booming prices in places that already were high-priced to begin with. We can test this a little more rigorously by estimating a regression. The regression tests whether there is a relationship between rents in the initial year and later house price growth. The idea is that cities with high rents are cities where land prices will be a high fraction of the house price package.

Specifically, I regressed the percent change in house prices from the first quarter of 2000 to the first quarter of 2005 (measured by Freddie Mac) on the natural log of median rent in 2000 (from Census 2000), for the 163 metro areas tracked by Freddie Mac. The graph below plots the data. The regression equation is

(House Price Growth) = -5.74 + 0.97 ln(Median Rent), N=163 Metro Areas

(-8.43) (9.18)
The t-statistics in parenthesis indicate that the effect of initial rent on later house price growth is highly significant. The t-stat of 9.18 is way above the cutoff of 2 that's usually taken to indicate statistical significance. The correlation between the two variables is 0.59, fairly high. So the regression shows that the boom in house prices has been much stronger in areas where rents were high initially. I also tried this regression with initial house prices (also from the census) instead of rents, and got similar but slightly weaker, results (t=7.6).

Now the regression doesn't prove that there's a bubble, that the house price boom has been driven by speculation rather than favorable fundamentals like low interest rates. But it does provide an answer to Hamilton's "embarrassment ... of hundreds of separate little bubblets." It suggests that something is happening nationally, not just in certain cities.

Is there a nationwide bubble in land prices, that's being masked by the fact that we only measure the combined price of land and structures? I'm not sure, but it is consistent with the data.

[hat tip to Bostic, Longhofer, Painter, and Redfearn, whose recent paper emphasizing the importance of land prices inspired this post]


Thursday, July 14, 2005

Why Lee Got Spanked at Antietam

A debate over a statue of Confederate General Robert E. Lee at the Civil War battlefield of Antietam has turned into a debate in the Washington Post's letters to the editor over Lee's role in the battle. I'll leave aside the question of why we need yet another statue commemorating someone who rebelled against his own country in order to protect white Southerners' right to own slaves.

Antietam was the bloodiest single day in the Civil War with about 6000 killed, split fairly evenly on both sides; more casualties than at D-Day in WWII. At the time, it was seen as a great Union victory. After all, Lee had invaded the North, accomplished little, and been forced to retreat back to Virginia. It was the victory Lincoln had been waiting for in order to announce the Emancipation Proclamation. And in Europe it pretty much ended all talk of Britain intervening on the Confederate side. According to historian James McPherson, Antietam was the crucial turning point in the war.

Perhaps aware of this history, one Lee critic writes to the Post's editors,
The monument commemorates a battle that Lee lost -- a battle that many of his officers (those who survived) thought never should have been fought. The Battle of Antietam forced the Confederate general to retreat to Virginia.
Another Post reader responds:
Lee was outnumbered roughly 2 to 1, yet through his usual generalship he managed to fight to a tactical draw. Yes, he withdrew to Virginia, a retreat that is still taught at West Point today.
The problem with this argument is that it was no accident that Lee's army was outnumbered at Antietam. Lee's troops had melted away on the march north. As Lee reported just before setting out, "The army is not properly [equipped?] for an invasion of an enemy's territory. It lacks much of the material of war, is feeble in transportation, the animals being much reduced, and the men are poorly provided with clothes, and in thousands of instances are destitute of shoes."

Yet Lee invaded anyway, hoping that his army's deficiencies would be made good by an uprising of Marylanders in support of the Confederacy. But that never happened.

Lee lost perhaps 10,000 of his 55,000 man army on the road north, according to McPherson. Lee himself put the figure higher, reporting a few days before the Antietam battle, "One great embarrassment is the reduction of our ranks by straggling, which it seems impossible to prevent with our present regimental officers. Our ranks are very much diminished-I fear from a third to one-half of the original number." Although many of those stragglers may have eventually turned up, the fact is a large proportion of Lee's army didn't make it to Antietam, either because they were too weak and underequipped to make the journey, or because they deserted.

Lee thought desertion was common, reporting after the battle that "Some of the stragglers have been gathered in, but many have wandered to a distance, feigning sickness, wounds, &c., deceiving the guards and evading the scouts. many of them will not stop until they reach their distant homes." One of his generals thought that Confederate troops were throwing away their shoes in order to have an excuse not to march on.

So Lee lost the battle long before any of his men ever saw Antietam Creek. He lost it when he sent his underfed, underclothed, demoralized men off on their march northwards.

Wednesday, July 13, 2005

Economists Say the WTO Hurts the Chinese Poor?

Titled "Rural Poor Aren't Sharing In Spoils of China's Changes -- Costs of Goods Rise, Standard of Living Falls" Peter Goodman's article in today's Washington Post claims that conditions are dire in rural China.
A recent study conducted by the World Bank found that incomes among rural Chinese -- about three-fourths of the total population -- have declined slightly in the years since China entered the WTO, while urban residents have enjoyed modest gains.

Economists say this trend underscores the downside of globalization: While free trade has proved highly efficient in generating wealth, it has failed to share the spoils, intensifying gaps between rich and poor, urban and rural.
No doubt "economists" do say that globalization can increase inequality, in the sense that the rich may gain faster than the poor gain. But I would be pretty surprised to find any economist claiming that the poor have actually seen declining incomes in China. If it were true, this would be a huge turnaround from the 1990s, which saw tremendous reductions in poverty, according to numerous studies, including another World Bank report:
Between 1990 and 2000, the number of people living on a dollar per day fell by 170 million —during a period when total population rose by over 125 million. Over the past two decades, China accounted for 75 percent of poverty reduction in the developing world.
According to Goodman, this new World Bank study of the WTO also contradicts China's goverment statistical agency, which reports continuing declines in poverty since China entered the WHO.

Of course, Goodman is wrong. He's entirely misunderstanding the World Bank's recent report on the impact of the WTO on China.

He seems to be talking about chapter 15 of the report, "Welfare Impacts of China's Accession to the WTO." The key word here is impacts. The World Bank is predicting the effect of the WTO on the distribution of income in China, based on an elaborate model. They're not describing trends; they're predicting that, in the short run, the dramatic gains experienced by China's rural poor will slow down a little. In the first few years, rural poverty will continue to decline, but not by quite as fast as it would have without the WTO.

Specifically, the World Bank predicts that China's poorest city-dwellers will enjoy an increase of 1.5% in income due to the WTO, but the poorest of the rural poor will lose 6%. Until recently, China's had high tarriffs on agricultural imports. As part of joining the WTO, China is reducing these tarriffs. In the short run, this will result in cheaper food for urbanites, but lower farm incomes. The World Bank authors are careful to note that they do not consider the long run. That is, they do not consider that in the long run, cutting farm incomes will spur migration to the cities, where incomes are much higher.

Now a 6% reduction in income is pretty serious for someone living on a dollar a day, but it's important to put that in context. According to the official Chinese statistics I cited above, rural incomes grew 6.8% faster than inflation last year, while urban incomes grew 7.7%. Perhaps the slower growth in rural incomes is due to the WTO. But China's spectacular growth means that the temporary 6% reduction predicted by the World Bank was wiped out in a single year.

Wednesday, July 06, 2005

Bush Winning on Social Security?

Karl Rove thinks so, according to a story in today's Washington Post.
"We've been probably to some degree too successful" in selling private -- or personal -- accounts, White House Deputy Chief of Staff Karl Rove said yesterday.

There was a recent poll he had seen that found that about 40 percent of those who disapprove of Bush's performance on this issue actually want private accounts, explained Rove....

"I think their attitude," he said, "is: 'I disapprove of the president's performance on Social Security because he hasn't gotten it done.

Rove's optimism seemed pretty overheated, so I thought I'd look at a few polls. I guess you shouldn't be to quick to dismiss Rove's analysis, since he does seem to have something of a point.

According to a recent Pew Foundation poll, for example, it turns out that although only 29% of the public approve of Bush's handling of Social Security, 47% favor "a proposal that would allow younger workers to invest a portion of their Social Security taxes in private retirement accounts, which might include stocks or mutual funds." So polls rating his handling of Social Security do seem to make Bush's support on the issue look weaker than it really is.

On the other hand, support for private accounts falls dramatically -- from 48% to 27% -- if it is described as "reducing the rate of growth in guaranteed Social Security benefits for future retirees," according to a Washington Post poll. Since the Bush guys have been talking about exactly that (a "clawback" that would reduce traditional Social Security benefits for those who chose to put their contributions into private accounts) it seems like Bush and Rove are going to have a hard time selling their plan. Unless they mislead the public, of course.

Perhaps that's why there's no mention of the clawback on the White House Social Security page. And perhaps that why polls asking which party people "trust more to protect the Social Security system and retirement benefits" show the Democrats coming out on top by 46% to 36%.

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