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| The Myth of Eroding Affordability |
| Written by Bill Russell | |
| 06.17.2008 | |
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Discuss this article on the forums. (0 posts) Declining home affordability is often cited as a problem in the US. But is it really a problem? To look at this question, I will use the affordability index produced by Moody’s economy.com, which can be thought of roughly as the ratio of median home prices to annual income. The most expensive markets have affordability indices above 300, meaning that median home prices are roughly 3 times income. The least expensive markets have indices less than 100, meaning that home prices are on par with annual incomes. As the affordability index declines (increases), the market becomes more (less) affordable. The graph below shows the evolution of affordability for the US, split into three equal sized groups; those markets with below average affordability, average affordability, and above average affordability. The May 2008 level of affordability for the 361 biggest markets in the US (Census MSAs) determined these groups and their compositions do not change over the sample. As you can see, only the least affordable third of markets, which started much more expensive than the other two groups, have become less affordable. The average third of markets have remained fairly steady in terms of affordability, and the most affordable third of markets has gotten even more affordable. As with most things pertaining to housing, eroding affordability is a myth. It is only a minority of markets that are experiencing declining affordability. For 2/3rds of markets looked at in this example, home affordability is either remaining constant or improving. As for the 1/3 of markets that are becoming less affordable, something different is clearly occurring. Why would a minority of markets become more expensive? It cannot be the cost of construction, because labor and other construction inputs are mobile, and can easily move from less expensive areas to more expensive areas. Some have argued that the least affordable markets are running out of land, but that is also hard to believe in a country that is still more than 95% rural according the US census. Most likely, the problem is artificial, caused by those markets that engage in aggressive “smart” zoning and planning. 
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No. 1 : A new definition needed Affordability for the average home buyer today is far less than it was a year ago at this time. Why? Underwriting standards have changed significantly. A person today has less buying today simply because they can afford a smaller mortgage. Affordability has a new criteria today, and it's called credit. Yes, the math presented here makes sense but the parameters of the game have changed. Hence the sharp drop in number of sales. |
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