Home Prices Down; Foreclosures Up

The housing slump continues . . .

The housing slump: How deep is the pain?
A grim forecast has economists wondering how far the collapse will spread to the rest of the economy

By Les Christie, CNNMoney.com staff writer
August 3 2007: 9:04 AM EDT

NEW YORK (CNNMoney.com) — The outlook for the housing market looks bleaker than ever. Foreclosures are skyrocketing. Home prices continue to fall. And forecasts for a recovery keep getting pushed back.

Meanwhile the collapse of the subprime lending market has spread to the financial markets, sparking fears that tighter credit will have a broader impact on consumers and the economy.

The U.S. government has downplayed the risk of the subprime meltdown spreading. Treasury Secretary Henry Paulson has said the effects are largely contained, and the economy is still strong. William Poole, the president of the St. Louis Federal Reserve branch is also reserved.

“Unless the pressure becomes much more severe,” he said on July 20, “the problems would not impact consumer spending or credit quality more generally.”

In the financial markets, credit, including corporate bonds, has become harder to get, but Mark Zandi, chief economist of Moody’s Economy.com, is loath to call it a “credit crunch.” He does admit to a “liquidity squeeze,” however. The difference: In a crunch, nobody can get a loan; in a squeeze, only the riskier borrowers are cut out.

According to Peter Schiff, president of Euro Pacific Capital Inc. and author of “Crash Proof: How to Profit from the Coming Economic Collapse,” the problem goes way beyond subprime.

“It’s a mortgage problem,” he said. “Subprime is like a little leak where the underlying problem is the integrity of the dam itself. Most of the mortgages taken out during the past few years will fail.”

Schiff expects huge losses in the housing market with home prices falling by half in some areas.

Most economists are nowhere near as pessimistic. Standard and Poor’s chief economist, David Wyss, and Moody’s Economy.com’s chief economist, Mark Zandi, have forecast 8 percent price drops in the housing market, peak to trough.

On Tuesday, the Case-Shiller Home Price Indices revealed a 3.4 percent fall in its market basket of 10 U.S. cities in the past 12 months; San Diego prices plunged 7 percent. Those declines will have an effect on consumer spending, which accounts for 70 percent of the gross domestic product.

“Consumer spending growth has been stronger than income growth because the strength of housing prices enabled owners to borrow,” according to Gault. “As prices decline, consumer spending will grow more slowly than income.”

Zandi does not believe a consumer spending slowdown is enough to trigger a recession, but he’s not counting it out. What it will do, he said, is “ensure that the economy grows at a pace below its potential. I wouldn’t dismiss the possibility of a recession. I put the possibility at one in five.”

Ken Goldstein, an economist for the Conference Board, doesn’t believe the subprime contagion is enough to send the economy off-track.

“The idea that average consumers are quaking over the prospects of losing their homes or much of their equity is wrong,” he said.

The mortgage market adds up to about $10 trillion, according to Goldstein, with about 10 percent to 15 percent of that in subprime. Of that, some 15 percent or so is imperiled, he said.

“It’s big, but not the tipping point that will bring the whole housing market down,” Goldstein said.

John Silvia, chief economist for Wachovia, agreed. “I don’t think the impact of subprime lending will spread anywhere near enough to trigger a recession,” he said. “It’s a small percentage of overall lending.”

Instead of a recession, “It’s a correction” he said, “and it probably has a small impact on economic growth, on the order of 0.20 to 0.60 percentage points.”

Subprime problems have not, so far, slowed consumption down much. The pace of consumer spending is still brisk, although growth slowed in June. And the Conference Board reported Tuesday that consumer confidence is at a six-year high. Steady job growth and low unemployment (between 4.4 percent and 4.6 percent since September) have kept it that way.

Consumers don’t really care much about changes in housing prices or, for that matter, in the stock market, according to Goldstein.

“If you really want to screw up consumer confidence,” he said, “go for the jugular – the labor market.”

As long as that’s strong and earnings growth substantial (4 percent annually, according to Goldstein), confidence – and spending – will remain high and the economy will chug along.

“Consumers can continue to stay resilient in the face of lower stock and home prices,” he said.

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