Monday, July 12, 2010

Economics of Real Estate

Real estate has been a popular topic of conversation in the financial circles for most of the decade. First it was the hottest asset to own, with flipper and investors buying every home they could get their hands on. Today it is about as toxic as, anything found in your local dump. I find real estate to be a valuable asset for many reasons. It provides shelter and comfort, a place to eat and sleep, and to those who are raising a family memories. Everyone remembers their early years growing up in their home, and all the fun they had in the backyard playing with friends and family. It was a shame that many just bought homes to just resell in a short time frame. Not that I can blame them, it was the easiest way to make a living. With every bank willing to give real estate investors a loan because of rapidly appreciation home prices, who wouldn’t try and get in the game.

If every asset were to only appreciate then basic financial theory would be flawed. The demand would far outweigh the supply if everyone wanted to buy these assets that only went up. Unfortunately the banks lent out money to those who did not understand basic economics. For that matter banks did not understand basic economic either. The real estate market was not at equilibrium. The demand far outweighed the supply due to the fact that the banks were the outside force contributing to the demand. The definition of equilibrium is simply a state of the world where economic forces are balanced and in the absence of external influences. If the banks did not supply that external force, than the demand for assets would not have been so great, and the prices would not have escalated to the levels they did.

The real estate market got so far away from equilibrium that is having to snap back to attain a level where supply equals demand. At the moment there is little to no demand for many of these assets. This is also due to the fact that banks that once supplied endless amounts of loans to anyone who asked for them, are not loaning out money. In both instances economic theory has proven true. The demand became out of touch with equilibrium and so did the amount of loans issued. In both cases, they are in the process of correction which will take time. The current state of the market is such that there is so much supply that prices will have to come down to meet the demand. Not only are people hesitant to buy a home, but the banks that once lent money to anyone are being rather picky to those who want to take out a mortgage.

Today, loan availability is reserved for those with a steady employment history and a good credit score. The supply of available homes will hopefully continue to be bought up by investors and buyers who are able to obtain loans. If the supply remains at the highs that it is currently we should expect to see a continued falling of prices. It will come to the point where homes are cheaper to buy from the banks than they are to build. Bank homes will be coming on to the market for the next few years. Unless there are inflation pressures, the prices will fall.

This presents a buying opportunity to any foreign buyer that has a stronger currency that the Unites States Dollar. The exchange rate for these buyers will be able to buy them more home for the money here in America. By looking at exchange rates on the internet or a forex account, those interested in buying real estate in America can calculate the cost of the property in their own currency. Let us hope that our currency remains weak enough to attract foreign buyer to help rid of us of the supply. It is imperative for the health of our country that that real estate market is in equilibrium, and not gyrate in one direction or the other.

The following article is a guest post from Forex Fraud. While written for a United States audience, it is still relevant to Singapore in certain ways. If you wish to contribute guest posts to this site, please email sgfinancialfreedom@gmail.com

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