Is it more painful to slowly remove a bandage or to rip it off? Policy makers face a similar dilemma in choosing a course of action to arrest the downward spiral of the nation's housing market. Should housing prices be slowly propped up and foreclosures stalled through government action, or should the free market be allowed to work, regardless of the immediate and collateral damage that such action would precipitate?
The result of this aberration is that many of these homes are now in foreclosure. This has depressed home prices and flooded the market with inventory. Today's question is: How can we find a path back to normalcy?
This is the first serious downturn our industry has faced since the early Reagan years, so it's useful to have some perspective. The building industry has survived tough periods before, including the Great Depression, the shortages of World War II, whipsawing starts in the 1970s and double-digit interest rates in the early 1980s. The causes of each calamity were different, as was the government's response.
As a response to the current crisis is crafted, it is important to remember the charge to new doctors to "first, do no harm." After all, the genesis of the current crisis was born shortly after the attacks of Sept. 11, 2001. Then, fearing an economic meltdown, Federal Reserve officials drastically cut interest rates and opened the money supply spigot. Unfortunately, they forgot to chaperone the party that ensued as we binged on easy money.
To extract the housing industry from its current state will require coordination between the heavy hand of government and the "invisible hand" of free markets. At present it appears the heavy hand is fully in control through the use of TARP funds, the quick passage of the stimulus bill, and the proposed steps to address foreclosures.
The government is correct to prop up troubled banks because their failure would likely cause economic collapse. The housing industry, however, would likely recover more quickly with limited government intervention. Here's why: assuming credit is available, there will always be a market for the basic necessity of housing as long as the United States' population grows and its housing stock deteriorates. The question is, at what price?
Increases in home prices have far outpaced growth in income since 2001. To find a bottom, prices will have to drop to 2001 levels plus the annual rate of inflation. In fact, due to the recession, it may require undershooting that number before buyers come out.
Government intervention in foreclosures will set a false floor under prices. Attempts to forestall foreclosures will fail in large part because many of the homeowners the plan is designed to assist never should have been homeowners. They were traditional renters coaxed into homeownership by politicians' false belief that it is every American's right. Already, 40% of those granted modifications are again in danger of default.
A better policy is to provide no foreclosure assistance and let housing find its own level as determined by the market. There are billions of dollars "on the sidelines" and waiting to be invested. No one wants to catch a falling knife, though. Only when future homeowners and investors perceive that the bottom has arrived will they buy.
Where the federal government can give useful assistance is by providing tax credits to qualified buyers and by keeping mortgage rates low. This will allow more buyers to qualify, soften up current lending constrictions, and act as a catalyst for absorbing the millions of homes on the market. Then we will begin to see a recovery in new construction and material sales.
The bottom could be a long or short way from here. It depends on each market. The more latitude the free market is given the quicker we will reach it and recover. Conversely, the more slowly we tug at the bandage, the longer the process will take and the longer the pain will endure.
Greg Gregory is president of Builders Supply Co., Lancaster, S.C.